Friday

1st Mar 2024

Opinion

Where does the US-Chinese turmoil leave Europe?

  • In the past week or two, markets have been struggling with correction globally. (Photo: Guilhem Vellut)

About a week before last Friday, the People’s Bank of China (PBoC) adjusted the exchange-rate of the Chinese yuan against the US dollar to better reflect market conditions. The net effect was a devaluation of 1.9 percent relative to the dollar.

Critics saw the PBoC’s adjustment as still another signal that the slowdown of Chinese growth is worse than anticipated.

Read and decide

Join EUobserver today

Get the EU news that really matters

Instant access to all articles — and 20 years of archives. 14-day free trial.

... or subscribe as a group

  • Market valuations no longer reflect fundamental economic realities. (Photo: Dan Nguyen @ New York City)

However, that slowdown simply reflects the shift of China’s growth model from investment and exports to consumption and innovation. This shift will take another decade.

Others argued that China’s devaluation was the opening shot in a “currency war” that would spread internationally. In reality, jumpstarting exports and growth tends to require a devaluation of 10-20 percent to be truly meaningful. In that regard, China’s 2 percent devaluation is grossly inadequate.

Still others saw China’s exchange-rate adjustment as an effort to comply with the requirements of the International Monetary Fund (IMF) to include the yuan in the major reserve currency basket.

Indeed, the move toward a more market-determined rate is precisely what the IMF and the US Treasury, along with European financial authorities, have been asking for.

US correction was expected

For some time, Wall Street has anticipated market correction. After all, market valuations no longer reflect fundamental economic realities.

Markets have shrugged off even international signals, including the plunge of energy prices, stagnation in Europe and Japan, growth slowdown in emerging economies, the tumult in the Middle East, and sanctions against Russia.

The simple reality is that US markets have been very expensive. That is reflected by indicators, such as the so-called CAPE (cyclically-adjusted price/earnings ratio). In the US, the historical average has been 15. But before the recent turmoil, that ratio was around 26 in the US – very close to its previous peak before the global recession in 2007.

That valuation might be understandable if it was based on fundamental realities. But it is not. The reason is excessive leverage in the US.

Since 2010, the Eurozone has struggled to cope with its debt burden. That’s not the case in the US.

In the past half a decade, US economy has enjoyed extraordinarily low rates, and rounds of quantitative easing amounting to $4.5 trillion. Meanwhile, US sovereign debt has soared to $18.4 trillion; that’s more than the size of its economy.

Yet, there is no credible, bipartisan plan in the US to resolve the massive debt burden. In effect, if there is no agreement in the next few weeks, Washington could face another government shutdown in October.

Against these odds, US Federal Reserve is expected to begin its first rate hikes in the fall. Many observers consider that risky to ordinary Americans, emerging economies and global growth prospects.

While US unemployment rate has declined to 5.3 percent, long-term unemployment is today higher than in decades.

What’s worse, the Fed’s own target for rate hikes is 2 percent inflation. Yet, inflation in the US is not likely to exceed 0.1-1 percent in the fall.

Europe’s vulnerabilities

While European economies have been impacted adversely by recent Chinese volatility, the turmoil in the region’s markets began with the global crisis in 2008, has deepened with the debt crisis since 2010 and been recently fuelled by political divisions over the third Greek bailout.

While Europe suffers from structural challenges, the region is enjoying a mild cyclical recovery, thanks to the European Central Bank’s quantitative easing and low interest rates, a significantly weaker euro, record-low oil prices and greater restraint from EU authorities.

The challenge is that the current rebound relies excessively on growth in Germany and Spain. While economic prospects look mildly better in France and Italy, their growth rates are not likely to reach the pre-crisis levels anytime soon.

Moreover, the political environment is in flux and anti-system protest parties continue to gain momentum.

In the past week or two, markets have been struggling with correction globally. The plunge stopped only after Beijing cut interest rates for the fifth time in nine months along with reserve-ratios. As a result, US and global markets rallied initially, while unease prevails in Chinese markets.

Europe is in no way immune to market turmoil. Unlike the Chinese yuan, the euro plunged some 15 percent against the dollar in just a year. If the US Fed will start rate hikes prematurely, markets will quickly sink again and the Fed must begin rate cuts anew.

The adverse consequences would be global and substantial in Europe, due to the region’s broad and deep trade, investment and financial ties with the US.

Today, the challenge for the world economy is the absence of adequate cushions against economic contractions and market falls.

Dan Steinbock is research director of international business at the India, China and America Institute (USA) and a visiting fellow at the Shanghai Institutes for International Studies (China) and EU Center (Singapore)

Disclaimer

The views expressed in this opinion piece are the author's, not those of EUobserver.

Letter

Right of Reply: The EU-ACP Samoa agreement

Portuguese S&D MEP Carlos Zorrinho, chair of the delegation to the OACPS-EU joint parliamentary assembly, responds to EUobserver's piece Energy and minerals disputes overshadow new EU-ACP pact.

The macabre saga of Navalny's corpse

With Alexei Navalny's funeral in Moscow on Friday, Vladimir Putin's regime haven't just insulted his mother and widow with their treatment of his corpse — they've breached international treaties and conventions.

Joined-up EU defence procurement on the horizon?

Disputes between member states, notably Germany, highlight the lack of coordination among national industrial capabilities for a European Defence Industrial Strategy — which may include the EU's first ever defence commissioner.

Latest News

  1. EU socialists set to anoint placeholder candidate
  2. Why are the banking lobby afraid of a digital euro?
  3. Deepfake dystopia — Russia's disinformation in Spain and Italy
  4. Putin's nuclear riposte to Macron fails to impress EU diplomats
  5. EU won't yet commit funding UN agency in Gaza amid hunger
  6. EU Commission clears Poland's access to up to €137bn EU funds
  7. Right of Reply: The EU-ACP Samoa agreement
  8. The macabre saga of Navalny's corpse

Stakeholders' Highlights

  1. Nordic Council of MinistersJoin the Nordic Food Systems Takeover at COP28
  2. Nordic Council of MinistersHow women and men are affected differently by climate policy
  3. Nordic Council of MinistersArtist Jessie Kleemann at Nordic pavilion during UN climate summit COP28
  4. Nordic Council of MinistersCOP28: Gathering Nordic and global experts to put food and health on the agenda
  5. Friedrich Naumann FoundationPoems of Liberty – Call for Submission “Human Rights in Inhume War”: 250€ honorary fee for selected poems
  6. World BankWorld Bank report: How to create a future where the rewards of technology benefit all levels of society?

Stakeholders' Highlights

  1. Georgia Ministry of Foreign AffairsThis autumn Europalia arts festival is all about GEORGIA!
  2. UNOPSFostering health system resilience in fragile and conflict-affected countries
  3. European Citizen's InitiativeThe European Commission launches the ‘ImagineEU’ competition for secondary school students in the EU.
  4. Nordic Council of MinistersThe Nordic Region is stepping up its efforts to reduce food waste
  5. UNOPSUNOPS begins works under EU-funded project to repair schools in Ukraine
  6. Georgia Ministry of Foreign AffairsGeorgia effectively prevents sanctions evasion against Russia – confirm EU, UK, USA

Join EUobserver

EU news that matters

Join us