We have been warning readers for some time of the coming monumental shift
that will occur when China begins selling dollars in favor of other currencies
and gold.
A Page One "Money and Investing" story in Thursday's Wall Street Journal
confirmed our worst fears.
The Journal reported that with China's central bank sitting on a stash of $1.07
trillion in foreign currencies, officials are considering a change in its
investment strategy that could lead China to decrease its holding in
dollar-denominated investments.
And that means one thing: a dramatic downward pressure on the U.S. dollar.
Story Continues Below
Far-Reaching Fallout
"Following the lead of countries like Singapore, South Korea and Norway, China
is starting to look at new ways of managing its investments," the Journal
reported.
"Together, these moves by central banks have ramifications for financial markets
worldwide: fewer steady purchases of investments like U.S. Treasury bonds and
more buying of investments that are riskier but have better long-term returns."
Some financial experts suggest China could earmark up to $300 billion of its
reserves for these more aggressive investments.
In late January, Chinese Premier Wen Jiabao said China will "strengthen the
management of foreign-exchange reserves and actively explore and expand the
channels and methods of using the reserves."
Central banks have traditionally invested mostly in cash and government bonds,
and a large portion of their holdings is in U.S. dollars, according to the
Journal.
[Editor's Note:
Forget China.
This Is Asia's Next Tiger.]
The official reserves of developing countries are composed of about 60 percent
dollars and 30 percent euros, with most of the rest in British pounds and
Japanese yen, the International Monetary Fund reports.
So any move by China to broaden its investments would mean "buying less U.S.
debt" and putting "downward pressure" on the dollar, the Journal warns.
In January the chairman of Russia's central bank, with more than $300 billion in
holdings, said it is seeking to spread its investments more widely, and the head
of South Korea's central bank, with $240 billion in reserves, said recently that
the bank may also put more of its holdings in different kinds of investments,
including stocks.
John Nugee, a former Bank of England official who works with central banks for
State Street Global Advisors, told the Journal that officials in China "will
quietly and slowly gather the expertise" to diversify their holdings.
In December, Chinese Vice-Premier Zeng Peiyan said the country should "take
advantage of the rather large foreign-exchange reserves to add to the nation's
reserves" of natural resources, which are in great demand in China as the
economy expands.
[Editor's Note:
A Currency
Crisis is Brewing Over the Dollar. Profit Now.]
China's reserves have been increasing at the rate of nearly $20 billion a month
for the past few years as the export boom floods with country with dollars. If
current trends continue, China's reserves could surpass $2 trillion by the end
of the decade.
What It Means to You
The dollar will continue to weaken. That's bad for America because it means
investors don't value the U.S. market.
Long-term interest rates will rise. The Chinese have helped keep long-term
interest rates very low. That has helped stave off a complete collapse of the
housing market and a full blown recession. The stock market will suffer as well.
The Fed will also have to make the dollar more competitive. Expect rates to
rise.
Gold will continue to behave like a currency and gain in value.
Editor's Notes:
