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Friday, June 12, 2009

How China Could Rescue General Motors

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How China Could Rescue General Motors

By William Patalon III
And Jason Simpkins
Money Morning Editors

For anyone who still disputes that we’re operating in a global economy these days, consider this bit of business irony: The long-term survival of America’s biggest car company could depend on how well it does in Mainland China.

As it works its way through bankruptcy and crafts a corporate turnaround plan, General Motors Corp. (OTC: GMGMQ) – derisively referred to as “Government Motors” by critics – has five factors on its side. The first four are pretty predictable fare for a U.S. auto company that finds itself on the ropes:

* First, bankruptcy will turn GM into a company whose smaller size is better suited to the diminished size of the post-financial-crisis U.S. auto market.
* Second, the bankruptcy process will also allow the company to turn billions in liabilities into equity, freeing up cash it can use to invest in its future.
* Third, even with the sale of Saturn and Hummer – and with the elimination of additional models and nameplates – General Motors has a stronger stable of products than most observers realize.
* And fourth, the consumer backlash against the bankruptcy likely won’t be as damaging as had been initially feared – meaning sales won’t just “fall off a cliff.”

But the fifth factor – the wild card – is still China, where GM has established a surprisingly strong and successful presence. That should allow General Motors to capitalize on a market that’s the world’s fastest-growing right now, and that will one day be the world’s biggest market, too. Eventually, GM will be able to use that low-cost market to build cars and trucks and ship them back to the United States for sale at competitive prices. China’s big carmakers are already planning to do just that. So why shouldn’t GM?
The bottom line: China’s car market could be GM’s savior.
Why China Could Save “Government Motors”

The good news for General Motors is that its Asian operations will be unaffected by the bankruptcy.

“Our operations are separate, they are profitable, they are well-funded, and we generate our own funds for future investment,” GM China President Ken Wale told reporters. “We do not see any change to our growth activities.”

GM China is trying to drive home this point by emphasizing to its Asian customers that it isn’t an extension of General Motors, but is actually a joint venture between GM and Shanghai Automotive Industry Corp. Each company owns 50% of the venture.

GM China has actually been one of the bright spots in General Motors’ operations. While U.S. sales have plunged, sales in China have advanced at a stunning rate. In the first five months of this year, GM China sold about 670,000 vehicles – a 33.8% increase from the same period a year ago. May sales surged 75% from last year.

"Shanghai GM is a brand name here by itself and its Wuling minivans and mini-trucks are selling like hot cakes all over the country," Zhang Xin, an analyst with Guotai Junan Securities Ltd, told Reuters. "I think it will be business as usual here, as whoever is calling the shots at GM eventually would make sure that its China business remains on the right track."

And while worldwide auto sales continue to plunge, sales in China are expected to grow between 8% and 9% this year. China actually overtook the United States as the world’s largest auto market for the first time in history in the first quarter.

“Within 10 years, this will be our largest market in the world,” Wale, the GM China president, told Time magazine.

GM China plans to double its sales in China to more than 2 million vehicles and introduce at least 30 new or updated models over the next five years. Meanwhile, General Motors will close or idle 14 U.S. plants and warehouse operations, shedding up to 20,000 workers.

As part of that streamlining effort, GM is looking at ways to roughly double the number of cars it builds abroad for sale in the U.S. market. Currently the company imports the Chevrolet Aveo and Pontiac G3 from South Korea. The Saturn Vue and Chevrolet HHR sport utility vehicles come from Mexico. And the Pontiac G8 comes from Australia.

The company could export small vehicles such as the Chevrolet Spark from China to the United States. That fuel-efficient mini car is to debut in 2011, GM’s Web site says.

But GM has been so successful in China that it is reportedly negotiating with U.S. lawmakers to send a greater proportion of the carmaker’s production overseas, the U.K.’s Telegraph reported.

No matter how those discussions go, GM will start shipping cars to the United States from Shanghai in 2011. While many carmakers import components from China to save on labor costs, this would make GM the first carmaker to actually import whole cars from Mainland China. But those numbers will be small – at least initially. The company plans to export slightly more than 17,000 vehicles in the first year, before ramping up to 50,000 cars a year by 2014.

In fact, GM sold more vehicles in Asia in the first quarter than it did in the United States. Only 26% of GM’s first-quarter sales came from the United States, a 36% decline from a year ago.
The Wild Cards that Could Cause GM to Crash

Of course, the plan doesn’t sit well with unions.

“GM should not be taking taxpayers’ money simply to finance the outsourcing of jobs to other countries,” Alan Reuther, a Washington lobbyist for the United Auto Workers (UAW) union wrote in a letter to U.S. lawmakers.

Indeed, the UAW and others argue that the whole point of bailing out the U.S. auto industry was to save American jobs and help prop up the sagging economy.

“I think that’s wrong,” Keith Pokrefky, a Michigan autoworker, told WILX, the Lansing TV station. “I think that’s wrong for America. I think it’s wrong for American jobs. It’s un-American.”

For its part, GM argues that it is only logical to produce cars where they’re going to be sold.

“GM’s philosophy has always been to build where we sell, and we continue to believe that is the best strategy for long-term success, both from a product development and business planning standpoint,” GM’s China office said in a written statement to the The Associated Press.

Harvard Business School professor Clayton Christenson – who was also a consultant to G. Richard Wagoner Jr., the former GM CEO who was also the architect of GM’s China strategy – told Time that inexpensive, Chinese-made Chevys, exported to the United States, could be the “disruptive” force the company needs to resuscitate its North American vehicle sales.

“It’s exactly the right thing for [GM] to do,” Christenson said.

While China keeps its data on labor costs under lock and key, analysts estimate that wages and benefit payments per factory worker are less than a tenth of what they are in North America, Time reported.

And as Ballard, the Michigan State economist notes, if GM fails, there are no jobs at all.

And perhaps that’s the reality on which everyone should focus. There was a time when what was good for GM was good for America. But somewhere along the line, the interests of the country and the carmaker diverged.

Even now, with the Obama administration having anted up with taxpayer money, the near-term steps that GM needs to take to survive may not be very popular with the “Buy America” crowd. In fact, having ponied up billions of dollars worth of federal assistance, U.S. President Barack Obama now finds himself trying to balance the competing interests of all the stakeholders, even as his administration tries to save GM – a balancing act that may prove impossible to pull off.

President Obama might be better served by focusing his energy on saving GM – allowing the company to employ the five factors that favor a turnaround to its own maximum advantage.

In fact, we’ll make this statement: These five factors could save GM. For the company to achieve long-term success, however, two specific things must occur.

* “Government Motors” must employ those five factors to their fullest potential.
* And the Obama administration must allow the company to do so.

Only time will tell if either or both of these happen.

Monday, June 8, 2009

Housing Starts

Financial Post Published: Monday, June 08, 2009

OTTAWA -- Housing starts rose more than expected in May, with increased construction seen in both single and multiple dwelling sectors, according to Canada Mortgage and Housing Corporation.

The seasonally adjusted annual rate of starts increased to 128,400 units during the month from 117,600 in April, CMHC said Monday.

"Housing starts are expected to improve throughout 2009 and over the next several years to gradually become more closely aligned to demographic demand, which is currently estimated at about 175,000 units per year," the Crown corporation said.

Economics expected housing starts to total 126,000 units in May.

The seasonally adjusted annual rate of urban starts was up 11.1% to 107,800 units in May, CMHC said. Multiple unit urban starts rose to 60,900 units and single unit starts increased to 46,900 units -- with both categories rising by a similar 11.1% from the previous month.

"The increase in May is broadly based, encompassing both the singles and multiples segments," said Bob Dugan, CMHC's chief economist.

Overall urban starts were up 22% in Ontario, 16.8% in the Prairies, 7.3% in Atlantic Canada and 3.3% in Quebec. Meanwhile, urban starts fell 5% in British Columbia.

Rural starts were little changed at 20,600 units in May.

"The broad-based nature of the increase in residential construction activity in May was an encouraging development for this beleaguered sector of the Canadian economy," said Millan Mulraine.

"Indeed, after plunging precipitously since late 2007, and appearing to be in free-fall in recent months, this rebound may be an indication that the sector is perhaps stabilizing.

"Nevertheless, with the Canadian labour market continuing to weaken and the overall economy remaining quite soft, we expect residential building activity to remain in the current depressed range for some time."

Canwest News Service


Housing starts in May (seasonally adjusted):

Canada, all areas 128,400

Canada, rural areas 20,600

Canada, urban centres 107,800

Canada, singles, urban centres 46,900

Canada, multiples, urban centres 60,900

Atlantic region, urban centres 7,300

Quebec, urban centres 34,200

Ontario, urban centres 41,600

Prairie region, urban centres 15,300

British Columbia, urban centres 9,400

Source: CMHC

Wednesday, June 3, 2009

Geithner Opens Up Debt Dialogue With China, but the Dollar Still May be Doomed

By Jason Simpkins
Managing Editor
Money Morning

Two days of talks between U.S. Treasury Secretary Timothy F. Geithner and Chinese officials culminated yesterday (Tuesday) with both parties reaffirming their confidence in the value of the dollar, and the viability of U.S. debt.

Despite this public posturing, however, concerns remain about the dollar's near-term strength. And given the United States' precarious financial position, many observers question the dollar's long-term ability to remain the world's main reserve currency.

Chinese policymakers expressed "justifiable confidence in the strength and resilience and dynamism of the American economy," Geithner said during his first official visit to China.

China is the world's largest holder of U.S. Treasuries, with $768 billion of U.S. securities in reserve as of the end of March. In recent months, however, Beijing has increasingly voiced concerns about the value of its foreign-currency holdings, even going so far as to suggest the world adopt a new international reserve currency.

While Geithner's visit was initially described as an effort to promote stable, balanced and sustained economic growth, Geithner made sure to allay the concerns of China's leaders, including Premier Wen Jiabo, who just months ago called on the United States "to guarantee the safety of China's assets."

In remarks to China's state media, Geithner said the United States would "do everything necessary" to preserve the value of the dollar and to ensure that "the deepest, most liquid Treasury markets in the world" remain flexible.

For its part, China acknowledged the U.S. effort to open up a dialogue about fiscal responsibility that wasn't aimed at its own currency, the yuan. In January, Geithner accused the Chinese of "manipulating" its currency, keeping it artificially low to boost exports.

"You have established good working relationships with your Chinese colleagues and you are committed to increasing China-U.S. cooperation in tackling the international financial crisis," President Hu Jintao said at a meeting at the Great Hall of the People. "I appreciate that."

Still, not everyone was convinced that Geithner or U.S. Federal Reserve Chairman Ben S. Bernanke, are serious about shoring up the dollar. After all, the U.S. budget deficit is expected to balloon to $1.75 trillion in the fiscal year ending Sept. 30, a sizeable increase from last year's $455 billion shortfall. That figures to be about 13% of U.S. gross domestic product (GDP).

"We are going to have to bring our fiscal deficit down to a level that is sustainable over the medium term," Geithner said during his visit to Mainland China. "This will mean bringing the imbalance between our fiscal resources and our expenditures to the point - roughly 3% of GDP - where the overall level of public debt to GDP is definitely on a downward path."

Still, Geithner failed to elaborate on how exactly he and the Obama administration will accomplish that feat. And that's something that worries some Chinese economists.

"I worry about details," said Yu Yongding, a former central bank adviser who interviewed Geithner for the China Daily newspaper. "We will be watching you very carefully."

On Monday, Yu told Bloomberg News that he was hopeful Geithner would provide specifics about his plan. He also warned that despite its sizeable commitment to U.S. debt, China has other options.

"I wish to tell the U.S. government: 'Don't be complacent and think there isn't any alternative for China to buy your bills and bonds,'" said Yu. "The euro is an alternative. And there are lots of raw materials we can still buy."
Is China Ditching the Dollar?

Recent data supports Yu's position, as China appears to be putting more distance between itself and the dollar than ever before.

China bought less than a sixth of the Treasuries issued by the U.S. government in the 12 months through March, according to The New York Times. That stands in stark contrast to the Treasury market of two years ago, when China's demand for U.S. securities actually exceeded the United States' own borrowing needs.

Additionally, when China has purchased Treasuries, it has done so by swapping them with other U.S. assets, rather than exchanging foreign currencies or commodities. China has increased purchases of short-term Treasury notes - those that mature in a year or less - while at the same time unwinding its position in Treasuries with longer maturities. The takeaway: Beijing believes the dollar is safe for now, but has serious doubts that the greenback can shrug off the inflationary pressures that are certain to grow out of the United States' financial situation, and avoid major erosions in its value as a global reserve currency.
China has also paid for its recent Treasury purchases by selling off debt from such U.S. government-sponsored enterprises (GSEs) as mortgage giants Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE).

Last year, China was the world's biggest buyer of GSE securities, spending about $10 billion a month, The Times reported. And last fall, as much as one-fifth of China's $2 trillion in currency reserves was invested in Fannie and Freddie debt. But in the year ended in March, China actually sold about $7 billion of GSE debt.

In yet another move to safeguard its massive currency reserves, China has boosted its investments in commodities. China imported record amounts of copper and iron ore in April, and has been stocking up such commodities as oil and grain. China said last month that its gold reserves have soared to 1,054 tons, up from just 600 tons in 2003.

"While companies in the United States, Great Britain and Europe are being forced to shed promising assets in order to compensate for massive losses or to pay down debt, cash-rich China has been able to operate as a buyer in a buyer's market," said Money Morning Investment Director Keith Fitz-Gerald. "While the rest of the world has interpreted this as a sign that China's interested in buying the things it needs to grow, what they have not understood is that China's also interested in using physical assets as a source of 'currency' that offsets an increasingly eviscerated U.S. dollar."

According to Fitz-Gerald, China isn't simply stocking up on raw material to fuel its massive $585 billion stimulus plan, but instead use those commodities to bolster its currency. Indeed, Beijing's ultimate goal is for its currency to supplant the dollar as the world's most widely accepted transaction currency.
Replacing the World's Reserve Currency

Ahead of the G20 Summit in April, Zhou Xiaochuan, Governor of the People's Bank of China, released an essay titled "Reform of the International Monetary System."

Without specifically mentioning to the U.S. dollar, Zhou asked this basic question: What kind of international reserve currency does the world need in order to secure global financial stability and facilitate economic growth.

According to Zhou, the dollar's unique status as the world's primary reserve currency has resulted in increasingly frequent financial crises ever since the collapse of the Bretton Woods system in 1971.

"The price is becoming increasingly higher, not only for the users, but also for the issuers of the reserve currencies," Zhou said. "Although crisis may not necessarily be an intended result of the issuing authorities, it is an inevitable outcome of the institutional flaws."

Zhou called for the "re-establishment of a new and widely accepted reserve currency with a stable valuation" to replace the U.S. dollar - a credit-based national currency. The central bank governor noted that the International Monetary Fund's Special Drawing Right (SDR) should be given special consideration.

After questioning the dollar's viability as the world's main reserve currency, Beijing took another step in its quest to expand the role of its own currency, the yuan, by agreeing to a $10 billion (70 billion yuan) currency swap with Argentina.

Including that deal with Argentina, Beijing has signed about $95 billion (695 billion yuan) of currency deals with Malaysia, South Korea, Hong Kong, Belarus, and Indonesia over the past few months. And China and Brazil recently acknowledged that they are in the early stages of a currency swap agreement of their own.

These deals eliminate the need for China and its trading partners to buy dollars to facilitate cross-border transactions. It also gives China's currency a more prominent role in the global economy, and moves the yuan one step closer to supplanting the dollar as the world's main reserve currency.

"For Westerners who are struggling to come to terms with the notion of a disarrayed dollar, the thought of oil, gold or other commodities being priced in yuan instead of dollars has to seem about as likely as having another country put a man on the moon," said Fitz-Gerald. "But the Chinese yuan is already well on its way to becoming that globally accepted standard unit of exchange and the proverbial genie, as they say, is out of the bottle."

[Editor's Note: Thirteen trades. All profitable. Since launching his Geiger Indextrading service late last year, Money Morning Investment Director Keith Fitz-Gerald is a perfect 13 for 13, meaning he's closed every single one of his trades at a profit. And he did this in the face of one of the most-volatile periods since the Great Depression. Fitz-Gerald says the ongoing financial crisis has changed the investing game forever, and has created a completely new set of rules that investors must understand to survive and profit in this new era. Check out our latest insights on these new rules, this new market environment, and this new service, the Geiger Index.]

Monday, June 1, 2009

Business Economists Predict Recession Will End in Third Quarter

By Mike Caggeso
Associate Editor
Money Morning

A detailed report from the National Association of Business Economics (NABE) says the U.S. economy will recover in the third quarter after a continued contraction in the second.

NABE said the near-term setback will be a result of a “sharp retrenchment” in business investment, but the billions in government efforts to invigorate the economy will soon offset that.

“While the overall tone remains soft, there are emerging signs that the economy is stabilizing,” said NABE president, Chris Varvares, who is also president of Macroeconomic Advisers. “The survey found that business economists look for the recession to end soon, but that the economic recovery is likely to be considerably more moderate than those typically experienced following steep declines.”

NABE also downgraded its growth forecast for the next few quarters - with the second quarter contracting 1.8%, followed by a meager 1.2% growth in the second half. The end result will be an overall 1.2% contraction for 2009.

However, NABE believes a trio of key factors scaring consumers - job losses, tight credit conditions and declines in home values - are here to stay.

In fact, unemployment will likely reach as high as 9.8% by the end of the year while inflation moderates and oil prices remain “relatively depressed.”

NABE’s outlook is the consensus of a 45-person panel of economists.
Mixed Forecasts

NABE’s report joins a chorus of national and international institutions (both government and private) that have issued their own predictions of when the clouds will part over the global economy.

Earlier this month, U.S. Federal Reserve Chairman Ben Bernanke testified to the congressional Joint Economic Committee that the U.S. economy will begin to “turn up later this year,” Reuters reported.

But such recovery is contingent upon the financial sector’s continued improvement, Bernanke said.

“We continue to expect economic activity to bottom out, then to turn up later this year,” Bernanke told the committee. “An important caveat is that our forecast assumes continuing gradual repair of the financial system; a relapse in financial conditions would be a significant drag on economic activity and could cause the incipient recovery to stall.”

Though Bernanke’s general timeframe for recovery is similar to NABE’s, there are a few differences in their outlooks. Bernanke said the housing market may be bottoming out and pointed to improving consumer spending, two areas NABE said will continue to remain depressed.

More broadly, the International Monetary Fund (IMF) recently slashed the growth forecast for every major country and urged more recovery actions. In its latest global outlook, the IMF said the global economy will likely contract 1.3% this year and post a 1.9% gain next year, Reuters reported.

And while the World Bank sees the global contraction easing and expects a recovery in late 2009, its report, “Swimming Against the Tide: How Developing Countries are Coping with the Global Crisis,” warns that 94 out of 116 developing countries have experienced a slowdown in economic growth. Of those, 43 have high levels of poverty.

Moreover, only one quarter of the most vulnerable countries have the resources to prevent a rise in poverty, the World Bank said.

“We need investments in safety nets, infrastructure, and small and medium size companies to create jobs and to avoid social and political unrest,” World Bank President Robert Zoellick said in the report.