jungle

China Proposes To Cut Two Thirds Of Its $3 Trillion In USD Holdings
Submitted by Tyler Durden on 04/24/2011 11:05 -0400

HyperinflationMonetary Policy


All those who were hoping global stock markets would surge tomorrow based on a ridiculous rumor that China would revalue the CNY by 10% will have to wait. Instead, China has decided to serve the world another surprise. Following last week's announcement by PBoC Governor Zhou (Where's Waldo) Xiaochuan that the country's excessive stockpile of USD reserves has to be urgently diversified, today we get a sense of just how big the upcoming Chinese defection from the "buy US debt" Nash equilibrium will be. Not surprisingly, China appears to be getting ready to cut its USD reserves by roughly the amount of dollars that was recently printed by the Fed, or $2 trilion or so. And to think that this comes just as news that the Japanese pension fund will soon be dumping who knows what. So, once again, how about that "end of QE" again?


From Xinhua:

China's foreign exchange reserves increased by 197.4 billion U.S. dollars in the first three months of this year to 3.04 trillion U.S. dollars by the end of March.

Xia Bin, a member of the monetary policy committee of the central bank, said on Tuesday that 1 trillion U.S. dollars would be sufficient. He added that China should invest its foreign exchange reserves more strategically, using them to acquire resources and technology needed for the real economy.

And as if the public sector making it all too clear what is about to happen was not enough, here is the private one as well:

China should reduce its excessive foreign exchange reserves and further diversify its holdings, Tang Shuangning, chairman of China Everbright Group, said on Saturday.

The amount of foreign exchange reserves should be restricted to between 800 billion to 1.3 trillion U.S. dollars, Tang told a forum in Beijing, saying that the current reserve amount is too high.

Tang's remarks echoed the stance of Zhou Xiaochuan, governor of China's central bank, who said on Monday that China's foreign exchange reserves "exceed our reasonable requirement" and that the government should upgrade and diversify its foreign exchange management using the excessive reserves.

Tang also said that China should further diversify its foreign exchange holdings. He suggested five channels for using the reserves, including replenishing state-owned capital in key sectors and enterprises, purchasing strategic resources, expanding overseas investment, issuing foreign bonds and improving national welfare in areas like education and health.

However, these strategies can only treat the symptoms but not the root cause, he said, noting that the key is to reform the mechanism of how the reserves are generated and managed.

The last sentence says it all. While China is certainly tired of recycling US Dollars, it still has no viable alternative, especially as long as its own currency is relegated to the C-grade of not even SDR-backing currencies. But that will all change very soon. Once the push for broad Chinese currency acceptance is in play, the CNY and the USD will be unpegged, promptly followed by China dumping the bulk of its USD exposure, and also sending the world a message that US debt is no longer a viable investment opportunity. In fact, we are confident that the reval is a likely a key preceding step to any strategic decision vis-a-vis US FX exposure (read bond purchasing/selling intentions). As such, all those Americans pushing China to revalue, may want to consider that such an action could well guarantee hyperinflation, once the Fed is stuck as being the only buyer of US debt.

TonyWilliams

I expect nothing short of inflation like the first world has never seen.

jungle

Always possible, but the other side is that this would cause the FED to lose control of interest rates in a scenario similar to other countries in recent history. As interest rates soared, housing, the stock market and growth would take a severe hit.

The result might be a massive deflation driven by high debt levels in both the public and private sector. See also: 1929

There are very good arguments for both outcomes as well as stagflation or biflation. It isn't going to be pretty in any case.

tomgoodman

So we are fated to be flated, whether it's hyper in, massive de, stag, or bi.

jungle

Fated to be 'flated whether in,de,stag or bi

What with all the fluctuations, we'll be massively flucted and wonder why

Flucted proper, like a rabbit, he said with a sigh

It may take a year or two, it may be tomorrow

But that is what happens if you only can borrow

"Him that takes what isn't hiz'n, must pay it back or go to prizn"

Lester Burnham

I don't see anything other than a brief deflation period (although I side with inflation). The deflation following the 1929 crash was at a time that the dollar was backed by gold. I don't see how people will stay in the dollar when everything crashes since it's no longer backed by anything. Got gold/silver?

tomgoodman

The house will fall, so get your licks in;
Don't go to priz'n, put the fix in.