China Cuts Purchases of Treasuries and Foreign Bonds

We’ve mentioned earlier that it was inevitable that China would reduce its purchases of Treasuries, independent of its desire to diversify away from them. With trade falling (although China still has a high surplus) and hot money inflows reversing direction, China has less reason to buy foreign assets.

From the New York Times:

Reversing its role as the world’s fastest-growing buyer of United States Treasuries and other foreign bonds, the Chinese government actually sold bonds heavily in January and February before resuming purchases in March, according to data released during the weekend by China’s central bank.

China’s foreign reserves grew in the first quarter of this year at the slowest pace in nearly eight years, edging up $7.7 billion, compared with a record increase of $153.9 billion in the same quarter last year.

China has lent vast sums to the United States — roughly two-thirds of the central bank’s $1.95 trillion in foreign reserves are believed to be in American securities. But the Chinese government now finances a dwindling percentage of new American mortgages and government borrowing.

In the last two months, Premier Wen Jiabao and other Chinese officials have expressed growing nervousness about their country’s huge exposure to America’s financial well-being.

Chinese reserves fell a record $32.6 billion in January and $1.4 billion more in February before rising $41.7 billion in March, according to figures released by the People’s Bank over the weekend. A resumption of growth in China’s reserves in March suggests, however, that confidence in that country may be reviving, and capital flight could be slowing.

The main effect of slower bond purchases may be a weakening of Beijing’s influence in Washington as the Treasury becomes less reliant on purchases by the Chinese central bank….

There have also been some signs that Americans may consume less and save more money in response to hard economic times. This would further decrease the American dependence on Chinese savings.

Yves here. That is more than a tad misleading. All signs are that consumer savings are debt reduction (the official reports of “savings” merely measures income versus consumption and does not differentiate whether the difference is debt paydown or an increase in liquid assets that could be used for investments such as Treasuries). The picture is further muddied by the clampdown on consumer credit. Money mavens for the masses such as Suze Orman, who formerly advised paying down on credit card debt as quickly as possible, now are telling consumers to build up an 8 month cash reserve and make only minimum card payments, since card companies are often cutting credit lines and not extending new credit. Thus families can no longer rely on credit cards as a source of emergency money and need to look to their own resources. Back to the story:

The abrupt slowdown in China’s accumulation of foreign reserves instead seems to suggest that investors were sending large sums of money out of mainland China early this year in response to worries about the country’s economic future and possibly its social stability in the face of rising unemployment.

Evidence of such capital flight included a flood of cash into the Hong Kong dollar. Mainland tourists were even buying gold and diamonds during Chinese new year holidays here in late January….

Some economists contend that slower growth in Chinese foreign currency reserves is not important to the economic health of the United States, even though it may be politically important. In the first quarter, instead of the Chinese government sending money out of the country to buy foreign bonds, Chinese individuals and companies were buying many of the same bonds.

“The outflow would mostly end up in the U.S. anyway,” even if China is no longer controlling the destination of the money, said Michael Pettis, a finance professor at Peking University, in an interview on Thursday..

Pettis is a China maven, so I am sticking my neck out in questioning him, but I see no reason to assume that Chinese retail investors would have a strong preference for the US. First, they have to see the same risk of currency depreciation that worries the officialdom. Second, Chinese are famous punters, so I could easily see their speculative tendencies leading them to play multiple markets, and not simply funnel funds to the US. The Japanese, who have historically been far less venturesome, in very short order had a large cohort of retail currency speculators, who in aggregate moved far more money that US hedgies playing the carry trade, and they often were in minor currencies (New Zealand dollar, Turkish lira). If Japan, why not China?

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  1. utopia or bust

    Naked Capitalism,

    In lieu of May Day 2009, I’m inviting bloggers to participate in an online blog event on the topic of revolution to share our ideas and each others’ blogs.

    Take the time to answer the question, “When/if there is a revolution in the United States, what will it look like?”

    See my blog for more details.

    – uob

  2. In Debt We Trust

    I would not get so excited yet.

    TIC Data is being released on Wed, April 15 (what a coincidence huh? As the Chinese would say…”What an auspicious day!”)

    Compare net inflow of foreign money w/projected net inflow of US tax receipts. One or the other should be exercises in futility when you consider how cooked the numbers are likely to be.

  3. bb

    the march buildup in reserves is mostly due to markups in existing holdings. anyone heard of ‘the new bull market’?!?!
    do not expect anything but monetization of treasury debt over the next year or two.

  4. retread


    Let’s see, the dollar has been falling (although China has been keeping a hard currency peg of late) and longer dated Treasuries are if anything a bit lower than when Bernanke announced his plans to by $300 billion in Treasuries.

    Bonds are not stocks, I suggest you keep your markets straight.

  5. Anoddamoose

    I too was struck by this article when I first read it. It does seem to stray from the truth, certainly from common sense.

    I remember a year or so ago a lot of fretting about the US needing to borrow on the order of $3 billion a day to keep the wheels turning. The comments back then were that if China were to merely MAINTAIN or SLOW, rather than eliminate, Treasury and Agency purchases that the US would be in a world of hurt.

    Now the trade deficit is “under control” with the collapse of global commerce, but the fiscal side of the picture is completely out of control. We are staring at a federal budget deficit in excess of $10 trillion, and many trillions more in the alphabet programs, off-book items and shaky guarantees issued to various financial institutions.

    If we find ourselves in need of, say, $15 trillion over the next year (a not unreasonable estimate) we are up to needing over $4 billion each and every day from our foreign creditors.

    The Chinese have fired a warning shot across our bow, and both they and the Japanese have some serious internal issues to address. I don’t think we can assume that they will step up to the plate for $4 billion a day, especially with their trade surpluses collapsing. They might not dump their foreign reserves on the open market, but it is understandable that they may be loath to see them increase.

    So who is left? The American taxpayer. What does that mean, since the American taxpayer is in hock up to their eyeballs, and they may or may not have a job?

    It means that Chairman Ben is and will be firing up the helicopter. To this point the money has been falling on the bankers, but the distribution is going to widen dramatically as one industy after another needs a bailout (life insurance could be interesting).

    The outstanding question is whether he can cause cash to fall out of the helicopter faster than it is dragged earthward under the weight of massive credit destruction.

    Sadly, I fear this is only beginning. There are simply too many bad credits running around out there. Ben can only throw so many dollars out of the helicopter before the dollar comes under serious pressure (probably due to some black swan or another) and interest rates must be increased to continue funding the US. That is when the real depression hits … when interest rates get cranked up and blow away a massive pile of marginal credits.

    Devaluation, default. Or worse, with the tectonic shifts in the international landscape that are now occurring as this crisis unfolds. Who is going to pay for our military? For health care? For education? For the social safety net? Who indeed.

    We have spent our seed corn on nonproductive assets. That puts us in a bit of a pickle, particularly since the funds we are borrowing are in no way addressing the need for seed corn. No, those funds are going to the banks, and they are being extracted by the executives of those banks and by the shareholders and, particularly, the bondholders.

    No seed corn, no corn. Seems obvious, but common sense (and common decency) seems to have been long ago disgorged from both Wall Street and D.C. When those committing the fraud have the financial levers, the regulators, and government well in hand … well, there is little hope for any kind of happy resolution.

    I’m glad I never had kids, and I feel genuine compassion for the younger generation(s) who will be responsible for this mess … and not just in the form of higher taxes. The US is going to fundamentally change, in a rude and shocking manner. Tick, tock … and your representatives in Congress apparently don’t give a damn.

    So yes, the Chinese and Japanese are VERY much in the driver’s seat. Particularly with the Chinese, we may find the route they choose to drive to be, um, not to our tastes.

    If you are not afraid, very afraid, at least be humble enough to be skeptical, very skeptical. The low rate introductory period is coming to a close and the upcoming statements (auctions) are going to be a progressively ruder shock as time advances.

  6. Anonymous

    Any article about Chinese reserve holdings that doesn’t quote (extensively) from Brad Setser isn’t worth reading, IMO.

  7. pigeon

    Dear Yves,
    why do you think, that the hint to growing american savings is misleading? I cannot see a substantial difference with respect to the global balance of payments whether they put more money in their bank accounts or reduce debt. In either way they indeed reduce their dependence on external finance.

    And another comment on Chinas influence: I think the recent move of the Fed to buy long term treasuries, though in to mere symbolic amount has clearly shown who is in the drivers seat: The US by holding the reserve currency. It was a warning shot of saying: “If any of our creditors wants to put pressure on us, he should know that in this case we will simply erase the debt by printing the money.”

  8. DownSouth


    I agree up to the point where you say: “Ben can only throw so many dollars out of the helicopter,” followed by your conclusion that it will be “Devaluation, default.”

    I say hogwash. It can be devaluation and default or it can be inflation. The decision as to which it will be will be purely political.

    Instead of sitting around trying to divine some specific prediction, wouldn’t a much more prudent course of action be to engage in what they call “scenario planning”? In other words, if it’s devaluation and default one has a plan for survival, and likewise if it’s inflation one has a plan for survival?

  9. Anonymous

    The American banking system may save the American economy yet. During recessions, banks buy treasuries. It’s part of the improve your balance sheet process and besides, to whom else can they lend?

  10. MyLessThanPrimeBeef

    If your car is skidding, they say the prudent thing to do is to steer into the direction of skid and bring the car to a complete.

    The economy is skidding. The best thing we can do is let it go in the direction it is going and hope it will slow down to a stop eventually. Then we restart. Instead, we try to over-steer and in 6 months, we have gone from inflation to deflation, only to face the prospect of hyperinflation down the road…it’s a like a diverging mathematical series, and we are at the very end (where we flip from one extreme violently to another) just before it completely degenerates into chaos.

    DownSouth, I understand scenario planning, but I would say, for me, I can’t plan my investments because I don’t know which direction the economy is going. Should I buy a still overpriced house thinking inflation will bail me? Should I keep it cash in case of deflation? And if people are like me and hestiate about what they should do financially, it makes an unstable situation even less stable and further prolongs the crisis.

    The best course is still that we let the car come to a stop on its own and then get back on the road when it’s safe.

  11. Sergei

    By the way, if hot Chinese money flows into Hong Kong and end up buying assets here such as real estate or shares, when they convert their RMB into Hong Kong dollar, Hong Kong’s official reserves will increase. Because Hong Kong dollar is pegged to the USD through the currency board system, the Hong Kong Monetary Authority typically buys dollar assets to fund its currency issuance and other liabilities. In fact, it is stipulated in the currency board system that any HKMA issuance has to be backed by US treasury or other hard dollar assets.

  12. Michael Pettis

    Obviously we don’t know for sure where Chinese hot money outflows are likely to end up, but my sense is that most Chinese still see the US as very much a safe haven, and there has even been, apparently, an explosion of Chinese real-estate shopping junkets to the US. More importantly, for all the US problems it is not clear that there is any place much safer – the Chinese worry about Europe and many other western countries, and (except for the government) they absolutely will not put money in developing countries.. One of the most obvious alternative destinations, as Sergei mentions, is Hong Kong, and that indirectly represents dollar purchases anyway. Perhaps another “destination” might be debt repayment (for example if hot money inflows were financed by borrowing against collateral held abroad), in which case this would also eventually end up in the US. We keep digging.

  13. Anonymous

    I agree with Yves here.

    The chinese will start realising that US is close to 100% public debt/GDP by 2012.And baby boom generation is coming to retirement and has declining hydrocarbon resources with massive social nad military obligations.
    I am sure they are savy and realise BRICS have much bettre future prospects and i guarantee they will invest accordingly.

  14. Bruce

    It doesn’t matter whether the Chinese buy US Treasuries or not. No matter how much the Chinese or any other net recipient of dollars proceeds to diversify their holdings out of the dollar, the dollars are still eventually going to be used to buy US government securities.

    Create any chain of a US dollar abroad you want, the last link in the chain either holds the dollars idly receiving zero interest or buys US government securities and receives some rate of interest.

    The only way the Chinese or other nations can break this chain is to not sell us their exports in exchange for US dollars in the first place. What is the chance of that?

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