Monday, 23 June 2008

US assets in Chinese hands

The debate over the large and increasing holdings of US assets by China. Bloomberg investigates.

China Adds to Holdings of U.S. Assets, Buys More Agency Debt [Bloomberg]

June 17 (Bloomberg) -- China is adding to its holdings of U.S. assets, data from the U.S. government showed yesterday, easing concern the Asian nation will sell dollar investments.

Total holdings of U.S. equities, notes and bonds among foreign investors rose by a net $115.1 billion in April from $79.6 billion the previous month, the Treasury Department said yesterday in Washington. China's holdings of Treasuries gained $11.4 billion to $502 billion, holdings of U.S. agency debt rose $11.9 billion and U.S. corporate bond investments increased $6.9 billion, data showed.

``China was a big buyer of U.S. securities,'' wrote Win Thin, a New York-based senior currency strategist at Brown Brothers in a research note today.

China is the second largest holder of U.S. Treasuries after Japan, investing almost one-third of its $1.68 trillion in currency reserves in U.S. government debt. The U.S. dollar's decline has triggered concerns that Beijing would seek other forms of investments for its currency reserves.

``I don't think it's a smart move to invest in U.S. bonds,'' said Cheng Siwei, former vice chairman of the National People's Congress, China's legislature, at a Beijing conference on June 13. Cheng had said on Nov. 7 that China should improve the structure of its foreign reserves by favoring stronger currencies.

`No Sign'

The data showed ``there has been no sign that either China or Japan are decreasing dollar holdings,'' Win wrote in his report. ``Rather the data continued to show diversification by the two within U.S. securities.''

Japan decreased its holdings by $8.5 billion to $592.2 billion in April, the data showed. Its holdings of U.S. agency debt gained $2.6 billion, corporate bonds rose $1.1 billion and U.S. equities increased $1.1 billion.

The drop in Japan's total net holdings of U.S. assets in April ``really isn't worrisome as it comes on the back of three straight months of gains totaling $51.5 billion across all categories,'' Brown Brothers wrote in the note. ``It is important to look at the entire spectrum of investment holdings and not just on the narrow U.S. Treasury holdings,'' it said.

China Financial Markets comments in more detail (excellent reading as always):

Of course Chinese dollar holdings rose, but something changed drastically[China Financial Markets]

It now seems that China’s rate of reserve accumulation, seemingly unsustainable even two years ago, has reached even higher levels, but what is powering it now is not the (relatively) stable trade surplus and FDI accounts but rather highly unstable speculative inflows (for an explanation of how reserve accumulation has been generated see “What? $74.5 billion? Is this a mistake?”). If I am right, it seems to me that there has not just been a quantitative change in China’s and the world’s balance of payments accounts in recent months (i.e. even more rapid growth in an already unsustainable rate of Chinese foreign currency reserve growth), but also a qualitative change – the cause of China’s reserve growth has shifted significantly. The old mechanism, large trade deficits in some countries balanced by rapid reserve accumulation in others, has been converted into something much more complex and maybe even pro-cyclical (hence volatility enhancing): large trade deficits in some countries plus massive speculative inflows in others are being balanced by even more massive reserve accumulation in the latter countries.

I still need to work out in my mind what some possible implications are, but I would be lying if I said I didn’t find this change worrisome. My instinct is that because of the intensely pro-cyclical nature of speculative inflows, this new system is a lot less stable than the old one.


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