Fisher Investments Editorial Staff
Currencies, Emerging Markets

Still a Yuan for US Debt

By, 07/08/2010

Story Highlights:

  • Recently, China announced an easing of the yuan's peg to the dollar, spurring fears China would dump its sizeable holdings of US Treasuries.
  • Statements by China's State Administration of Foreign Exchange allayed fears the country will suddenly and dramatically shift away from US Treasuries.
  • The statements take a sane step back from the political saber-rattling exhibited by the Chinese government—and can also be construed as a continued vote of confidence in the US economy and its abilities to service its debt.
  • It's unlikely there will be a sudden Chinese shift away from US Treasuries anytime soon—if the yuan strengthened, it would be a gradual process.

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In any US-China conversation, there's an elephant in the room—China's massive $900 billion reserve holdings of US Treasuries. Recently, China announced an easing of the yuan's peg to the dollar as a conciliatory gesture to American politicians claiming China's peg unfairly favored Chinese exports. But the move spurred fears China would dump its sizeable holdings of US Treasuries—no longer needing them to maintain as tight a peg—severely jeopardizing America's fiscal situation. However, that elephant in the room remains a passive specter for now. 

Recent statements by China's State Administration of Foreign Exchange (SAFE) allayed fears the country would suddenly and dramatically shift away from US Treasuries. SAFE spoke sensibly about its Treasuries holdings, explaining changes in holdings are due to normal investment decisions to maximize returns—rather than for political reasons—and that US bonds "deliver fair good security, liquidity and market depth with low transaction costs." (In fact, throughout the politically charged exchanges, China's actions, if not words, seemed to speak of this fact—the country rarely stepped back significantly from Treasuries and in recent months, actually upped its holdings.) 

The statements take a sane step back from the political saber-rattling seen of late and can also be construed as a continued vote of confidence in the US economy and its abilities to service its debt. Both were called into question during the height of the financial panic—when China vocally suggested countries move away from the US dollar as the world currency reserve. 

It's widely thought China's large holdings (and support) of US debt handcuffs US political influence—creating a sometimes uneasy relationship between the two economic powers. America's ideological clashes with China or attempts to impact Chinese policy are typically accompanied by fears of, "Will China sell US Treasuries in retaliation?" Uncertainty over how the Chinese government may react no doubt heightened investor fears.  

Encouragingly, in a seeming bid at openness, China chose to address the elephant in the room itself, dismissing the potential use of its large US debt holdings as a threat to US economic stability. As we've mentioned, it's unlikely there will be a sudden Chinese shift away from US Treasuries anytime soon. If the yuan strengthened, it would be a gradual process and any reductions in China's US debt holdings would be gradual as well. Moreover, the Chinese don't seem intent on using US debt holdings as any sort of political tool—but rather as a safe, liquid, and logical investment vehicle for its abundant US dollars generated by trade. 

The shift away from rattling political rhetoric in China's approach to its US debt holdings is a welcome, sensible change and could help calm investors worried about the sometimes at-odds relationship between the two powerful economies going forward.

*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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