Tuesday, February 10, 2009

China Wants U.S. Treasury Guarantees

In a day when the schizophrenic market's antipsychotics finally kicked in, the scariest piece of news did not come out until very late, and this one has the potential to really throw the Treasury a curveball. Yo Yongding (cruel, cruel parents), former advisor to China's Central Bank is agitating China to seek guarantees on its $682 billion of U.S. Treasury Holdings, so that these do not get eroded by "reckless policies."

Bloomberg has the following to say:
"The U.S. should make the Chinese feel confident that the value of the assets at least will not be eroded in a significant way,” Yu, who now heads the World Economics and Politics Institute at the Chinese Academy of Social Sciences, said in response to e-mailed questions yesterday from Beijing. He declined to elaborate on the assurances needed by China, the biggest foreign holder of U.S. government debt.

In [upcoming] talks with Secretary of State Hillary Clinton, China will ask for a guarantee that the U.S. will support the dollar’s exchange rate and make sure China’s dollar-denominated assets are safe, [and that this] would be one of the prerequisites for more purchases.”

“The government will be a net buyer of Treasuries in the short-term because there’s no sign they have changed their strategy,” said Zhang Ming, secretary general of international finance research center at the Chinese Academy of Social Sciences in Beijing. “But personally, I don’t think we should increase holdings because the medium- and long-term risks are quite high.”

While China may be posturing after suffering $5 billion in losses on its $10.5 billion investments in Blackstone, Morgan Stanley and TPG, this is a very serious threat. Granted, China does not have many options of where to invest its surplus cash, although refocusing on its own economy and expanding its fiscal assistance policies (ala what the U.S. is doing) is an option, thereby making it less of a sure investor in U.S. debt. Yu further confirms this threat:
A decline in reserves “isn’t likely because of China’s huge twin surpluses,” Yu
said. China “should diversify its reserves away from U.S. Treasuries if the
value of China’s foreign- exchange reserves is in danger of being inflated away
by the U.S. government’s pump-priming,” he said.
Although this is most likely a preamble to a diplomatic escalation arising from Geithner's initial claims about currency manipulation by China, the threat that the U.S. may lose it largest foreign debt purchaser should be enough to make people in the administration very worried. China is currently in a position of strength relative to the U.S., and only an altruistic desire to cooperate from a game theory p.o.v. will prevent a huge blow to the U.S. economy (which would of course impact China as well). In all likelihood, China is reminding the U.S. that it is no longer the big dog in the economic playground and that wisecracks like Geithner's, or a neo-unilateralist economic policy will not longer be tolerated. Sphere: Related Content
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Anonymous said...

china stops buying treasuries, the yuan spikes, their economy tanks, fdi goes flying out of china and into treasuries.

china is screwed.

Anonymous said...

I don't see China having anymore leverage than the US here. It's mutually assured destruction.

Besides, dollar devaluation is a good thing. High treasury yields maybe not so good, nor would it be great if dollars lost their reserve status, but a lower dollar would force the US to become what it needs to be: a net producer of goods.

Unknown said...

@ broken... great point

Anonymous said...

Broken , what you said is key... net producer of goods...

Anonymous said...

what anon & tyler said...net producer of good goods...

Anonymous said...

Yu Yongding is the same 'academic' who warned Paulson that he'd better stand behind the GSEs. Two days later, the Treasury guaranteed agency paper.

Cleanthes said...

China would do well to buy lots of raw materials, like say, iron ore, before they do anything like this.
Hmmm, the Baltic Dry Index has shown them buying lots of iron ore. Gold & Silver would be good purchases, too. And maybe the ammunition shortage in Florida isn't just caused by the rumor of an Obama administration tax.
But, true, the Chinese have nothing in their history that suggests sudden policy changes. They've never sent millions of men across the Yalu or had a Great Leap Forward or anything like that. Whew, we'll be okeydokey.