April 09, 2010 11:28 PM UTC

Global Economy-U.S./Germany/China, and.....Greece

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• by: Sir Robin

Naomi Tajitsu at Reuters reports: Stronger yuan may deal another blow to euro. That one line there should be about all you need to know to agree with me that German Chancellor Angela Merkel is the smartest politician today in the western world, and perhaps the whole world. If it doesn’t, please allow me to explain.

Merkel has long since recognized that a weaker euro vis-à-vis the US dollar, and thus the yuan/renminbi, which is pegged to it, is vital for Germany’s future. At one point in November 2009, the euro traded at $1.52 . It had come from $1.26 in February ’09, and from $1.19 in February ’06. The Germans had let the US devalue the dollar for quite a while, even to reach $1.59 in July ’08, but it was in November ’09 that they decided they’d had enough. They’d bought all the US Treasuries they’d want to buy on the cheap with the strong euro. It was time to start selling German products again.

It’s vital to understand that in times of economic downturn, in which after all everybody has to borrow far more money than usual, exports become a far more important part of a national economy than they already are in good times. They become a life and death matter, the one single and crucial wheel in the machine that may decide between bankruptcy and recovery.

Of course, in November ’09 the US economy was still in a deep ditch, clear for everyone to see, so it took some preparing, beyond your run of the mill selling of euro’s into the market, to get the project going. Sometime late last year, Merkel and her crew chose the weapon they would use in the battle to make the euro look weak, wounded and vulnerable. That weapon was Greece.

The strategy must have been clear from the outset: expose Greece’s financial flaws to the markets, and make them think Berlin would not step in and rescue Athens. Bring in the IMF to paint the picture of a Third World problem, and appear hesitant, let them all keep guessing. Yes, this would mean more trouble for Greece, especially in the debt markets, but in German eyes, that was nothing the Greeks didn’t deserve.

A few weeks ago, John Mauldin in his newsletter had a brilliantly great stat, which I think will stick in my head for the rest of my life. Out of the 10 million or so Greek population, how many would you have guessed filed income tax returns of over €1 million? The answer is 6. Look, you average Greek resort island has more than 6 people who make more than €1 million. They just don’t pay taxes in Greece. Nobody does. And while this may be a longtime tradition that stems from protesting many occupations of their land through the ages, you can’t do that as a EU member.

So Berlin doesn’t feel much pity if Greek borrowing costs rise. After all, they know they’ll probably have to bail out the country anyway down the line, and they will, Germany won’t let the EU fail, or at least not for a long time. Therefore, teaching Athens a lesson first seems quite appropriate. Plus, the uncertainty surrounding Greece remains the main tool to bring down the euro.

Germany needs a much lower euro because it’s geared almost exclusively towards exporting. Domestic consumption is much lower than for example in the US. The Germans need markets abroad. And here it gets interesting, because so does China. And since the yuan is pegged to the US dollar, Chinese products had become much cheaper in European markets. The Germans didn’t mind that too much as long as it was all about trinkets, that not their field. When it comes to high-end products though, they’re, let’s say, touchy. And since China is increasingly moving into that market segment, Merkel needed to figure a way to lower the euro versus the yuan as well.

But that’s not an easy topic to broach with the Chinese. And here’s where Merkel’s brilliance shines through. Enter Tim Geithner, stage left.

In the US Congress and Senate, there’s long been resentment again Beijing’s monetary policies. Capitol Hill was very close to officially branding China a currency manipulator. Geithner this week flew to Beijing to, or so he thought, beg the Chinese to do at least something, widen the floating range by half a percentage point, anything, so the embarrassing motion wouldn’t pass the House.

China had made up its mind long before Timmy got there. They just enjoyed making him kow-tow. And a yuan that’s a bit stronger won’t hurt China all that much. In their calculation, what they lose in Wal-Mart sales will be more than made up for in relatively lower prices for commodities denominated in US dollars. Still, worth the price of seeing Geithner grovel. But not of an escalating war of words with the US. Not now, anyway.

Merkel? She’s laughing all the way to the bank. A stronger yuan means something Americans may not fully understand: it will make the dollar stronger versus the euro. Hence, Angela has all she wants, a boost to the yuan, and a boost to the dollar, all without having to lift much of a finger, let alone kow-tow. That’s what Timmy does for her.

If the US might think of any new tricks to lower the greenback, Angela will swing the Greek threat as long as she can, and when that threat has lost its luster, she’ll come back swinging Portugal, and then some other country in the Eurozone “periphery”. What is Obama going to come back with? California? Illinois? The EU structure allows Merkel to play market games that the US doesn’t have at its disposition. Washington can’t even pretend it’ll let states fail, let alone actually execute such a scheme. Berlin can.

Whether Angela can outsmart Beijing as well is up in the air. If Jim Chanos is only half right with his assertion that China is on a “treadmill to hell”, she probably would.

All this makes Angela Merkel, who happens to have a doctorate in quantum chemistry, a formidable force. That and the relative health of the German economy. Mind you, it’s all literally relative. If you focus on one country’s troubles, it’s easy to think that things are awful. Thing is, they all are in deep trouble, from Germany to the US to China. The question is how they’re coming out of it, how apt they are at solving the riddle and the crime.

And that’s why, for the moment, I put my money on Angela Merkel.

Money, she wrote.

h/t Ilargi at AutomaticEarth