Another shot in the currency fight: Chinese threaten divestment

By Krissah Williams
Washington Post
Thursday, August 9, 2007

http://www.washingtonpost.com/wp-dyn/content/article/2007/08/08/AR200708...

In a Wednesday opinion piece in the state-run China Daily, a Chinese government researcher made what sounded like a warning to U.S. policymakers not to get too tough in insisting the yuan should appreciate.

The researcher, He Fan, noted that China has accumulated "a large sum of U.S. dollars" and that its holdings contribute "a great deal to maintaining the position of the U.S. dollar as an international currency." If the yuan's exchange-rate against the dollar does not remain stable, he said, China could be forced to take strong action.

China has $1.33 trillion in foreign-exchange reserves, with $407 billion in U.S. Treasuries, the second-largest holder after Japan. A substantial selloff of the reserves could spark a recession in the U.S. economy, which is already experiencing a housing slump, financial analysts said.

Market analysts read He's statements as the beginning of a more politicized approach by the Chinese government but said a selloff is unlikely.

"I don't think that this is a real threat that China is about to unload its dollar holdings, but merely the mention of it should be enough to make Congress sit up and take notice," said Simon Derrick, Bank of New York's chief currency strategist in London.

He's statements were an apparent response to the Senate Finance Committee, which last month approved legislation aimed at pressing for faster appreciation of the yuan.

"The Chinese central bank will be forced to sell U.S. dollars once the [yuan] appreciates dramatically, which might lead to a mass depreciation of the U.S dollar against other currencies," wrote He, who works at the China Academy of Social Sciences. While the Chinese academies are not the official voice of the Chinese government, researchers' comments often best reflect the mood in Beijing.

The Daily Telegraph of London also quoted Xia Bin, director of the financial research department of the State Council, which advises the Chinese cabinet, describing Beijing's foreign reserves as a "bargaining chip."

If China were to execute the so-called nuclear option, by dumping U.S. currency and lowering the value of the dollar, it would hurt its own pocketbook because it is such a large investor. "There would be turmoil in the financial markets," said Menzie D. Chinn, professor of economics at the University of Wisconsin. "It's not really a credible threat."

Treasury Secretary Henry M. Paulson Jr., who met with Chinese leaders in Beijing last week and told them to raise the currency's value without delay, called He's comments "frankly absurd," in a CNBC interview yesterday. "China's economic relationship with the United States is very important to both countries. It's beneficial for us, and it is beneficial for them. We have tensions that we have to deal with on both sides.

"And then another point I've made for some time is the Chinese are the second-largest holder of U.S. Treasuries, but what the Chinese hold in treasuries is less than one day's trading volume in treasuries. We have a broad, liquid market."

Economists echoed Paulson's statements. Nicholas R. Lardy, a senior fellow at the Peterson Institute for International Economics in the District, said the Chinese researchers are probably attempting to remind Congress that "this is a relationship of mutual interdependence, not a one-way street."

Senators sponsoring a bill aimed at forcing China to more quickly raise the value of its currency by giving the Treasury Department new tools to pressure Beijing do not see it that way.

They are worried about the large trade deficit between the two nations. China's trade surplus probably jumped almost 60 percent in July, widening to $23.1 billion from $14.6 billion a year earlier, according to a Bloomberg News poll of 18 economists released yesterday.

Sen. Charles E. Schumer, D-N.Y., said in a statement that "actions of this sort by the Chinese show they don't want to play by the [World Trade Organization's] rules when it might advantage another country." Sen. Lindsey O. Graham, R-S.C., said in a statement that he "would advise our Chinese trading partners to work with us to achieve meaningful currency reform rather than issuing draconian threats. Congress has been incredibly patient on this issue, and the consequences of inaction without real reform are too great to many sectors of our economy."

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Correspondent Ariana Eunjung Cha in Shanghai contributed to this report.

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