May 062020

Saul Leiter Phone call c1957


Don’t worry, we’re still talking virus, just from a slightly different angle. I was going to do something completely different, but then I saw an article at the South China Morning Post (SCMP) today that made me think “I don’t think that’s true”, realizing that at the same time many people would think it is.

Foreign holdings of US Treasuries are a misty environment for perhaps not just many, but most people. What triggered the SCMP piece is Trump’s threat, if it was ever meant to be one, to default on US dollar-denominated debt owned by China. Which by one estimate consists for about 70% of Treasuries.

And there are entire choirs full of voices willing to tell us that China can simply start dumping the -estimated- $1.2 trillion in Treasuries it holds, and threaten if not end the USD reserve currency status that way, if the US doesn’t “behave”. There’s little doubt that China would want this, but that doesn’t make the idea any more realistic.

What should give that away is, how easy can we make it for you, that it hasn’t done so yet. And now a conflict over the origin of a virus would trigger this? On a side note: if that origin is somewhere in China, even if it’s unintentional, how could Beijing possibly “admit” to it? How could it ever settle the lawsuits that would ensue?

No, the US cannot default on China’s holdings of its Treasuries. That alone would be a larger threat to the reserve currency status than anything anybody else could do, other then nuclear war. But at the same time, China cannot dump its Treasury holdings. because that would hurt … China.

And don’t forget that China and the US are in a symbiotic relationship of chief seller and chief buyer. Drastic changes in that relationship would -almost- certainly lead to consequences that neither can fully oversee, and that could hurt either or both tremendously.

Where are the US going to buy what they now buy from China? Who is China going to sell to what they today sell to the US? The countries are for all intents and purposes Siamese twins. Whatever can change, can only do so gradually. And even then.

No matter how much I read about it (a lot), this particular field is still not my expertise. But when I read the SCMP piece, it reminded me right off the bat of something that Michael Pettis, professor of finance at Peking University’s Guanghua School of Management, where he specializes in Chinese financial markets, wrote on May 28 2019, in an update of an article he wrote in January 2018 (all pre-virustime).

I liked Michael’s take from the moment it was published, because I learned a lot. I think you might too. I can’t do this without some elaborate quotes, but at least that will make me shut up a little. Please bear with me. I don’t find the SCMP piece all that interesting, but it’s good as a failing counterweight to Pettis.

With all that in mind, let’s take the SCMP piece first:


China Could Cut US Debt Holdings In Response To White House COVID19 Compensation Threats

[..] White House officials have debated several measures to offset the cost of the coronavirus outbreak, including cancelling some or all of the nearly US$1.1 trillion debt that the United States government owes China. While analysts added that the US was highly unlikely to take the “nuclear option”, the mere fact that the idea has been discussed could well prompt Beijing to seek to insulate itself from the risk by reducing its US government debt holdings.

That, in turn, could spell trouble for the US government bond market at a time when Washington is significantly ramping up new issuance to pay for a series of programmes to combat the pandemic and the economic damage it is causing. “It’s such a crazy idea that anyone who has made it should really have their fitness for office reconsidered,” said Cliff Tan, East Asian head of global markets research at MUFG Bank. “We view this as largely a political ploy for [Donald Trump’s] re-election and a cynical one because it would destroy the financing of the US federal budget deficit.”

[..] any move to cancel the debt owed to China – effectively defaulting on it – would be counterproductive to US interests because it would likely destroy investors’ faith in the trustworthiness of the US government to pay its bills [..] The US Treasury two-year yield continued to trade near record low levels this week, suggesting market traders and fund managers are largely shrugging off what is widely seen as a far-fetched idea that the US could cancel some or all of China’s debt.

The whole idea that the US would default on its own Treasury debt is nonsensical. Why write about it? Is that only because you don’t understand what’s involved? And your editor doesn’t either?

Nevertheless, the news that the idea was discussed by top US officials is likely to raise concerns among Chinese leaders about the growing risks of holding a large amount of US government debt at a time when relations appear to be deteriorating rapidly, analysts said. Iris Pang, Greater China chief economist at ING Bank, said unless it had no choice, China would want to avoid quickly offloading its US government debt without first considering other punitive measures against the US.

[..] China could trigger a crash in the US dollar and financial markets by flooding the market with US Treasuries for sale, which would push down US bond prices and cause yields to spike. But that would also ignite a global financial catastrophe, hurting China as well. Instead, China could cut back or stop buying new US Treasury issues, which would gradually reduce its holdings of US government securities as old ones expire and are not replaced. “In the coming months, [China could] halt its Treasury purchases to send a clear signal of its intentions,” said Pang. “If it decides to do that, it could make actual sales [of its other holdings] at a later date.”

This is my central point here. The article says: “China could trigger a crash in the US dollar and financial markets by flooding the market with US Treasuries..”, and I don’t think that’s true. Yeah, they can do tariffs or buy less US soybeans, but then again, those have been linked by Trump to US purchases from China.

In the meantime, China may consider imposing tariffs of its own, or reducing its US agricultural purchases. China has agreed to buy an additional US$200 billion worth of US products and services over the next two years compared to 2017 levels as part of the phase one trade deal signed in January. [..] There have always been calls for China to diversify its US$3 trillion in foreign exchange reserve holdings, around one-third of which are held in US Treasuries. According to the latest US Treasury Department report, China’s holdings slipped to US$1.09 trillion in February from a peak of US$1.32 trillion in November 2013.

[..] “There’s a strong urge for countries like China, and Russia, to move away from US dollar settlements. This is simply because the US dollar can be weaponised by the US government,” said Xu Sitao, chief economist at Deloitte China, referring to the recent practise by the US government of cutting off foreign individuals, companies and governments from the global US dollar financial transaction settlement system, greatly complicating their ability to conduct business. “Clearly there’s more willingness for certain countries just to diversify and move away from US dollar settlements.”

Sure, but that’s old stuff, as old as the petrodollar. Still, the article supposedly deals with -life-during-and-after-COVID19. Has nothing changed? Well, perhaps not. But then why the article?

[..] David Chin, the founder of Basis Point Consulting, said China could be forced to toughen up its act if it no longer earned US dollars from its exports to the US because of a significant US-China decoupling. If that were to happen, China could sell its US Treasury holdings for yuan, seeking to engineer a collapse in the US dollar to end its status as the ruling currency. “Its ‘I die, you die harder’,” Chin said. “With no US export market, China would go the other way and rely on internal consumption, trade with Belt and Road countries and the rest of the world in their local currencies, and prepare to ‘eat bitter’ as local conditions worsen.”

If China doesn’t have the US as an export market, both go down, so I’m not sure why a news outlet would want to discuss this without providing the proper news “environment”. And anyway, it’s just not true. Here’s Michael Pettis very methodically putting the final nail in that coffin, and showing why the whole notion is just a load of crock.


China Cannot Weaponize Its US Treasury Bonds

China cannot sell off its holdings of U.S. government bonds because Chinese purchases were not made to accommodate U.S. needs. Rather, China made these purchases to accommodate a domestic demand deficiency in China: Chinese capital exports are simply the flip side of the country’s current account surplus, and without the former, they could not hold down the currency enough to permit the latter.

To see why any Chinese threat to retaliate against U.S. trade intervention would actually undermine China’s own position in the trade negotiations, consider all the ways in which Beijing can reduce its purchases of U.S. government bonds:

1) Beijing could buy fewer U.S. government bonds and more other U.S. assets, so that net capital flows from China to the United States would remain unchanged.

2) Beijing could buy fewer U.S. government and other U.S. assets, but other Chinese entities could then in turn buy more U.S. assets , so that net capital flows from China to the United States would stay unchanged.

3) Beijing and other Chinese entities could buy fewer U.S. assets and replace them with an equivalently larger amount of assets from other developed countries , so that net capital flows from China to the United States would be reduced, and net capital flows from China to other developedcountries would increase by the same amount.

4) Beijing and other Chinese entities could buy fewer U.S. assets and replace them with an equivalently larger amount of assets from other developing countries , so that net capital flows from China to the United States would be reduced, and net capital flows from China to other developing countries Beijing and other Chinese entities could buy fewer U.S. assets and not replace them by purchasing an equivalently larger amount of assets from other countries, so that net capital flows from China to the United States and to the world would be reduced.

These five paths cover every possible way Beijing can reduce official purchases of U.S. government bonds: China can buy other U.S. assets, other developed-country assets, other developing-country assets, or domestic assets. No other option is possible. The first two ways would change nothing for either China or the United States. The second two ways would change nothing for China but would cause the U.S. trade deficit to decline, either in ways that would reduce U.S. unemployment or in ways that would reduce U.S. debt.

Finally, the fifth way would also cause the U.S. trade deficit to decline in ways that would likely either reduce U.S. unemployment or reduce U.S. debt; but this would come at the expense of causing the Chinese trade surplus to decline in ways that would either increase Chinese unemployment or increase Chinese debt. By purchasing fewer U.S. government bonds, in other words, Beijing would leave the United States either unchanged or better off, while doing so would also leave China either unchanged or worse off. This doesn’t strike me as a policy Beijing is likely to pursue hotly, and Washington would certainly not be opposed to it.

I always thought this was a crystal clear explanation of what lies behind the threats that are continually uttered from both sides. One half of a Siamese twin can stab or poison the other, but what would be the outcome of that? And Pettis has more, and then much more at the link.

[..] Even if Beijing forced institutions like the People’s Bank of China to purchase fewer U.S. government bonds, such a step cannot credibly be seen as meaningful retaliation against rising trade protectionism in the United States. As I have showed, Beijing’s decision would have no impact at all on the U.S. balance of payments, or it would have a positive impact.

It would have almost no impact on U.S. interest rates, except to the extent perhaps of a slight narrowing of credit spreads to balance a slight increase in riskless rates. It would also have no impact on the Chinese balance of payments in the case that it leaves the U.S. balance of payments unaffected. To the extent that it would result in a narrower U.S. trade deficit, there are only three possible ways this might affect the Chinese balance.

First, China could export more capital to developed countries, in which case the decision would have no immediate impact on China’s overall balance of payments, but it would run the risk of angering its trade partners and inviting retaliation. Second, China could export more capital to developing countries, in which case the decision would have no immediate impact on China’s overall balance of payments, but it would run the very high risk of increasing its investment losses abroad. Or third, China could simply reduce its capital exports abroad, in which case it would be forced into running a lower trade surplus, which could only be countered, in China’s case, with higher unemployment or a much faster increase in debt.

The US cannot default on its debt because its reserve currency status would be shot. Trump knows that and still throws it out there. So what do you do as a serious journalist? Repeat that without as much as a question mark?

In the same vein, China cannot sell its USD-denominated assets, or at least not at any meaningful kind of pace. So what do you do as a serious journalist? You claim that it can?




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Home Forums Weaponizing the Dollar

Viewing 15 posts - 1 through 15 (of 15 total)
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    Saul Leiter Phone call c1957   Don’t worry, we’re still talking virus, just from a slightly different angle. I was going to do something complete
    [See the full post at: Weaponizing the Dollar]


    Well, one thing about this US-China thingy, is that politicians on both sides can safely bring up the threat, knowing full well it won’t happen!


    It seems to me that there is a sixth option: The Chinese could buy gold.

    Pettis does not mention gold at all in his article. One reader asked about it in the comments and he responded: “As for gold, it cannot possibly be a substitute. Gold is less that 2% of total PBoC reserves, so that even if China decided to increase its holding by 50%, this would be negligible in the larger scheme of things, not to mention the difficulties in buying gold without causing prices to soar (and causing prices to collapse if they ever changed their minds).”

    To which I say: What is the problem if there is a run on all the bullion banks and the price skyrockets 100x higher? That would crush the paper markets in gold and end the dollar as the global reserve currency. Gold would become the premier reserve asset, though massively devalued dollars could still be used as a transaction currency through SWIFT.



    The weakness in Pettis’s reply about holding gold, is what happens when people suddenly lose “trust” and “confidence” in your fiat money?

    What that event happens, whomever holds the most gold, gets to make the new rules!

    Those without gold, don’t get a seat at the table!


    WES, that is true in theory, but in practice it has confounded a lot of experts who have been predicting the demise of the dollar for decades, when the exact opposite seems to happen in every crisis. At every crisis, every big money printing, there is a tremendous demand for dollars. Why is that? People cannot lose “trust” and “confidence” unless there is an alternative they can run to. There is no alternative right now other than gold, but gold is useless for international payments. It is a reserve asset, and can be used to defend a currency, but it cannot be used for payments. The machine of global trade has an inexhaustible need for dollars to facilitate all of the transactions. One might theoretically say “I do not have confidence in the dollar,” but when it comes time to make an international payment, you need to buy dollars to make that payment, and they are always in short supply. How is trade going to happen without dollars? The whole architecture of the system is built around the dollar. For that reason, any long term solution will need to split the store of value function of the dollar (gold can take up this role) from the payments function (which will likely continue in a greatly devalued dollar) once the world abandons the dollar as store of value. But for that to happen gold needs to be set free of the paper markets. China does have the power to make that happen, by tightening the noose on gold.

    V. Arnold

    There is no alternative right now other than gold, but gold is useless for international payments. It is a reserve asset, and can be used to defend a currency, but it cannot be used for payments.

    Shanghai Cooperation Organisation (SCO); uses gold as a method of payment in trade with members.
    In 2017, SCO’s eight full members account for approximately half of the world’s population, a quarter of the world’s GDP, and about 80% of Eurasia’s landmass.
    To this day gold is little understood by most. It’s the world’s oldest store of value.
    IMO, it’s important to understand the difference between a store of value and an investment.
    People using gold as a store of value, generally buy gold regardless of price. Not being an investment; price is a secondary consideration. I know that seems counter-intuitive, but that’s why it’s critical to understand “store of value”.
    Nobody knows just how much gold China owns; the guesstimates go from 5,000 to 20,000 tons…who knows?
    Russia on the other hand is fairly transparent about its holdings (multi-thousands of tons). Russia and China are the two largest buyers; have been for years and continue stockpiling to the tune of hundreds of tons per year.
    Both countries are large producers of gold from their own mines.
    As most already know, Asians are very large buyers of gold as jewellry and bar.
    David Graeber’s book, Debt, the First 5,000 Years is a must read, IMO.
    As is anything by Michael Hudson and Steve Keen…

    Pepe Escobar has a great article in this same vein:

    Get Ready for the Next Game-Changer: the Digital Yuan


    V. Arnold, yes, there have been some baby steps, but I am still under the impression that gold payments among SCO members, even if they may be possible, are not widely used. How can they be if China forbids any gold exports? There were efforts to promote settlement between China and Russia with the Yuan and the Ruble, but I am under the impression that this is still a tiny fraction of the trade between the two countries. The Russians have even developed their own system that can operate outside of SWIFT, but I am under the impression that it is rarely used. It is there in case SWIFT goes down, or in case the Russians get locked out of it, but for now it is still just a backup. The dollar system will rule the world until the day it does not.

    The Russians sold off their Treasuries, but when that was done, they also stopped their gold purchases.

    I think the Chinese could upend the whole geopolitical order if they started a run on the bullion banks — which makes a lot more sense to me than dumping treasuries for the sake of dumping treasuries. But that could start World War III. And it could bring an end to their mercantile trade model. There would be a lot of risks. I do not think the Chinese will do anything provocative. But the reason they already have that big gold stash is so that they will be ready for whatever eventually replaces the dollar reserve system, whether than happens tomorrow or 100 years from now.


    What your article did for me Raul is shine a light on the internal political shenanigans in both countries re these issues. It would appear all the huffing and puffing going on is really to generate consent for internal political agendas rather than an honest attempt at system change.
    Great read

    V. Arnold

    “How is trade going to happen without dollars?”


    Yep! How ’bout them apples…….
    Free trade anyone? It’s there but for the doing………………
    Trade in gold is, and always has been, a historic reality; TPTB are scared to death of a new gold standard because gold negates all the fiat that powers todays world.
    Gold is the answer; the road to sovereign trade between individuals and nations…
    Coming soon to a deal near you…

    V. Arnold

    Amended: Gold is the answer; the road to sovereign, free trade, between individuals and nations…
    It cannot be tracked or stopped as long as “cash” rules…

    Dr. D

    I don’t understand. The U.S. cannot pay its debt. It never could since 1979. No nation ever has, as Adam Smith wrote in 1775. Therefore: it will default and always planned to.

    So what do you mean China will sell their Treasuries. THEY ALREADY HAVE. They sold them all into short-durations, and they sold all their FHA’s. That’s what Operation Twist and da Boyz were. Their “nuclear option” already had no effect. Why? Since Europe stinks and everybody else is tiny, there’s literally no where else to go. It’s our currency and your problem.

    Second, their Treasuries are a consequence of our trade deficit. But without an economy, we don’t have one. All year production was flying out of China to SE Asia, crippling China. China has equal parts trade Europe and America. However, America has trade worldwide. So if China vanishes we take a 20% hit and China takes a 50% hit. No prizes for who will survive better, especially when America will be elated to have jobs. But now that’s even less true. We may have no virtually deficit with China at all, or won’t shortly.

    China can’t trigger a crash because they already tried it and didn’t. “It would have almost no impact on U.S. interest rates.” The U.S. means to default on China, or not on China, but everyone, using China and Wuhan as an excuse. Why? Because we always planned to, and the REPO bailouts showed they already hit the detonator. I said so in October. It’s over. We were going to re-set. And then the oil, the basis of the Petrodollar swing $60 a day, into -$40 negative territory? What do you guys need, a signed invitation and a glossy magazine cover? They re-set. That’s a “default” to us commoners. No Petro, no USD, no T-bonds, no debt. No debt = no problems. Shiny clean slate to rebuild on, only some local transition problems, just like ’74. Hey, what if you had a national emergency war powers during that time? Wouldn’t that be cool?

    The U.S. doesn’t WANT the reserve currency. It doesn’t WANT Triffin’s Paradox. The reserve currency destroys the host nation 100% of the time in history. But once you’re in, as Bretton Woods and Viet Nam, the only way out is to DESTROY THE CURRENCY. Which will happen 49 years from its start. That means the only logical thing is to PRINT AS MUCH AS YOU CAN AND SPEND IT. Which is what all government of both parties have done for 49 years.

    Here’s the article they wrote on it when they started in 1969:

    So I disagree. The whole POINT of having the Dollar was to DEFAULT on it. Even if it wasn’t, they would default in any case because a) the debt cannot be paid and anyway b) the runaway debt compounding cannot be stopped.

    Will that stop the banker power? Who cares? Trump hates those guys anyway, and the military can’t tolerate the nation being hollowed out by Triffin any more than it is.

    No one’s making any choices, math is running the show. But I can demonstrate they’ve known this for decades and planned for it long before needing to manufacture an excuse for the inevitable.



    For the first time in a long time, a post from Dr. D where I find more points of agreement than disagreement. But I might raise a minor objection to this:

    “The U.S. doesn’t WANT the reserve currency. It doesn’t WANT Triffin’s Paradox. The reserve currency destroys the host nation 100% of the time in history.”

    If this simply means that the reserve currency is a curse in the long run, I have to agree. But the word want, capitalized twice, makes me pause. I think those in power want it both ways. They want the reserve currency because it makes things so easy. For a long, long time, it enables the Magical Money Tree, as the rest of the world finances our extravagance. It enables the expansion of political and military power. Nobody wants to give those up voluntarily. The elites are so corrupt that I do not think they care one iota what happens to the country. They have long since abandoned the mindset of making decisions that are good for the nation as a whole. So I think we need to be careful in distinguishing what the country wants and what the morally bankrupt and correct kleptocracy wants.

    Dr. D

    Yes, the word “Want” is much bigger than it seems. WHO wants? Wants what? Who benefits? There are some who are benefiting right now — like the military — who want to no longer benefit right now and have other plans. There are others who benefit and don’t want to give it up. They’re fighting. Then there are those who aren’t benefiting, like the America people, who half want and half don’t want it to continue. There are U.S. businesses, half benefit (MNCs) and half who don’t (domestic production) and they disagree in the Halls of K Street.

    These things matter, a lot. We don’t have a “government”, a “people” a “corporations”, we have cloudy power-blocs which each follow their own interests. That’s why in policies it’s most important who policies are benefiting, and who pays the cost. Since Pappa Bush set it and Clinton signed it, it’s been the working people paying the cost and the Government and MNCs benefiting, by design, by definition. Unions are near-dead, nation is destroyed. Corporations multiples larger than ever, now more pre-eminent than whole nations, like Google vs Ireland. Complex power blocs with changing heads, allying and conflicting.


    Dr. D should have his own blog – outstanding comments!

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