Japanese and Chinese central banks have significantly reduced their holdings of US Treasury bonds, making it less likely that their interventions in the foreign exchange market would disrupt global markets or strike fear into bond investors.
China should resist the urge to use monetary easing to combat deflation and focus instead on market-driven restructuring and real economic activities in order to achieve healthier and more sustainable growth, according to economist Andy Xie. Japan's reliance on quantitative easing and zero interest rates has perpetuated asset bubbles and hindered innovation and productivity, serving as a cautionary tale for China.
China's economy is at risk of entering a debt-deflation loop, similar to Japan's in the 1990s, but this can be avoided if policymakers keep interest rates below a crucial level to stimulate economic growth.
China's recent sale of its US Treasurys is a reflection of economic weakness and an attempt to prop up its weakening currency, not a sign of strength, according to Carson Group.
The combined footprint of Japan and China in the US Treasury market is at its lowest on record, leading to speculation that they may sell dollars and liquidate US Treasuries to support their currencies without causing significant market disruption.
China's economy risks falling into a vicious cycle of debt and deflation, but economist Shang-Jin Wei suggests that launching an aggressive bond-buying campaign and allowing the yuan to lose value may be necessary to avoid this trap.
China is unlikely to devalue its currency, the yuan, despite concerns that it could do so to boost exports, as such a move would risk intensifying capital flight and tightening financial conditions, according to the Institute of International Finance. Instead, the focus will be on domestic easing measures to maintain steady growth, although there is the challenge of balancing the yuan's stability against the strengthening US dollar and other major currencies.
Funds are rapidly leaving Chinese stocks and bonds, reducing China's influence on global portfolios and contributing to its decoupling from the rest of the world, as concerns over China's economic slump, property market crisis, and tensions with the West heighten.
Foreign holdings of U.S. Treasuries increased for a second consecutive month in July, reaching $7.655 trillion, despite uncertain interest rates and mixed economic data, with China's holdings dropping to the lowest level since 2009, potentially due to pressure to defend its weakening currency.
China experienced its largest capital outflow since 2015, with $49 billion leaving the country, as economic concerns prompt investors to withdraw; of this, $29 billion was withdrawn from securities investments, including bonds. The outflow was compounded by a record-high $12 billion in mainland-listed stocks being dumped by foreign investors and a $16.8 billion deficit in direct investment, the largest since 2016. The decline in the capital account was exacerbated by the tourism season, with outbound travel negatively impacting the services sector, while inbound travel remained suppressed, causing a continued deficit in the services trade. Efforts by Beijing, such as reducing the foreign currency reserves held by banks, have aimed to support the yuan but have been unable to prevent a significant decline in the offshore yuan. Weak exports and the allure of US yields have also contributed to the yuan's decline, further complicating China's capital flight situation, as doubts about the country's ability to achieve its 5% GDP target for the year grow.
BRICS countries are reducing their ties with the U.S. Treasury by selling off Treasury bonds, opting instead for gold, local currencies, and commodities like oil and gas, in order to hedge against U.S. economic policies that may limit the dollar's ability to fund its deficit. Data shows that BRICS has already offloaded $18.9 billion in U.S. Treasury bonds this month, with China leading the way by selling $117.4 billion worth of U.S. government debt this year. Other BRICS members, including Brazil, India, and the UAE, have also decreased their U.S. Treasury holdings. In total, BRICS has removed $122.7 billion worth of U.S. Treasury bonds in 2023.
The sell-off in US Treasuries has caused shockwaves in global financial markets, leading to a decline in Indian stocks and sparking caution among investors ahead of the Reserve Bank of India's Monetary Policy Committee meeting, with expectations that the key repo rate will remain unchanged.
The US should demand that China support debt restructuring for struggling countries as a condition for changes to the IMF's shareholding formula, according to a former senior US Treasury development expert.
China, Brazil, and Saudi Arabia are reducing their US Treasury holdings, with China selling nearly $500 billion in US Treasuries over the past decade.
China is reshuffling its US debt assets rather than selling off its Treasury holdings, according to Brad Setser, a former Treasury official, who argues that China's reported holdings of US assets have remained stable since 2015 when adjustments are made for offshore custodians and third-party management.
China, Brazil, Saudi Arabia, and other countries have been reducing their holdings of US Treasury bonds, potentially indicating a slowdown in their economies or a strategic shift.
The U.S. and China must make significant changes to address their medium-term debt and deficit issues, as continuing on their current fiscal paths will pose challenges for their economies, according to the International Monetary Fund. The U.S. is grappling with persistently high and growing budget deficits, while China faces the challenge of slowing economic growth and a need for a new growth model. Both countries must take measures such as raising taxes on the wealthy and reducing dependence on certain sectors to achieve fiscal sustainability.
