Wednesday, August 19, 2009

What do they know that we don't?: China begins "massively" unloading US debt. Or are they?

My thanks to Bob Wright for forwarding me this from Stratfor:

China: A Heralded Sell-Off of U.S. Treasury Debt

Stratfor Today » August 19, 2009 | 1209 GMT


Chinese state-run media reported Aug. 18 on Beijing’s “massive” offloading of U.S. Treasury securities in June. Headlines and stories emphasized the more than $25 billion sell-off, which represented a 3 percent monthly decrease in Treasury holdings. While the drop is significant, the emphasis on selling U.S. debt masks a more complex picture in China.


China’s state-run People’s Daily published an article Aug. 18 with the headline “China massively offloads U.S. debt holdings [for the] first time in 2009.” The article was just one of many in official media commenting on recently released reports of June purchases and sales of U.S. Treasury securities. During the month, China’s overall Treasury holdings fell $25.1 billion to $776.4 billion, a monthly decrease of just over 3 percent.

Beijing is emphasizing this “massive” off-loading of U.S. debt for both internal and external consumption. Domestically, it helps shape the public impression that the Chinese economy is stronger than the U.S. economy (otherwise, why sell U.S. debt?) and that the Chinese government is taking steps to free itself from its economic dependence on the United States as it shifts attention to developing a domestic consumption-driven economy. Internationally, Beijing is also trying to signal confidence through the sell-off, hoping perhaps for concessions in its other trade negotiations with the United States.

But a closer look at the pattern of Chinese Treasury holdings paints a different picture. As the United States recovered from its post-millennial slump and the now-infamous housing bubble inflated, American consumer borrowing and spending increased dramatically. China stepped in as both vendor and financier to American households, finding a place to invest its rapidly rising foreign currency reserves while also stimulating a major consumer market for Chinese goods. Inexpensive Chinese goods lined U.S. retail shelves, and Chinese purchases of U.S. debt helped keep interest rates low and American consumers happily spending.

This relationship held firm until the initial glimmers of the current financial crisis appeared in late 2007. When the U.S. subprime housing bubble burst, China reacted by dumping American assets — including its holdings of U.S. Treasury debt. Then the financial crisis went global and suddenly nothing looked safe. Everything from commodities to foreign stocks tanked as the world sought the safety of U.S. Treasury debt, a traditional safe-haven asset. Having nothing to gain by swimming against the tide, and perhaps having overreacted to the initial crisis, China reversed course again and bought more Treasury debt.

In the third quarter of 2008, the continued volatility of the financial crisis prompted a shift toward short-term debt in the composition of China’s portfolio. In a financial crisis, cash is king, and short-term U.S. Treasury bills — held to maturity for less than one year — are the closest securities available that provide the liquidity of cash and the advantages of stabilizing the all-important American debt market. While total Chinese holdings of U.S. Treasury debt grew by more than 45 percent from the summer of 2008 to the present, short-term debt grew from 2.6 percent to 26.3 percent in May 2009.

China’s “dumping” of U.S. Treasury debt in June, while notable, is certainly not game- changing. If China wanted to truly dump U.S. debt, it would certainly not trumpet that fact in its media, thus risking the possibility of a disastrous sell-off. In reality, China has been a net seller of Treasury debt as recently as April.

Even during the boom years of 2005-2006, China sold off U.S. debt in seven different months. Yet underneath the headline figure of $25 billion in net sales is $27 billion in purchases of long-term debt. The difference is a $52 billion reduction in China’s holding of short-term debt. On the whole, June’s numbers represent every bit as much a restructuring of China’s portfolio as a “dumping” of American debt.

These first signs of a shift out of short-term debt holdings may reflect a growing confidence by the Chinese in the long-term recovery of the U.S. economy. It may also be an attempt to shoulder some of the burden of the financial crisis and thus speed the resumption of U.S. debt-driven consumption. An understanding of whether or not this was a simple restructuring of China’s holdings of U.S. debt or a signal of an emerging trend will have to wait until a few more months of data come out. What is apparent is that the Chinese portrayal of the shift as a massive dumping of U.S. debt is more of a public relations move than a reflection of underlying reality.


ScottJ said...

It may also be an attempt to shoulder some of the burden of the financial crisis and thus speed the resumption of U.S. debt-driven consumption.

Let us pray not.

Debt is almost as bad as Dave Ramsey says it is.

And me saying that is like a 3 pack a day smoker saying how bad smoking is. But I'm going to fix this problem (I hope).

drjim said...

I wonder how they're redeeming their securities? Bank transfer of worthless greenbacks, or do they want it in gold?

SamenoKami said...

China is unloading US dollars by buying up everything that ain't red-hot and nailed down, while cutting way down on purchase of Treasury notes. This is driving up commodities prices, but they don't care because they see the US $ as worthless in the near future. Better get it while you can. Also good advice for three-pers.

ScottJ said...

SamenoKami said... Better get it while you can.

I am reminded of the chapter in Jeff Cooper's Fireworks titled "Ballistic Wampum".

jon said...

i have made a chart of the historical treasury data. it shows the overall picture, and also the drastic change in the recent allocation trend immediately after the fall 2008 market crash. the numbers are available at in their original format.

the chinese government is likely going to continue rolling over some TIC debt while exercising the rest, and then spending the resulting dollars. they have already begun spending their currency reserves, which includes a lot of USD, on a number of raw materials, including a very large bid for rio tinto.

one reason you do this is for industrial capacity. another reason you do it is for war.