January 11, 2011
Deep in the bowels of the earth, in a huge open cast mine in Port Hedland, Western Australia, the distinct sound of a lilting Cork accent crackled through the tannoy.
A group of exhausted miners were sitting down after a shift in over 100 degrees desert heat, talking about a Chinese offer for the company, while the man from Ballincollig was directing traffic for the next shift of miners.
These mines are so huge that drivers of the enormous Komatsu trucks communicate with each other via a central base.
The coordinates of the trucks are then relayed to the miners to prevent them getting run over, because the cabins are so high off the ground that the drivers can’t see the miners below.
At the epicentre of this elaborate traffic system was this lad from Ballincollig.
He had been in Australia for a year – a typical casualty of the building downturn in Ireland.
We chatted and, after about ten minutes, found out that we had two friends in common – an Irish quirk that made the Aussie miners laugh.
I was making a documentary for ABC Australia and the section we were filming was about the influence of China and Chinese investment, particularly in Western Australia.
Many Australians we interviewed, like these miners, conceded that Australia was China’s quarry and, over time, the Chinese would buy up, not just the raw materials, but the companies themselves in order to secure supplies.
The Australian miners were worried about this prospect, not having any idea about what working for Chinese bosses would mean for them.
Ballincollig’s finest interjected and suggested that it would be only a matter of time before the Chinese were buying stuff in Europe and that we in Ireland should welcome this.
He said this would happen sooner than people expected.
Last week, his prediction was realised when it was revealed that the Chinese are big buyers of Spanish government debt. While this is not a surprise, the announcement focused attention on the growing influence of China as the world’s biggest investor.
It seems like only yesterday when people worried about so much western investment going to China to avail of the cheap labour and immense power of Chinese manufacturing.
The story then – in its most extreme interpretation – was that China would suck in so much western capital that the western economies would find themselves starved of cash to finance projects at home.
Now the opposite is happening. This reversal mirrors what happened in Germany after World War II.
After the war, capital initially flowed in to rebuild Germany and the country ran a significant current account deficit. But within a decade or so, Germany was rebuilt and it was exporting all over the world.
Today, China is similar.
What might have been a net importer of global capital has become the world’s largest – and now quite aggressive – investor. China holds $938 billion of US treasuries alone. It is by far the biggest owner of US bonds and yet it knows that these US assets will deflate in value as the dollar falls against the Chinese yuan.
If you want to see why the dollar will fall, just look at the Chinese current account surplus. In 1993,when the world worried that China would suck in capital, China ran a current account deficit of $11 billion.
By 2008,Chinawas running a surplus of $426 billion.
Last year, the surplus fell to $300 billion because the Chinese reacted to the global slowdown by fuelling its own domestic spending.
With a change in policy expected in China this year, as it tries to rein in demand and cool down the economy, the surplus will rise again.
The significance of this is that the surplus has to be spent abroad.
So where will it be spent?
Well, a significant amount will have to be spent in Europe, particularly in the bond markets.
This is where Ireland comes in.
Last week, the Chinese signalled that they are examining peripheral European bond markets. As traditional investors abandon the European bond markets, others – like China – will fill the void.
The Swiss National Bank decided last Month that it would not accept Irish government bonds as collateral.
This is an extraordinary decision, that a central bank of a European country will not accept the government bonds of a member of the euro. But it is a sign of just how precarious our position is.
As we fall down the respectability pecking order, the type of buyers of Irish government debt will change. They will no longer be blue chip outfits, they will be emerging market countries that might see their own experience mirrored now in Europe.
Brazil, for example, a country that is accustomed to its bonds being rejected by the blue chip parts of the financial industry, is now so successful that it will be another huge buyer of out-of-favour peripheral government bonds.
Brazil is the Latin American China, and it has experienced so much cash flowing into the country that it announced last Friday it would actively sell its own currency to prevent the real from rising.
This is yet another example of the changing global economy where the so called emerging markets have emerged and are now financing the rest of the world.
There is something unpleasant in the pattern that is unfolding whereby countries with billions of poor citizens are financing countries with millions of rich citizens.
Classical economics predicts that the opposite should happen. But as cash flows from the likes of China and Brazil to America and the periphery of Europe, we in Ireland will get used to the idea that countries like China will be significant investors here in the years ahead.
The events in the Spanish bond market last week confirm this trend.
Given that the EU and the IMF are strangling us with 5 per cent-plus interest rates on the money they are lending us, there is always an option to talk to the Chinese who have so much cash that they are prepared to accept certain devaluation of their investments in the US dollar simply to diversify their portfolio.
After all, the Chinese will definitely make a loss on their US Treasury holdings and if they are prepared to buy geopolitical influence so expensively, who are we to deny them a toehold in Europe?
We might well need them soon.
As the Australians have discovered, the game has now changed irrevocably.