The coronavirus presents China’s leadership with its most serious political challenge in decades. Domestically, it will need to navigate public frustration with shortcomings in the state healthcare and supervision systems and perceptions of restricted information flow. Internationally, China’s ability to engage in overseas initiatives will be hindered, at least in the short term, by an all-hands-on-deck call across the bureaucratic and administrative spectrum for attention and resources to be devoted to containing the virus.

The Communist Party of China’s focus on a near all-encompassing societal reach is such that its overarching approach to developments in the country — good and…


A sense of optimism has returned to global financial markets, as they take in the expectation of continued accommodation by central banks and the resumption of trade talks between China and the US. While President Trump’s capacity to surprise and his tendency to interject directly make the eventual outcome of the trade negotiations difficult to predict, there are four developments investors should be prepared to encounter.

A sense of optimism has returned to global financial markets, as they take in the expectation of continued accommodation by central banks and the resumption of trade talks between China and the US. While President Trump’s capacity to surprise and his tendency to interject directly make the eventual outcome of the trade negotiations difficult to predict, there are four developments investors should be prepared to encounter.

First, China will be looking to slow the negotiations at every opportunity. It is well documented that China’s negotiating approach differs considerably from that of Western countries, with the Chinese preferring to ‘play the…


Even exorbitant privileges can be lost, and there are a number of factors suggesting that, over time, the US dollar may be at risk of surrendering its lead, if not its role, as the world’s pre-eminent reserve currency. The reasons for this relate partly to US policy decisions, and partly to policy decisions and developments elsewhere, but they all point in the same direction. The primary reasons for the dollar’s continued dominance are inertia and the lack of viable alternatives, neither of which US policymakers should find comforting for the longer term.

The most obvious US policy contributions to a…


Recent challenges to central bank independence in a number of countries mark only the beginning of an extended macro policy debate that is likely to play out in the years ahead, especially where economic growth is slowing.

In emerging and developed markets alike, strong central bank balance sheets (generating seigniorage profits) compared with those of governments, combined with well-earned central bank policy credibility in many jurisdictions, are attracting the attention of fiscal policymakers. Investors would be wise to consider the potential implications of mounting political pressures for greater contributions from monetary policy to support economic growth, possibly by unconventional means.

Reinforced central bank balance sheets in emerging markets can be traced back to the 1997 Asian financial crisis, when currency and maturity mismatches between countries’ external liabilities and domestic assets overwhelmed central banks’ foreign currency reserves, causing…


The Trump administration has initiated a trade dispute with China with the stated goal of reducing America’s bilateral deficit. But given the strengthening dollar and expansionary US fiscal policies, the US trade balance will almost certainly worsen for the foreseeable future.

Now that they are on the receiving end of US tariffs, Chinese policymakers have three options. First, they could capitulate, by scaling back many of the “discriminatory practices” identified in the US Trade Representative’s March 2018 report on technology transfers and intellectual property. So far, there is no indication that China is considering this option.

Second, China could escalate the dispute. It could set its own tariffs higher than those of the US, apply them to a larger range (and greater dollar value) of US exports, or offset the impact of US tariffs on Chinese exporters by allowing the renminbi…


“Fear of floating” is alive and well among EM central banks

The recent strength of the US dollar, which is up about 3.5% in nominal effective terms since late January following a two-year depreciation, is causing investors to re-evaluate their emerging market (EM) exposures. Comparisons with the 1982 Mexican crisis and the 1997 Asian crisis are alarmist and overdone, but faith in better EM macroeconomic and credit fundamentals in support of a view that “this time is different” is equally misplaced. The dollar remains the single most important consideration for EM finances.

If January was, in fact, a dollar inflection point and trend appreciation lies ahead, the outlook for EM sovereigns…


In December 2017, the eurozone’s current-account surplus reached an all-time high of EUR391 billion (USD483 billion), prompting the usual calls for Germany to “do more” to resolve the imbalance through fiscal policy.

But such policy prescriptions are misguided, because they do not fully consider the role of the financial account in the balance of payments, or that of monetary policy in influencing international financial flows.

To be sure, Germany accounts for the largest share of the eurozone’s external surplus, and three related arguments are typically used to justify the call for German authorities to use fiscal policy to address it. For starters, because the current account reflects the difference between a country’s savings and investment, Germany is assumed to be saving too much and investing too little. …


The governments of Canada, Mexico and the United States arrived earlier this year at the North American Free Trade Agreement (NAFTA) renegotiations with three different sets of priorities.

Negotiating manoeuvrability and the associated room for compromise in this context are limited

Positions on some issues are broadly aligned, suggesting scope for compromise and agreement in those areas, while others appear further apart, diminishing the prospect of a deal being reached within the allotted — and recently extended — timeframe.

Ultimately, however, if negotiations fail and NAFTA ends, it is likely to be politics that is responsible, as each government has infused the talks with home-spun political considerations that are largely defensive and intended for domestic audiences. None appears willing to tolerate an outcome in which its electorate could perceive political leaders as either surrendering new-found principles or allowing the country to…


It has been several years since policymakers seriously discussed the merits of fiscal austerity.

Debates about the potential advantages of using stimulus to boost short-term economic growth, or about the threat of government debt reaching such a level as to inhibit medium-term growth, have gone silent.

“The political environment is hardly conducive to fiscal consolidation”

There is no mistaking which side won, and why. Austerity is dead. And as conventional politicians continue to take rearguard action against populist upstarts, they will likely embrace more fiscal-policy easing — or at least avoid tightening — to reap near-certain short-term economic gains. …


The US dollar will almost certainly remain the world’s most important reserve currency for the foreseeable future.

The dollar’s role is so widespread that its supremacy is self-reinforcing

The US dollar will almost certainly remain the world’s most important
reserve currency for the foreseeable future, as no other offers the same
set of advantages to money managers, including central banks, or is as
deeply embedded in the global financial system. The primary cost to
the US is surrendered competitiveness due to dollar appreciation, but
lower interest rates and unrivalled government access to funding bestow
considerable benefits, ultimately supporting the sovereign’s ‘AAA’ rating.

As the Fed tightens, expect calls for an alternative to US dollar dominance, but no real change. Congress is the most plausible medium-term threat.

The dollar…

James McCormack

Global Head of Sovereigns at Fitch Ratings

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