China has been stocking up on U.S. Treasury securities and U.S. Forex for decades. Some wonder whether China is trying to buy out the U.S. markets over it’s debt accumulation, or if it is somehow forced to do this. There is a silent fear that if China were to dump all it’s U.S. Treasury bonds and the stockpiled U.S. Forex it owns, the U.S. currency value would rapidly plummet downward, causing economic havoc.
Trade data from the U.S. Census Bureau shows that China has had a big trade surplus with the U.S. since 1985. In other words, China is exporting more goods and services to the U.S. than the U.S. sells to China.
101 in Chinese economics
China is a manufacturing hub and an export-driven economy. Chinese exporters get paid in U.S. dollars for their goods sold to the U.S. However, they can only pay their workers or store their money locally in Renminbi (RMB or yuan). So they sell the dollars they receive through exports to get RMB. This in return increases the amount of U.S. dollars in circulation, and raises the demand for RMB. In other words, the more dollar bills there are floating around, the more the purchasing power of the U.S. dollar starts dropping. This makes it more difficult for the U.S. to afford imports from the export-driven China. Which in return hits China’s export-based revenue cycle hard.
China’s central Bank (People’s Bank of China—PBOC) has come up with a slick solution to balance the equation and prevent an imbalance between U.S. dollars and Chinese yuan in its local markets. The Chinese Bank intervenes by buying the available excess U.S. dollars from exporters, and gives them the required yuan. The PBOC can print yuan as needed. This slick-trick by the PBOC creates a U.S. dollar scarcity, which in effect keeps the U.S. dollar rates higher. China then stashes the accumulated U.S. dollars it bought as Forex reserves.
China-US business a Game of Thrones
The strategy goal behind China’s steady purchase of U.S. currency is to maintain an export-fueled growth, so it can generate jobs and continually grow to keep it’s huge population productive. Because China’s growth strategy relies on exports (largely to the U.S.), China needs its RMB to have a lower value than the U.S. dollar on the foreign exchange market. This is necessary if China wants to offer cheaper prices that fuel its export business. Should China’s RMB appreciate and the yuan currency value go up, China would face a crisis—export goods would get pricier, which could lead to a major job crisis in it’s export-based industries. For this reason, China makes an effort to keep it’s currency exchange rate as low as possible compared to that of the U.S. dollar by buying up U.S. dollars from its local markets. The result is a huge pileup of foreign currency.
Put your money to work
Since China has a tremendous stockpile of foreign currency, the question at hand might be: “What the heck does China do with all that foreign currency?” Well, the answer is “investment.”
China is the largest buyer of U.S. debt. It literally eats up U.S. Treasury securities.
China has discovered that buying U.S. debt seems to be the safest investment destination for Chinese Forex reserves. In other words, China offers loans to the U.S. so that the U.S. can keep buying the goods China produces. This principle works with any other nation and it’s currency. However, because of the stability of U.S. treasuries, China prefers these over those of other nations.
Don’t always want to, but have to
The before-told principle creates a huge interdependence between the two economies involved. If China, or for that matter any other nation having a trade surplus with the U.S., stops buying U.S. treasuries or even bluntly said, dumps its U.S. Forex reserves, it could get prickly for the U.S. and any other country relying on the Forex value of the U.S. dollar to its currency for its exports.
However, there is no reason for concern that China would do the above-mentioned, because it would be harming itself as a result, as well.
And so the fire keeps on burning, and the wheels keep on turning, driving the big locomotive called the global economy. Ironically, wealth is often pursued by the individual; however, reality often proves that it can not be maintained without a joint effort.