Beijing is seeking to pay for its own $600 bn stimulus as its economy slows
The declining Chinese appetite for US debt, apparent in a series of hints from Chinese policymakers over the past two weeks, with official statistics due for release in the next few days, comes at an inconvenient time.
On Tuesday, US president-elect Barack Obama projected trillion-dollar deficits "for years to come," even after an $800 billion stimulus package. Normally, China would be the most avid taker of the debt required to pay for those deficits, mainly short-term Treasuries, which are government IOUs.
In the last five years, China has spent as much as one-seventh of its entire economic output buying foreign debt, mostly American. In September, it surpassed Japan as the largest overseas holder of US Treasuries.
Only now, Beijing is seeking to pay for its own $600 billion stimulus — just as tax revenue is falling sharply as the Chinese economy slows. Regulators have ordered banks to lend more money to small and medium-size enterprises, many of which are struggling with lower exports, and to local governments to build new roads and other projects.
"All the key drivers of China's treasury purchases are disappearing — there's a waning appetite for dollars and a waning appetite for treasuries, and that complicates the outlook for interest rates," said Ben Simpfendorfer, an economist in the Hong Kong office of the Royal Bank of Scotland.
Fitch Ratings, the credit rating agency, forecasts that China's foreign reserves will increase by $177 billion this year — a large number, but down sharply from an estimated $415 billion last year.
China's voracious demand for US bonds has helped keep interest rates low for borrowers ranging from the federal government to home buyers. Reduced Chinese enthusiasm for buying US bonds will reduce this dampening effect.
For now, of course, there seems to be no shortage of buyers for treasury bonds and other debt instruments as investors flee global economic uncertainty for the stability of US government debt. This is why treasury yields have plummeted to record lows. (The more investors want notes and bonds, the lower the yield, and short-term rates are close to zero.)
The long-term effects of China's using its money to increase its people's standard of living, and the US's becoming less dependent on one lender, could even be positive. But that rebalancing must happen gradually to not hurt the value of US bonds or of China's huge holdings.
Another danger is that investors will demand higher returns for holding Treasury securities, which will put pressure on the US government to increase the interest rates those securities pay. As those interest rates increase, they will put pressure on the interest rates that other borrowers pay.
When and how all that will happen is unknowable. What is clear now is that the impact of the global downturn on China's finances has been striking, and it is having an effect on what the Chinese government does with its money.
A senior central bank official, Cai Qiusheng, mentioned just before Christmas that China's $1.9 trillion foreign exchange reserves had actually begun to shrink. The reserves — mainly bonds issued by the Treasury, Fannie Mae and Freddie Mac — had for the most part been rising quickly ever since the Asian financial crisis in 1998.
The pace of accumulation began slowing in the third quarter along with the slowing of the Chinese economy, and appears to reflect much broader shifts.
China manages its reserves with considerable secrecy. But economists believe about 70% is denominated in dollars and most of the rest in euros.
China has bankrolled its huge reserves by effectively requiring the country's entire banking sector, which is state-controlled, to take nearly one-fifth of its deposits and hand them to the central bank. The central bank, in turn, has used the money to buy foreign bonds.
Now the central bank is rapidly reducing this requirement and pushing banks to lend more money in China instead. NYT
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