Uncertainty of China’s appetite for U.S. debt

It was reported by The wall street journey that before G20 Meeting, China unusually pointing and raising the possibility that China’s appetite for U.S. debt could wane. Then Obama administration rejected China’s concerns that vast holding of U.S. assets might be unsafe.

The attitude of the WSJ compared with the officer in White House seems so negative. WSJ wrote, the presidential spokesman Robert Gibbs said”There’s no safer investment in the world than in the Unite State”. That view was reiterated by the president's chief economic adviser, Lawrence Summers, who defended record U.S. deficit spending as a salve to the nation's economic woes.” This is obviously laughing at government spare no effort selling the national debt. In 2009, U.S needs to borrow 2 trillion Dollars for the fiscal deficit, if the market loses confidence for U.S. bonds, the bond market would crash as the stock money, the consequence would be incredible, the country cannot live on debt any more, which means the country may face a revolution completely, may be as Soviet Union. The reason is in such a bearish market, it’s so hard to raise money.

I also find the similar report in Chinese website, I found the way the media described Obama’s speech just like obviously insincere talk and cheating, especially in “China and all the investors in the world should have absolutely confident in American investment.”The bias may because subprime crisis started from U.S., China suffered enough loss against credit default and the value of the foreign reserve.

I’ll analyze why China fears purchasing U.S. bonds.

T-bill, low return
With the financial crisis, in order to stimulate the domestic economy, U.S Federal cut the interest to 0.5%, which made the 10-year yield of T-bill only 2.6%. Though U.S is the one of the highest rating countries, this kind of return is a little bit low, let alone the depreciate of US Dollar.

Facing devalue
In China, money supply depends on GDP growth and government is not permitted printing the money or borrowing the money from central bank directly. While in America, the country seems has got used to live on debt. The Federal kept printing money, government borrowed money, people got loan and overdraft their future purchasing power, which made the Chinese currency has natural appreciating characteristic against US Dollar. In 2008, US Dollar depreciated 6.88% against Chinese currency. Considering the $1.946 trillion foreign reserve, this is really a bog loss.

Commercial bonds, risky
In order to pursue a higher return, China changed its strategy to be a little risky. They started purchasing commercial bonds junior bonds and even junk bonds. However, at last China felt bruised by the investment thought were safe, including holding in mortgage giant Fannie Mae and Freddie Mac, Morgan Stanley and the collapse Reserve Primary Fund. For me, Chinese investment really disappointed me. First came the Black Stone, then was the Morgan Stanley, it seems China still cannot adapt to the international investment. So we need to be more careful about the risk.

Publish criticize at home
Suffering from the loss value of foreign reserve and failure investment overseas, China has more and more pressure publish criticize at home. They doubt why the government kept doing such a losing business.

Better substitute
Now China seems have better substitute of using the foreign reserve. Such as the deal with Brazil and Russia loan for oil, supporting domestic companies merger overseas, the most excellent one must be Chinalco and Rio Tinto, which was the biggest multinational merger deal.

A tool for negotiate
Though China pointed out the appetite for U.S. debt could wane, I don’t think China will really do so. In November 2008, China sold $9 Billion US long run bonds and purchased $38.2 billion short run bonds, which I think that it’s barging chip for negotiate. Such as ask America stopping forcing Chinese currency appreciate the problem of Taiwan, Tibat and so on.

Imaging if China announces it will sell U.S. bonds, the price of bonds will slump, interest rate will go up rapidly, more credit default will occur, the recession will be deeper. At then, everybody will criticize Chinese behavior, even worse, some countries may have trade barriers with China, just like oil embargo in 1973. And even China will suffer a huge loss, cause then US Dollar would be nothing but a colorful paper.

My suggestion:
We need to make our investment profitable in the long run, I come out 2 ways. One it adding resource reserves, especially gold and oil. If possible, China can ask for US have gold back up for the T-bills. Greenspan said gold was the last medium of payment, John Maynard Keynesian said gold was the final guide and reserve that nothing can take the place of it. In the age of gold standard, gold means everything.

The second way is buying the transferable bonds rather than normal one. Though the yield would be lower, you can transfer into share, and you can share the profit of the company, and you can even control the company as long as you get enough percentage of shares. That’s the reason why I’m so supporting Chinalco buying transferable bonds of Rio Tinto.