As of February 2018 China has the largest direct holdings of US Treasuries (USTs) at $US1.18 trillion It also has another $US126 billion in USTs via its Belgium holdings. China has a reduced need to purchase USTs at the present time given they have refrained from active FX intervention since early 2017.
With capital flows largely in the balance and Chinese authorities allowing the yuan’s exchange rate to be more market determined, they do not need to accumulate reserves and thus make further purchases of USTs other than for the purpose of portfolio rebalancing.
There are also practical limitations in selling down China’s US Treasury holdings. The US debt market is the largest and most liquid in the world. There are few other options for re-allocation of the bulk of China’s FX reserves at this stage.
In addition, China does not benefit from a sell-off in the US Treasury market as this will hurt the overall value of their holdings.
The scope for further foreign buying of onshore China assets is large but hinges on continued reform progress.
Steady capital inflows from liberalisation will be an important counter to a narrowing current account surplus as China continues to shift towards a consumption-driven economy.
Ultimately, a tit-for-tat retaliatory response from China including via FX policy will run counter to the country’s interests. We see a further step-up in reforms and opening up to be in the best interests of China in the long term.
Raymond Yeung is Chief Economist Greater China & Khoon Goh is Head of Asia Research at ANZ