Why China doesn’t sell US Debt
The U.S. Treasury securities are the largest category of U.S. securities and are the main vehicle the U.S. government uses to finance the federal debt. As China experienced a boom in Exports since the 1990s it chose to park its foreign reserves, most of it being US$ in U.S. TREASURY BILLS. As of May 2020, China owns about 4%, or $1.08 trillion, of the $25.8 trillion U.S. national debt.
The data used to plot the scatter graph was extracted from the following sources:
- Securities (B): Portfolio Holdings of U.S. and Foreign Securities (treasury.gov)
China, under Deng Xiaoping meticulously studied the Soviet Union’s collapse and drew at least three lessons:
1. AVOID POLITICAL LIBERATION:
Avoid political reforms pursued by Mikhail Gorbachev that were seen to weaken the Communist Party’s grip.
2. BLAME THE MAN: MIKHAIL GORBACHEV
Mikhail Gorbachev reduced the power of the Communist Party of the Soviet Union and pushed for democracy. This is largely resented by the Chinese Communist Party (CCP), he is seen as a weak leader who single-handedly ended the Communist regime. It is famously speculated that Xi Jinping’s first pledge after becoming the leader of the CCP was to never allow the party to suffer the same fate of the Communist Party of the Soviet Union.
3. BLAME THE SYSTEM:
Mismanagement, stagnation of the economy and excessive political bureaucracy. This led to Deng reforming the economy. Much of China’s development since the economic reforms and opening up has been led by booming factory towns mainly along the Eastern Coast. One of these reforms was a weaker yuan.
Why a Weaker Currency?
A weaker currency would make domestically made goods more competitive against imports in the Chinese market and will hence also help exports. It would also make it easier for China to lower tariffs, thereby helping it shed its image as a protectionist nation.
How does China seek a weaker currency?
International trade which involves two currencies has a self-correcting process:
· Let us consider that China is running a current account deficit (i.e., China is importing more than it is exporting).
· The other countries which are sending goods to China are getting paid in the Chinese currency (Yuan), so there is a huge supply of Yuan in the international market, leading the Yuan to depreciate in value against other currencies.
· However, this decline in Yuan will make Chinese exports cheaper and imports costlier.
· Gradually, China will start exporting more and importing less, due to its lower-valued currency.
· This will ultimately reverse the initial scenario (scenario mentioned above).
This is the self-correcting process that occurs in the international trade and foreign exchange markets regularly, with little or no intervention from any authority. It is a self correcting process for most of the developed nations as they have a floating exchange rate. Chinese yuan is pegged to the USD.
China being China!! Intervenes.
· It buys the available surplus U.S. dollars from the exporters and gives them the needed Yuan. It does this through the PBOC (People’s Bank of China ).
· PBOC is to China, what the RBI is to India.
· PBOC can print yuan as needed just like any other Central Bank in the World.
· Effectively, this intervention by the PBOC creates an undersupply of U.S. dollars, which keeps the U.S. dollars rates higher. As compared to the Yuan.
· China hence accumulates U.S. dollars as foreign exchange reserves.
If the PBOC stops intervening the Yuan would self-correct and appreciate in value, thus making exports costlier. It would also lead to a major crisis due to the loss of export business.
For China to keep its goods competitive in the international markets the Yuan should not appreciate.
Hence China won’t sell its US Treasury Holdings.
SY B.Sc. Economics