Many commentators expect the appreciation of the yuan to force China to invest more
in US Treasury bonds. I believe it will have the opposite effect as their past investment
motives have not been fully understood.
The People’s Bank of China decision to shift to a flexible exchange rate may set
the expectation that China may have to buy less U.S. Treasury securities. Brian Coulton,
head of Global Economics at Fitch ratings, pronounced that yuan appreciation will
compel China to invest in U.S. Treasuries in large part because of flows of foreign
investment into China. These speculations ignore the fact that China is the major
foreign purchaser of U.S. Treasuries because of its exchange rate policy. This report
examines the importance of China’s central bank exchange rate policies to the purchase
of U.S. Treasuries.
China’s central bank is the major foreign purchaser of U.S. Treasury securities.
The Chinese investment in such securities can be viewed as being in China’s economic
interest for the following reasons. First, China’s increase in holding of U.S. securities
may be regarded as China financing the U.S. trade deficit. Since the U.S. consumes
more than it saves it depends on foreign investment for its needs. The first graph
indicates China’s holding of U.S. debt represented by China’s holding of U.S. Treasury
securities and the U.S. trade deficit abstractedly represented by net exports of
goods. It can be observed that there is not a direct correlation between the trade
deficit and debt holding beginning with 2005.
Some economists argue that China’s increase in holding U.S. Treasuries helps the
U.S. Federal government pay for its financial stimulus packages and is an endorsement
of U.S. economic policies. The article "China Backs Obama as Treasury Holdings Rise
to $900 Billion" that appeared on Bloomberg supports this argument.
Second, China emerging as a central player in global trades should be a concern if
any major actions destabilize global economies. The global financial crisis may have
forced China to continue to invest in U.S. securities. A sudden fall in U.S. Treasury
securities purchase, if it occurs, not only will slow U.S. economic growth but will
depress U.S. imports from other major partners that in turn could slow their economies.
Correspondingly this could weaken the global appetite for Chinese products.