WASHINGTON—In the beginning of January, China—with $755 billion in U.S. Treasury securities—slipped to the second-largest lender to the United States, about 1.82 percent behind Japan, according to a recent testimony before the U.S.-China Economic and Security Review Commission (USCC).
But those numbers are vastly understated, according to analysts. In reality, China’s holdings are close to $1 trillion, and far more than what’s recorded on U.S. Treasury books. China buys securities through intermediaries in countries other than China, which hides the ultimate buyer’s identity.
“The U.S. Treasury data almost certainly understate Chinese holdings of our government debt because they do not reveal the ultimate country of ownership when instruments are held through an intermediary in another jurisdiction,” according to testimony by Simon Johnson, professor at MIT Sloan School of Management, at the February U.S.-China Economic & Security Review Commission hearing.
The U.S. Treasury notes on its Web site that the statistical information it publishes may be incorrect because the owner, in this case China, may keep foreign currency earnings in foreign bank accounts, which in turn is used to buy the securities. The Treasury only records the country in which the securities are kept or from where payments are received.
Dumping U.S. Securities
The media proselytized all kinds of scenarios when China’s holdings declined by roughly $50 billion in mid-2009, and worry-mongering hit the airwaves again later on in that year, which—looking back—was no more than sensationalism at its best.
The Chinese are well aware that if they start a sell-off of U.S. securities, the value of the securities would drop, resulting in substantial losses.
Economic theory advocates that if any government with large holdings in U.S. Treasury securities would start liquidating part or even all of these holdings, the market would react immediately. The price of the securities would take a nosedive and interest rates would rise, given the inverse relationship between the price of securities and interest rates. The dollar would plummet, making American goods a cheap commodity throughout the world.
A more likely scenario is that China could sell off its short-term securities, on which yields have dropped considerably, and convert them to long-term securities with higher yields.
By the beginning of March, the three-month Treasury bill yield had dropped by roughly 85 percent to about 90 basis points, while long-term yields are much higher, depending on the maturity date.
China cannot spend the money it earns and parks outside its borders in China, as it will only increase the in-country money supply—but after it circles through the system, it will return to the Beijing government coffers, according to Derek Scissors’s testimony at the hearing. Scissors is from The Heritage Foundation’s Asian Study Center.
“China runs by far the world’s largest balance of payments surpluses. These cannot be spent at home and are too large to put anywhere other than the United States. No other country has financial markets capable of absorbing them,” he says.
Mercantilist Activities Destroying Competition
“China has pursued mercantilist policies to promote its interests and increase our dependence on their production and their capital,” said Michael Wessel, USCC Commissioner during the hearing.
When a country sells more to another country than it buys, it can be accused of mercantilist behavior.
In the case of China, trade imbalances with other countries are staggering and only because of anti-competitive behavior by the Chinese. Most markets are wide open, especially the U.S. market, while China’s trade barriers are insurmountable. Trade barriers include unfavorable import regulations, import restrictions, unjustifiable custom requirements, and especially buy-Chinese-only directives by the Chinese regime.
There isn’t one country that can compete with China in terms of cheap labor, as Chinese companies sometimes hold employees in servitude, paying little or nothing for labor. Furthermore, many of China’s products are produced in prison camps by forced labor at zero cost.
India’s Commerce Minister Anand Sharma took the matter of trade imbalances up with China during his recent visit. Imports from China to India increased by around 35 percent in 2009 over the prior year.
By the end of 2009, the trade imbalance between the United States and China had reached unsustainable levels at $227 billion, according to U.S. Census Bureau statistics.
China pegs its currency to the dollar, making its products cheaper in the United States and markets around the world.
Peter D. Schiff, an American author and stockbroker, stated his concern in a recent article published on his blog.
“By maintaining the peg, China enables our politicians and citizens to continue spending more than they have and avoiding the hard choices necessary to restore our long-term economic health.”
Agreeing with Schiff, Wessel said during the USCC hearing, “The U.S. has all-too-willingly accepted this situation and failed to take steps to rebalance the relationship.”
Stuck at Status Quo
MIT Professor Johnson testified that there is little the United States can do at this time. Bilateral negotiations are worthless and a waste of time. The International Monetary Fund is hopeless and Johnson called it a “paper tiger.”
He goes on to say that if China pulls the plug, the value of the dollar will take a plunge and America will become much more competitive in the world market, which is a great deal.
But in the long run, the issue should be raised during the next G20 meeting, and the member countries should define a strategy dealing with the Chinese market distorting strategies.
The G20 is a group of 20 finance ministers and central bank governors who consult and cooperate with each other concerning international financial matters.
Furthermore, the World Trade Organization’s mandate should be expanded to include exchange manipulation.
The U.S. Treasury should call China a currency manipulator in its next report to Congress despite China’s threat to sell Treasury stock. Johnson sees this as a bluff, and advised that “This bluff should be called.”
