Monday 8 March 2010
China’s US$2.4 trillion foreign-exchange riddle
Where exactly is China investing its US$2.4 trillion in foreign exchange reserves? Most economists agree that a substantial chunk, and perhaps the majority, of those reserves are invested in US Treasuries - debt issued by the US government to finance its spending.
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China’s US$2.4 trillion foreign-exchange riddle
Tom Orlik
08 March 2010
Where exactly is China investing its US$2.4 trillion in foreign exchange reserves? Most economists agree that a substantial chunk, and perhaps the majority, of those reserves are invested in US Treasuries - debt issued by the US government to finance its spending.
Until quite recently, monthly data published by the US Treasury supported that thesis. The Treasury International Capital System (TIC) - a massive data collection effort by the bean counters in Washington - showed a steady increase in China’s holdings of US Treasuries. Holdings did not increase by as much as the increase in China’s foreign exchange reserves, but they did grow steadily enough to confirm that China’s State Administration of Foreign Exchange remained the US Treasury’s best customer.
But, in the second quarter of last year, that relationship started to break down. China’s foreign exchange reserves continued to grow at a rapid pace, but the Treasury data picked up little if any increase in China’s holdings of US Treasuries.
Data from the People’s Bank of China shows that between April and December last year, China added a whopping US$441 billion to its foreign exchange reserves. But according to purchases picked up by the monthly TIC data over the same period, China’s total holdings of US Treasuries fell by US$12 billion.
That discrepancy flies in the face of common sense. China has continued to run a substantial trade surplus with the US. If Beijing’s foreign exchange managers were not reinvesting that surplus in US dollars, the brutal logic of supply and demand in international currency markets would force the yuan to appreciate against the dollar. But it has not, suggesting that China continues to park its reserves in US dollar debt.
Enter the Treasury’s annual survey of foreign holdings of US securities, which pieces together who is really buying US Treasuries. The results of the latest survey show China’s purchases of US Treasuries continued unabated. The results propel China back into first place as the biggest holder of US Treasury debt, with US$894 billion.
What the annual survey captures, that the monthly data misses, is a bias in the monthly data that attributes Treasury purchases to the place they are purchased, not the country of ownership.
Beijing’s foreign exchange managers appear to be taking advantage of flaws in the system to hide their purchases - deliberately channelling purchases through London and other centres to hide the increase in their holdings.
The motivation is probably partly domestic public opinion, which is decidedly averse to financing the profligate US government. At the same time, signalling intentions to the markets makes little sense.
For Beijing, hiding its purchases of US Treasuries plays to the nationalist gallery by hiding the fact that China continues to fork out its cash to finance the US deficit. And it keeps the financial markets guessing on where China is investing its money. If that means the rest of us also stay in the dark, that’s just too bad.
Tom Orlik is the China economist for Stone & McCarthy Research Associates, based in Beijing
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