What If China Stops or Slows Buying US Debt?

China is the largest lender to the United States, buying billions of dollars of treasury notes each year. The communist state’s lending has largely been beneficial to the United States, and we borrow from them each year — which the United States government uses to finance its own deficit spending.

While this tactic may have kept the federal government afloat for a long time, it seems like this little magic trick won’t work forever.

On Wednesday, January 10, 2018, reports surfaced that “China is reportedly thinking of halting US Treasury purchases and that’s worrying markets.” The story was carried by CNBC, Reuters, Bloomberg and other media outlets.

The reports further say that senior officials of the Chinese government, following a review of the nation’s foreign exchange portfolio, recommend that China slow or stop buying US Treasuries. This news came as global debt markets were selling off as a signal that central banks are starting to seek other investments (rather than a nation’s debt) following decades of bond-buying stimulus. Wednesday saw treasuries yields rise for 5 straight days, reaching highs not seen since March 2017.

As the largest holder of the debt of the rest of the world, at about $3.1 trillion, China often reviews its foreign exchange holdings. As of Thursday, it wasn’t clear if the recommendations of the Chinese officials have been acted upon.

China may feel that the yield they get on US debt is less than the return available on other investments. One other factor that may have a bearing on this recommendation is the increasing trade tension between the US and China, since the advancement of President Trump’s America First agenda.

“With markets already dealing with supply indigestion, headlines regarding potentially lower Chinese demand for Treasuries are renewing bearish dynamics,” Michael Leister, a strategist at Commerzbank AG said on Wednesday. “Today’s headlines will underscore concerns that the fading global quantitative-easing bid will trigger lasting upside pressure on developed-market yields.”

While Chinese officials cited trade tensions as a reason to curtail investment in United States bonds, they failed to explain how trade tensions cause a need to cut their buying of US debt. However, foreign governments holding US debt have been known to use their holding as a geopolitical tool.

This is not far-fetched, as China is seeking and succeeding at being a global leader for third-world and western democracies. They may be strengthening this position as US influence declines — as evidenced by out withdrawing from the Paris Climate Change Accords and not joining the Trans-Pacific Partnership.

US Treasury Department Under Secretary for International Affairs David Malpass commented about the strength of the US Treasury marker to reporters in Belgium.

“The U.S. Treasury market is a deep, robust market within the world and so we are confident that our economy, with the economy strengthening, that it will remain a deep, robust market,” he said.

At the end of 2017, the United States Congress passed, and President Trump signed a tax cut. The tax cut is expected to increase the US deficit by one-half to over $1 billion. This deficit spending was predicated on the continued purchase by China and other countries of US Treasuries. Should the Chinese follow the recommendations of their senior officials, it will make our deficit even greater. Thomas Simons, a senior economist at Jefferies LLC in New York made the following remarks on Wednesday:

“China is saying it owns a lot of U.S. debt and carries a lot of weight with what it does with its foreign exchange policy, so the U.S. can’t come at them and attack like that. Any foreign country that has significant Treasury investments has a lot of leverage in this situation, the U.S. is going to be turning toward any buyer it can find.”

“The United States, the world’s sole superpower, has engaged in irresponsible spending for years,” China’s state-run Xinhua News Agency said in an editorial in 2015. “With no political unity to redress its policy mistake, a dysfunctional Washington is now overspending the confidence in its leadership.”

That this editorial appeared several years before Trump’s election is a potential indicator that China is only saber rattling in an effort to get the President to back off claims that China is an unfair trading partner.

Regards,

Ethan Warrick
Editor
Wealth Authority


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