It’s no surprise to anyone that China carries a huge amount of U.S. debt, over $800 billion dollars and growing fast, though Japan is close behind. China now has more paper reserves than anyone and, in spite of weakened U.S. demand, China continues to hold a big trade surplus, spurring a potential currency war as calls grow for the yuan to rise. Upcoming U.S. elections can be blamed for bumping up the rhetoric, but the issue is real and nobody expects it to go away soon.
It’s more than just Chinese exports and a weak dollar fueling the paper flow. Investment in China is a major factor as everyone wants a piece of the exploding Chinese economy. One of the problems is that a continued increase in the yuan’s value will likely spur even more investment, adding to the problem.
Chinese bank lending has been rising with the availability of paper, and recent attempts by China to essentially fence in the paper dragon by stiffening bank reserve requirements are seen as little more than a patch. Stricter intervention is expected as pressure increases, but the underlying problem remains. And the core of that problem is that China tends to produce and save, while America tends to consume and spend.
The fact is that China is only the most glaring example of a relationship that the U.S. has with dozens of other countries around the world, namely a big trade deficit. It’s a relationship encouraged by the role of the U.S. dollar as the world’s reserve currency. The worldwide demand for dollars over the years has encouraged the U.S. to exchange paper for goods, and go into debt.
It’s a game that must ultimately lead to dollar depreciation, perhaps even a reevaluation of the dollar’s role as a reserve currency. The hope is that this and associated pressures will eventually bring spending and saving back into balance, both in China and the U.S., preventing China’s paper dragon from devouring us all.
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