China’s $2.4 Trillion Stash
Robert J. Samuelson – Newsweek – January 22, 2010
China disclosed the other day that its foreign-exchange reserves had increased to about $2.4 trillion in 2009, a gain of $453 billion for the year. These stupendous figures—and the likelihood that the country’s foreign-exchange reserves will rise by a comparable amount this year—have now become a financial, economic, and geopolitical reality of surpassing significance. The significance is not, as many imagine, that China might suddenly “dump” its dollars and dethrone the dollar as the world’s major international currency, undermining American economic power and prestige. Two thirds or more of China’s reserves are estimated to be held in dollars. As an economic strategy, dumping the dollar would boomerang. It would amount to a declaration of economic war in which everyone—Chinese, Americans, and many others—would lose.
Consider what would happen, hypothetically. China would first sell securities in which its dollars are invested. That would include an estimated $800 billion in U.S. Treasury bonds and securities, plus billions in American stocks and corporate bonds. After unloading the securities and collecting dollars, it would sell the dollars on foreign-exchange markets for other currencies: the euro, the Japanese yen, and who knows what else.
The massive disgorging of dollars could trigger another global economic collapse. As China’s selling became known (as it would), other foreign and American investors might jump on the bandwagon, abandoning dollar securities and shifting currencies. If panic ensued, markets would fall sharply. Banks and investors would see their capital and wealth erode. The resumption of the global recession, even the onset of a depression, would shrink foreign markets for China’s exports (in 2009, its exports fell 16 percent). To protect jobs, other countries might impose quotas or tariffs on Chinese imports.
Why would China do this to itself? The answer: it wouldn’t.
The significance of the huge foreign-exchange reserves lies elsewhere. First, they measure China’s mercantilist trade policies. A country that practices mercantilism strives to increase exports at the expense of its trading partners. China has done this by keeping its currency, the renminbi (RMB), at an artificially low rate that gives its exports a competitive advantage on world markets. Huge trade surpluses have resulted, although last year’s surplus declined as a result of the global slump.
It’s often said that the United States “borrows” from China, because the Chinese hold so many Treasury bonds. This inaccurately describes reality. When China receives dollars, it could use those dollars to buy imports. Or it could limit the dollar inflow by allowing the RMB to appreciate, making its exports more expensive and its imports cheaper. In 2005, China began a modest appreciation of the RMB against the dollar; in mid-2008, it stopped. The large trade surpluses cause China to “lend” to us and other countries, regardless of whether we want the “loans.”
China’s foreign-exchange reserves serve another of its strategic purposes: they’re used to make investments in raw materials (oil, food, minerals) and important technologies around the world or to buy political influence with foreign aid or favorable loans. In effect, China has a $2.4 trillion stash to use as it pleases. The irony: despite complaints about big Treasury holdings, these holdings advance China’s economic aims of job creation through exports and protection against scarcities of critical commodities. The purpose is to bolster the government’s grip on power by ensuring rapid economic growth. True, China is trying to generate more growth from domestic spending; still, it remains wedded to strong exports until that happens.
But what’s good for China may not be good for the rest of the world, including the United States. It’s not simply a redirection of economic power but a question of how that power will be used to shape the global economic order. Already, China’s huge reserves—invested in U.S. bonds—are cited as one reason for the low interest rates that brought on the financial crisis. The artificially low RMB hurts exports from other developing countries and not just the United States, Europe, and Japan. The manipulation of trade subverts support elsewhere for open trading policies. For now, China has no desire to substitute the RMB for the dollar as the primary global currency. Its ambition is more sweeping: to create a world economy that serves China’s interests and, only as an afterthought, anyone else’s.
