When Bloomberg initially reported China may be considering halting purchases of US Treasuries, it initially sent yields jumping and stock market futures lower. The threat fits with a pattern of ongoing speculation that Chinese debt purchases and liquidations could be used as a weapon of intimidation.
But was China’s motivation political, or, like much Chinese strategy, was it one of several strategies that could achieve multiple objectives? While global political and economic analysts were scrambling to unravel the correct interpretation behind the debt threat, Capital Economics Chief Asian Economist Mark Williams threw another variable into the motivational soup. How much of the Chinese bond decision was systematic and how much involved actual discretion? In other words, the Chinese debt decisions were already made regardless of the political dynamic.
Are Chinese debt purchases a formulamatic decision?
Chinese debt purchases might be made based in large part on a formula, not just the political whims of leaders. In other words, officials may have little choice in the matter, Williams observes in a January 10 piece titled “PBOC’s hands are tied over US Treasury holdings.”
Despite political rumblings based on the juicy assumption of geopolitical intrigue might be surrounding the decision, one probabilistic outcome is that the People’s Bank of China might simply be filling a numeric mandate.
“China has not been buying US debt for most of the last few years,” Williams wrote. “And, in practice, the People’s Bank has fewer choices over the size or allocation of its foreign exchange purchases than is sometimes assumed.”
As China de-levers its economy, with sub-par or questionable government loans a one-time concern, it creates an interesting market environment. They now have a currency that floats, part of the influential SDR Reserve system, and keeping it stable is a key concern.
Williams explains the technical underpinnings:
For any economy, the volume of foreign asset purchases is simply the inverse of the current account surplus. In economies with floating currencies, the two are balanced by movements in the exchange rate. For those with managed currencies, like China, monetary authorities adjust purchases and sales of foreign assets to keep the exchange rate at the desired level.
The bottom line, he points out, if China wants to keep its currency broadly stable “it can’t choose how much foreign exchange it buys or sells.”
Chinese warnings came at a time President Trump appears to be engaging in "New York-style" negotiations
The intrigue over properly interpreting shifting Chinese intentions is almost as meaningful as the economic changes the “communist” country has experienced.
The initial concept of a “workers’ paradise” through a socialistic economic model has given way to the leading source of computer automation in the world, one with a capitalistic bent but without the democracy component.
Depending on how one measures success, it has worked. It created a class of successful entrepreneurs and booming economy, but it also created some of the worst pollution problems in the world, which they are attempting to address.
These shifts are not all that unusual in the arch of the Chinese story.
First Bloomberg reported Chinese consideration of cutting off debt purchases just as tension levels with North Korea have been rising. Bloomberg, citing sources familiar with the discussions, said the nation with the world’s largest foreign-exchange holding was considering “slowing or halting” purchases of US debt. The comments came as the US has been attempting to pressure North Korea to abandon its aggressive nuclear weapons expansion program. During the negotiations, Trump has repeatedly played “good cop, bad cop” with North Korea, who has long relied on economic support from China.
From Trump's standpoint, this is the taken from the "Art of the Deal" now expressed on a global stage.
The day after the Bloomberg piece broke, the New York Post reported Chinese officials denied reports they might halt debt purchases. “The news may quote the wrong information source, or it may be fake news,” a post on the website of the State Administration of Foreign Exchange in China said. On the one hand, the statement lent support for Trump’s “fake news” claims, while at the same time working to lower tensions.
But don’t ever forget the Chinese have several weapons, one of them being economic. A war in the region without general consensus could result in a battle on multiple fronts, including economic.
But none of this matters, says the Capital Economics report. Chinese debt purchases are, to various degrees, relatively systematic.