Will China Sell its US Treasury Holdings?

Towards the end of the trading day on Friday, May 17th 2019, there was breaking news that trade talks between the United States and China had stalled. This news led to a market sell-off in the last hour of trading. Media outlets discussed the possibility of China dumping its US Debt holdings as firepower to fight the trade war against the United States. As of October 2018, foreign governments owned $6.2 trillion of US debt, and China holds $1.13 trillion of that amount. So, it is safe to say that China owns a significant portion of the US debt. Do you think China will sell its US treasury holdings? Let us talk about it in this blog post.

It is important that we first understand what differentiates United States from China. China is a net exporter, and United States is a net importer. In other words, China manufacturer/produces, and United States consumes. Furthermore, as I discussed in one of my older posts, China wants to keep its currency devalued. By keeping its currency devalued, China ensures that the products they export are “cheap”. In order to keep its products cheap forever, China has to make sure that its currency does not appreciate in value. Simply put, China has to keep Chinese Yuan weak. How does China prevent the Yuan from gaining strength? It buys United States Dollar (USD) in the form of US government bonds, which strengthens USD. Since USD and Yuan are inversely related, as USD gains strength, Chinese Yuan becomes weak. This is precisely why China has been able to manufacture inexpensive products for extended period of time.

Now, what would happen if China sold its US debt holdings? Think about supply and demand. As China sells its US debt holdings, China is flooding the market with USD. As the supply of USD increases, the value (price) of USD drops. In short, USD loses strength. Since USD and Yuan are inversely related, as USD loses value, Yuan appreciates in value. As Yuan becomes strong, China loses the competitive advantage of manufacturing cheap products. Let me provide an example (table below). Let us assume that 1 USD is equal to 5 Chinese Yuan. Now, China decides to sell its US debt holdings, which floods the market with USD. Due to this excessive availability (supply) of USD, 1 USD is now equal to 2 Chinese Yuan. As you can see from the example below, the 500 CNY Air Conditioning Unit costs more once CNY appreciated in value.

Air Conditioning Unit Costs 500CNY to Manufacture

Originally: If exchange rate is $1 = 5 CNY

Now: If exchange rate is $1 = 2 CNY

How Much will the US Consumer Pay For Air Conditioning Unit Costing 500 CNY?

500CNY * (1USD / 5CNY) = $100

500CNY * (1USD / 2CNY) = $250

Why would anyone buy Chinese goods if they weren’t cheap anymore? It is important to note that all currencies are interrelated. If the Yuan appreciates in value in comparison to USD, then it is appreciating in value to all other currencies (EUR, GBP, AUD, etc) as well. Additionally, as USD weakens, all other world currencies (EUR, GBP, AUD, etc) are strengthening in comparison to USD. So, you could say that as the Yuan appreciates in value (compared to USD), all the other world currencies are appreciating in value as well (compared to USD), which would make net change equal to zero. Now, it is always hard to predict the exact correlation between currencies. In other words, if the Yuan strengthens by 1 point, does that mean that other world currency (like Euro) strengthens by 1 point? I do not know. However, I do know that it is in the best interest for export based countries (like China) to have a weak currency since this allows them to manufacture cheap products. Furthermore, US is the biggest consumer of the products that China manufactures. China has a trade balance of $593 billion, and out of that United States makes up $263 billion. How would China sustain its 1.38 billion people if it lost its biggest consumer? Unless China wants to jeopardize the livelihood of millions of its citizens, I do not think it is in China’s best interest to sell its US debt holdings.

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Hope you learned a little and found this blog post helpful. We talked about whether China would sell its US Debt holdings or not. Moreover, we talked about what would happen if China sold its US Debt. As always, you can sign up for our mailing list here.  Like us on our Facebook page here. Thank you!


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Superior North LLC’s content is for educational purposes only. The calculators, videos, recommendations, and general investment ideas are not to be actioned with real money. Contact a professional and certified financial advisor before making any financial decisions.


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