Chinese Losses on US Treasuries May Be Serious

China doesn't seem to be happy with the losses that they are incurring through United States treasury bills. A rumor has been circulating that Zhou Xiaochuan, head of the People's Bank of China (PBC), may have left the country. After losing about $240 billion from US Treasury Bonds, some in China are fearful that the government may punish PBC leaders. If this rumor is true, and China is starting to crack down on bankers that have lost money on US treasuries, then there could be a rude financial awakening for Americans in the near future.

China Already Changing Investment Strategy

For more than a year now, China has already been changing its investment strategy. It has been reducing its holdings of dollars, and has been increasing its investments in Japan, South Korea, and Malaysia. As China reduces its reliance on United States Treasury bills, it is replacing it with other investments. It is even encouraging its citizens to make investments in gold and silver.

Dollar Divestment Could Hurt US

Although the United States has not been through a major period of distress since the Great Depression, if the Chinese divest from US dollars, the United States will have difficulty maintaining its huge deficit. If China tried to unload most of its dollar holdings, it could prompt bond holders in other countries to dump its bonds as well. This could cause the dollar to depreciate, and would force interest rates to rise. The United States could be forced to monetize its own debt (more than it already has), and Americans will find that their money can buy much less than it used to. Fears of deflation could be exchanged for fears of hyperinflation.

Will China Dump Dollars Soon?

Although the rumors of Zhou Xiaochuan's defection have been refuted by Hong Kong news outlet Ming Pao, China is probably not happy with a loss of $430 billion on its treasury bond investments. The Communist Party of China will see a leadership change in 2012; the upcoming government transition may affect the way that China deals with the United States and its dollars. A major change in China's policy towards the dollar could send shockwaves through the US economy. Whether Zhou Xiaochuan has defected or not, the fact is that China has a huge amount of power over America's future. If our course does not change, Americans could wake up one morning to the news that China has decided not to buy our treasury bills any more, and the dollars that they once depended upon are no longer worth much.

Sources:

Black, Aaron; McMahon, Dinny. "China's Investing Turns to Neighbors' Bonds, Currencies". Wall Street Journal, 19 Aug 2010. Proquest document Id: 2114553011.

"China: Rumors of the Central Bank Chief's Defection". STRATFOR, 30 August 2010.

Morrison, Wayne M.; Labonte, Marc. "China's Holdings of U.S. Securities: Implications for the U.S. Economy". CRS Report for Congress, 9 January 2008.