What if china dumps u.s. treasuries

Assume Australia is running a current account deficit i. The other countries which are sending goods to Australia are getting paid Australian dollars AUD , so there is a huge supply of AUD in the international market, leading the AUD to depreciate in value against other currencies. However, this decline in AUD will make Australian exports cheaper and imports costlier. Gradually, Australia will start exporting more and importing less, due to its lower-valued currency.

This will ultimately reverse the initial scenario scenario 1 above. This is the self-correcting mechanism that occurs in the international trade and forex markets regularly, with little or no intervention from any authority. If the PBOC stops interfering—in the previously described manner—the RMB would self-correct and appreciate in value, thus making Chinese exports costlier.

It would lead to a major crisis of unemployment due to the loss of export business. China wants to keep its goods competitive in the international markets, and that cannot happen if the RMB appreciates. However, this leads to a huge pileup of USD as forex reserves for China.

Though other labor-intensive, export-driven countries such as India carry out similar measures, they do so only to a limited extent. One of the major challenges resulting from the approach that's been outlined is that it leads to high inflation. China has tight, state-dominated control on its economy and is able to manage inflation through other measures like subsidies and price controls.

Like the U. The euro forms the second biggest tranche of Chinese forex reserves. China needs to invest such huge stockpiles to earn at least the risk-free rate. With trillions of U. Treasury securities to offer the safest investment destination for Chinese forex reserves. Multiple other investment destinations are available. With euro stockpiles, China can consider investing in European debt. Possibly, even U. However, China acknowledges that the stability and safety of investment take priority over everything else.

Though the Eurozone has been in existence for around 18 years now, it still remains unstable. It is not even certain whether the Eurozone and Euro will continue to exist in the mid-to-long term. An asset swap U. Other asset classes like real estate, stocks, and other countries' treasuries are far riskier compared to U.

Forex reserve money is not spare cash to be gambled away in risky securities for want of higher returns. Another option for China is to use the dollars elsewhere. For example, the dollars can be used to pay Middle East countries for oil supplies. However, those countries too will need to invest the dollars they receive. Effectively, owing to the acceptance of the dollar as the international trade currency, any dollar supply eventually resides in the forex reserve of a nation, or in the safest investment—U.

Treasury securities. One more reason for China to continuously buy U. Treasurys is the gigantic size of the U. Buying U. Treasurys enhances China's money supply and creditworthiness. Selling or swapping such Treasurys would reverse these advantages.

Hence, as long as China continues to have an export-driven economy with a huge trade surplus with the U. Chinese loans to the U. China gets a huge market for its products, and the U. Beyond their well-known political rivalry, both nations willingly or unwillingly are locked in a state of inter-dependency from which both benefit, and which is likely to continue.

It was replaced by the British pound sterling. Treasurys that are considered virtually the safest. Apart from the long history of the use of gold by multiple nations, history also provides instances where many countries had huge reserves of pounds sterling GBP in the post-World-War-II era. These countries did not intend to spend their GBP reserves or to invest in the U. When those reserves were sold off, however, the U. Its economy deteriorated due to the excess supply of its currency, leading to high-interest rates.

Due to those restraints and the absence of a flexible exchange rate system, the selling off of the GBP reserves by other countries caused severe economic consequences for the U. Since the U. The offloaded U. The repercussions for China of such an offloading would be worse.

An excess supply of U. One way savings can decline quickly is if a drop in exports causes unemployment to rise. The only other way is if there is a surge in consumer debt. For investment to rise quickly, there almost certainly has to be either a rise in unsold inventory as exports drop or a rise in nonproductive investment in infrastructure. In either case, this would mean a rising debt burden. As in the previous two cases, there would be no direct change in overall U.

It would have almost no impact on U. It would also have no impact on the Chinese balance of payments in the case that it leaves the U. To the extent that it would result in a narrower U. Carnegie does not take institutional positions on public policy issues; the views represented herein are those of the author s and do not necessarily reflect the views of Carnegie, its staff, or its trustees. Follow the conversation— Sign up to receive email updates when comments are posted to this article.

The book is done and the first draft at the publishers Yale undergoing the peer-review process. It will be sent back soon enough with questions and suggestions for changes and I hope all of that is done by the summer. I don't have a publication date but I am told to expect it early in Professor Pettis, does the trade war create any tension for you in Beijing? Surely, some of the University community and many in government don't agree with your policy analysis.

I try to keep my analysis as logical as possible and focussed on accounting identities, Philip. At any rate I have been under no pressure at all so far and free to write and teach as I think appropriate. Dear Mr. Pettis, I like this article in particular as it answers a central question. I have a few questions regarding "Trade Wars": Did anyone think about the existence of a "war crime" in the context of a trade war? Would a massive patent infringement qualify?

Do patents related to central infrastructure technologies Internet has become one make sense in case of political trade bans? When do we get the equivalent of a Hague convention here? Maybe a bit off your diret expertise, but your opinion would be of interest if it does not endanger your stay in China.

Calling it trade war is useful journalism, Lars, but I don't think intervention in trade has anything truly war-like about it and consists most of countries invoking their sovereign privilege to affect interest rates and exchange rates, subsidize businesses they think important, tax imports, and so on. I don't think the US, China, or any other major economy would ever give up its right to control its domestic economy. You make good points.

One option you haven't considered is if the Chinese convince easily at this point, I would argue the world to do away with the US Dollar as the reserve currency. Last I checked, our bellicose foreign policy is not only creating more enemies, but also alienating our longstanding allies. Should this continue, enemies and allies alike could make a cogent argument for changing this.

If that happens, the entire argument is moot. We are a debtor nation. If we failed to fix our infrastructure and deal with the unsustainable health care costs during zero interest rates, imagine what will happen when we start paying credit card interest for our expenses.

We will be ruined. Damn shame so many ignorant folks continue to think we are exceptional--given our policy actions. What a sad end to a great experiment.

It's nearly impossible for the Chinese to give up using the dollar, CT, let alone convincing the world to do so. It has to be Washington that forces the issue and makes it more difficult for foreigners to use the dollar as a safe haven in which to dump excess savings. My thinking tells me there's nothing to worry about concerning US Govt debt, or interest on that debt. If you read through some of Mike's old papers, he'll tell you that there isn't a country out there looking to become the reserve currency.

We've taken that position so that through the World Bank and the IMF, we dominate global finance and can break down foreign economies, do regime change and such. As long as we share the wealth, we won't find opposition among other world powers. Your thinking is completely logical but may I ask: do you see that logic carries any weight at all? Non-sensical or, even better, fantastical carries a lot more weight, it seems.

Yes, DVD, but the point of the logic is not to recommend that China be logical. The point is that these are the only possible paths that can be followed. If China want's to run a current account surplus, it has no choice but to recycle the FX. If it doesn't, it will not run a current account surplus. These are opposite sides of the same coin. Illogical and nonsensical? Only if the framework in which they are viewed is the erroneous.

Try to imagine a framework in which those acts are constructive, coherent, and consistent. Psychologically it's called "chunking up. This a well thought out explainer on trade dynamics, I enjoyed it. One follow up question I have: if China were to reduce purchases of U.

My instinct is that it would make the dollar weaker, leading to a greater demand for U. To what extent would that be true? It's completely logical, but the professor didn't know he is professor before making my post below don't see some important possibilities the Chinese have. See my post below, it's easy to harm the US. The professor is American, exceptional like all of them.

Remember that China cannot choose whether or not it lends the money to the US. In order to maintain its trade surplus it must put into place the exchange regime that results automatically in the accumulation of foreign currency, and it must invest that foreign currency somewhere if it is to maintain the surplus. Thanks for the insight. Is there any actions China can take that make themselves better off? If not, it explains well why US can take a tough stance on unilateral trade negotiations.

I don't think so, the professor like all in the US underestimate the leverage China has. See my post below and you will understand. Also, would you see parallel of repeating opium trade repeating? Yet, China had little appetite of foreign goods. And, so, opium was smuggled into China in order to reverse the flow of silver, which started off a great chain of events. To certain extent, we are still consequences of these events. In today's world, the equivalent of opium is probably US weapons such as F35 -- costly but economically useless.

Re-militarisation from Japan, strongarm tactics on US weapon purchases such as Turkey. After all, these deals help reverse trade flow. But, this will be for another topic.

How do you think recent events fit into your thinking? Appreciate if you can share your thoughts. Thank you. I think there is a lack of imagination. I will give you an easy way how to weaponize the treasuries: Look for countries or entities which have Dollar denominated debt.

Offer them to change this debt in Yuan denominated debt. If they accept the deal, sell treasuries get dollars, give that dollars to the debtor so he could pay down the dollar-debt and in the future he will pay to them not to the US.

While selling the treasuries the Dollar-interest will clearly go up, give even more incentive to debtors to accept offers of Yuan denominated debt.

The pay back of dollar denominated debt will bring deflation to the US financial system. Which will also bring more debtors look for alternative sources of new debt. They can offer them Yuan denominated debt to strengthen their currency and gain debtors the US will loose. The difference I see, comes from the back paying of debt from third parties against of only buying assets.

That makes a difference you did not see. Good luck with that idea. The main steps for China to be considered a trustworthy global currency is to adopt the rule of law and transparent accounting standards. Currently, the world considers China a communist country with opaque finances. And as you describe, for the debtor there will primary no risk.

Russia colluding with China to form some currency alliance is not very believable outside of some trivial amount made for political purposes. These stories surface at least times a year and always with the same idle threats that never happen. Pettis point 3 is not going to happen because tiny countries do not have enough bonds for China to buy and it would severely distort the market if China tried, so it won't.

Pettis point 2 is more subtle but also note that there is no Euro global bond for China to even buy. There are only sovereign bonds of Germany, Italy, France, etc. Every time these dump treasury stories appear they never say what China will do with the proceeds of the sale. The authors either have no answer or even more likely don't understand the issues at all.