Can China Crash the US Treasury Market?

Recently, there has been much vocalizing by bond bears in regards to a "Treasury Bubble." These bears point to the enormous U.S. budget deficit, expected to reach $1.47 trillion this year. This increase in supply would normally be expected to exert downward price pressure. On the demand side, they point at China and ask what happens if Chinese demand for Treasuries drops?

This question may have just been answered. ZeroHedge has just analyzed data showing that China's Treasury holdings are down by $100 billion in the last twelve months. This must come as a serious surprise to the myriad of Bond Bears who believe in a "Treasury Bubble."

China has been very busy buying Yen and Euros instead of dollars this year. And guess what? It hasn’t hurt the Treasury market one iota. Instead, the Yen is at a 15 year high against the dollar. The euro has climbed from $1.20 to $1.30. And surprise, surprise, the Yuan has fallen 1.8% against the dollar in the last five trading days.


China can’t sell big chunks of Treasuries for many reasons. First, the political backlash would be huge if they drove prices down and took losses. Second, what would they buy instead? Buying commodities will increase the inflation that’s already picking up in China. You yourself posted about how increases in raw materials is a death-blow for low margin exporters. What else can they buy? They’re already buying Yen and Euros. If this is increased, Europe has no qualms about protectionism. Japan will just print, knowing that inflation will hurt China more.

The simple fact is that China is not buying Treasuries because it's getting more bang for the buck by buying the Yen and the euro. The data from the past year should convince the bond bears that they need to find more arguments besides "China might sell Treasuries."
Finally, I would like to thank two sources authoritative sources I am indebted to. Michael Pettis provides the best analysis of China in a global context that I have seen. His analysis of the structure of China's economy and what the People's Bank of China can and cannot do is spot on. Dave Rosenberg is the best US economist I know.