China Supporting The US Trade

Second, China has been timid about revaluing the yuan at a pace that would help equilibrate trade flows. From the July 2005 one-time revaluation, the yuan has risen only about 8.1 percent, although in another goodwill gesture, China widened the trading band of the dollar/yuan from 0.3 percent to 0.5 percent the week before the summit. It also announced a steady stream of purchases from U.S. companies (totaling as much as $20 billion) of about the same amount as the December 2006 shopping spree.

Virtually all the commentary on the U.S.-China summit is dollar-negative because, as U.S. Treasury Secretary Henry M. Paulson admits, the U.S. has a short time frame for “progress” while China has a long one. Congress is supposedly restive to impose import barriers and tariffs, although the consensus is the president would veto any
such initiative. But specific gains on the trade imbalance are no more important than the countervailing capital flows.

Much has been made of China’s decision to break off two small chunks of its foreign exchange reserves into special investment agencies that will invest in securities or enterprises other than U.S. Treasuries. This was potentially very worrisome, since the motivation was to get a better return than on U.S. government paper. It was easy to have nightmares of other big reserve holders diversifying away from the dollar with similar return-seeking agencies.

And yet, the very first announcement of a specific investment, also in the days leading up to the summit, was $3 billion for a piece of U.S. privateequity
firm Blackstone. Recent developments have delivered a final blow to the idea that China is feeling hostile toward the U.S. and is preparing to diversify reserves away
from the dollar. It is making excuses for the dollar, so to speak, and putting its money where its mouth is — $40 billion in goods in less than a year plus $3
billion in private equity. How much friendlier can it get?

China also announced another rate hike and a bump up in bank reserve requirements, actions not unrelated to the summit. After all, one of Paulson’s goals is to gain greater access to Chinese financial markets for American and other Western financial institutions. It’s uncertain what the bankers will find when they finally see the books, but the bet is that decades of lending under non-market conditions have left the sector in unsustainable tatters.