http://globaleconomicanalysis.blogspot.com/2010/07/should-china-dump-dollars-for.html?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+MishsGlobalEconomicTrendAnalysis+%28Mish%27s+Global+Economic+Trend+Analysis%29&utm_content=Google+Reader
Every time there is a little blip by China in its purchasing or holding of US treasuries, hyperinflationists come out of the woodwork ranting about the "Nuclear Option" of China dumping treasuries en masse.
Such fears are extremely overblown for several reasons.
1. China's purchasing of US assets is primarily a balance of trade issue. If the US runs a trade deficit, some other countries ruin a trade surplus and thus accumulate dollars. This is purely a mathematical function as I have pointed out many times.
2. If China dumps treasuries for Euro-based assets, oil-based assets, yen-based assets or for that matter anything other than dollar based assets, the problem merely shifts elsewhere and those buyers would have to do something with the dollars such as buying US treasuries or other US assets. This too is purely a mathematical function.
3. If China dumped treasuries it would tend the strengthen the RMB and China has been extremely reluctant to let the RMB appreciate. Indeed, the US is begging China to revalue the RMB upward, but China resists.
While China may make short-term moves in its reserve holdings, the odds of China dumping treasuries or dollars in size is quite remote.
Capital Tsunami Is The Bigger Threat
Michael Pettis discusses those ideas and more in The capital tsunami is a bigger threat than the nuclear option.
An awful lot of investors and policymakers are frightened by the thought of China’s so-called nuclear option. Beijing, according to this argument, can seriously disrupt the USG bond market by dumping Treasury bonds, and it may even do so, either in retaliation for US protectionist measures or in fear that US fiscal policies will undermine the value of their Treasury bond holdings. Policymakers and investors, in this view, need to be very prepared for just such an eventuality.
... the idea that Beijing can and might exercise the “nuclear option” is almost total nonsense.
In fact the real threat to the US economy is not the dumping of USG bonds. On the contrary, in the next two years the US markets are likely to be swamped by a tsunami of foreign capital, and this will have deleterious effects on the US trade deficit, debt levels, and employment. Investors and policymakers should be far more worried that China and other capital exporting countries are trying their hardest to maintain and even increase their capital exports, while the capital importing countries are either going to see capital imports collapse, or are trying desperately to bring them down.
So why not worry about Beijing’s “nuclear option”? For a start, unlike you or me the PBoC cannot simply sell Treasury bonds, pocket the cash, and go home. Dollar bills are just as much obligations of the US government as are USG bonds, only that they pay no interest. If the PBoC wants effectively to reduce its holdings of USG bonds it must swap them for something else.
So far, the discussion is purely on mathematical statements of fact. Yet most writers, especially the hyperinflationists, fail to understand simple math.
Should China Dump Dollars For Commodities?
Some want China to dump dollars for commodities and stockpile them. Does this make sense?
Not really, as Pettis explains.
Because of the positive correlation between Chinese growth and commodity prices, stockpiling commodities is a bad balance sheet decision for China.
Why? Because by locking in relatively “cheap” commodities if Chinese growth subsequently surges, or relatively “expensive” commodities if Chinese growth subsequently stalls, it will only exacerbate volatility in China’s already incredibly volatile economy.
This exacerbation of volatility is made worse by the widespread suspicion that China has already stockpiled huge amounts of commodities, but the main point is that even if the PBoC were to do this, it does not change anything material. It simply reassigns the problem to commodity exporters, with almost the same net results, because if Brazil, say, sells more iron ore to China, Brazilians now have more dollars, which they must either spend on US imports – thus boosting US employment – or invest in US assets. In this case Brazil simply intermediates the former PBoC purchases of USG bonds.
Finally the PBoC could sell US Treasury bonds and purchase assets in China. This would be most damaging for China because it would mean a drastic reversal in the country’s currency regime. The PBoC currently sells huge amounts of renminbi to Chinese exporters in order to keep down the value of its currency. Suddenly to switch strategies and to buy renminbi would cause the value of the renminbi to soar. This would wipe out China’s export industry and cause unemployment to surge.
So basically any sharp reduction in China’s Treasury bond holdings is likely either to be irrelevant to the US or to cause far more damage to China than to the US. I really don’t think we should waste a lot of time worrying about the nuclear option.
More at link
Image via Wikipedia
US military chief 
Though 