2010 Predictions: How Did We Do?

Well, it’s that time again. As we approach the end of the first decade of the 21st century, and prepare for the beginning of the second, it’s time to look back and see how we made out on our predictions for 2010.

On January 12, 2010, we made the following five predictions:

1. By the 2010 year-end, inflation will be the big economic story in China.

2. China will continue to peg the yuan to the dollar at 6.8 to 1 USD until it is confident that downward pressures on the dollar have eased.

3. Geely will acquire Volvo from Ford, and this acquisition will be a turning point for acquisitions of industrial
companies by Chinese enterprises.

4. The relationship between China and the United States will deteriorate in 2010.

5. China will begin to act unilaterally on global issues like Iran.

At the risk of being accused of grading our own paper, here is how we think we did.

Prediction 1: By the 2010 year-end, inflation will be the big economic story in China.

When we looked back, we had completely forgotten that we had made this prediction, but it proved to be dead on. By the end of the year, the news was all about rising inflation in China and what the increase in the Consumer Price Index might force China to do to slow its economy in 2011. Inflation was so topical that MTD addressed it in two posts in December: China’s November Inflation and Inflation in China.

When we made the prediction, we believed that China’s fast growth in 2010, combined with continued growth in India and other developing markets and a bottoming of the economies in the developed countries of the world, would put pressure on the prices of everything — especially energy, metals and food. We also noted that central bankers around the world, including those in China, had flooded the markets with money in response to the global financial crisis, and therefore concluded that the vast amount of liquidity sloshing around in the global economy would result in global inflation.

But, if you read the two December MTD posts on the subject of China’s inflation, you know that that’s not exactly what happened. While inflation has been on the rise recently in China, 75 percent of the price increases are due to jumps in food prices, particularly for fresh fruits and vegetables. Moreover, these increases have been due to weather, not an excess of demand caused by an overheated economy.

Meanwhile, a weaker than expected American economy, combined with general weakness in Europe, has kept global demand at lower than expected levels, and steady gains in productivity and overcapacity in most industries have kept non-food prices relatively in check in China.

Admittedly, we were right for the wrong reason, but nonetheless, we believe that we deserve the full 20 points for this highly accurate prediction.

Prediction #2: China will continue to peg the yuan to the dollar at 6.8 to 1 USD until it is confident that downward pressures on the dollar have eased.

In managing its currency, we said last January that China has to balance two issues. First, it must consider the impact of its currency policy on trade. Second, it must consider its impact on the $2 trillion or more of foreign currency reserves, much of it dollar-denominated, that it currently holds.

At the beginning of 2010, China’s currency was pegged to the dollar, which had been in decline against the Euro, and the Obama Administration was projecting deficits of $1 trillion or more for “as far as the eye could see.” As a result, we noted that “the yuan and the dollar are now linked together in a deathly spiral against the Euro and other major currencies of the world.” At the time, one dollar could only purchase 0.70 Euro. If China’s currency had been heavily weighted to the Euro during this period, the country’s dollar-denominated assets would have been reduced by $150 billion for every $1 trillion of assets held.

By June of this year, however, the debt crisis in Europe had led to a flight to the dollar, which in turn caused an increase in the value of the dollar to the Euro. On June 7, the dollar had appreciated by almost 20 percent to the point where one dollar purchased 0.84 Euro.

It’s no coincidence then that China chose on June 19 to de-peg the renminbi from the U.S. dollar in favor of a basket of currencies, providing support to the Euro in the process. With the increase in the value of the dollar, the Chinese authorities felt that they had room to divert some of their purchases to the other major currencies of the world.

Another spot-on prediction for which we will take 20 points.

Prediction #3: Geely will acquire Volvo from Ford, and this acquisition will be a turning point for acquisitions of industrial companies by Chinese enterprises.

Geely did indeed acquire Volvo from Ford, and there is no question that it was a watershed event that will pave the way for more acquisitions of industrial companies by Chinese buyers.

In our post on Why Bright Foods Likes GNC, MTD noted that the cross-border mergers and acquisition business was heating up. In addition to the potential $2.5 billion acquisition of GNC, the world’s largest chain of specialty vitamin, mineral, herbal and sports nutritional supplements, by Bright Foods, announcements regarding Pacific Century’s $450 million acquisition of Nexsteer from General Motors and Tianjin-based Xinmao Group’s $1.4 billion bid for Dutch cable maker Draka were making the news.

As we noted at the time, “the appetite of Chinese companies for overseas acquisitions is quickly moving well beyond natural resources.”

Chalk up another 20 points for this one.

Prediction #4: The relationship between China and the United States will deteriorate in 2010.

At the beginning of 2010, it seemed as though the relationship between the United States and China was quickly turning south. Bending to the will of the United Steelworkers Union, the first action taken by the new Obama Administration towards China in 2009 was to slap a tariff on imported Chinese tires. At the end of the year, the administration followed up with tariffs on steel pipe from China.

Protectionist trade measures, constant calls by the U.S. for China to allow the yuan to appreciate against the dollar, and China’s concerns about the value of its holdings of U.S. assets, threatened to create considerable tensions between the two countries. With the Obama Administration facing near 10 percent unemployment in a mid-term election year, and a growing deficit and national debt, it seemed as though the Sino-U.S. relationship had nowhere to go but down.

Surprisingly, negative ads towards China on trade matters did not play as large a role in the mid-term elections as we would have thought, and the Fed’s policy of quantitative easing to re-start the American economy seemed to blunt some of the U.S. criticism of China’s currency policy. By the time of the G20 Summit in Seoul, the U.S. could no longer take the high ground on the currency issue, as one nation after another denounced the Fed’s policy of printing money.

From the early talk about America’s “partnership” with China at the start of the Obama Administration, the relationship deteriorated during 2010 to the point where the best that can be said is that the two countries simply have no relationship. There is little basis for the U.S. and China working together to solve the world’s ills as originally thought.

Having said that, the relationship did not turn as frosty as we would have thought, and therefore, we can only take partial credit– and 15 points– for this prediction.

Prediction #5: China will begin to act unilaterally on global issues like Iran.

As MTD discussed in Copenhagen: A Failure in Leadership, the Obama Administration failed its first real test in Copenhagen on its ability to work effectively with China on important global issues. By not meaningfully engaging China in a discussion on climate change, and by acting unilaterally in Copenhagen, the United States gave China’s leaders a first-hand view of what a dialogue and partnership with the Obama Administration means. Moreover, China had already made its own bilateral deals with Russia and North Korea by the end of 2009.

For all of the above reasons, we believed that China might begin taking the initiative on touchy issues like North Korea and Iran. In fact, China has remained silent on both. On the other hand, China is clearly exerting a leadership role in both Africa and Southeast Asia, as we have noted on our two posts on China’s activities in Africa: China and Africa and China and Africa: Part II.

There is no question that the global financial crisis has accelerated China’s rise in global influence, and that China is now exercising the muscle it has developed over the past 30 years of economic reform. Although China’s rise in stature has not resulted in significant, visible help in resolving the thorny issues presented by North Korea and Iran, the country has been slowly, but surely, extending its reach around the world. We won’t take any points for this final prediction, but we believe that we were pointing in the right direction when we made it.

A 75 percent grade is little more than a “Gentleman’s C” at Yale, but then China is a particularly difficult course. We will gladly accept and begin preparing our predictions for what 2011 holds.

Happy New Year from all of us at MTD!

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