Project Syndicate - China's bad debtor :: Mmegi Online

BEIJING - Before the global financial crisis hit, critics of China's economic imbalances - its twin fiscal and trade surpluses - mainly concentrated on the misallocation of resources that occurs when poor countries borrow from rich countries at high interest rates and lend the money to them at low interest rates. The great irony of the financial crisis is that the situation has become worse, not better.

China's foreign-exchange reserves, indeed, are facing a triple whammy: a decline in the US dollar's purchasing power, a fall in the prices of US government securities, and possible inflation in the longer run.

The bulk of China's $2.3 trillion in foreign reserves are held not for the purpose of protection against negative external shocks, but as savings in the form of US Treasury notes. China thus needs to preserve the value of its savings.
But there is no question whatsoever that the US dollar will go south in the long run - a depreciation that started in April 2002 and, after a short interval, resumed in March 2009. Unless the US economy improves its trade balance, the dollar will fall. But the US cannot improve its trade balance unless the dollar falls.

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