China's Hidden Lever: How it Can Pressure Washington with US Treasuries
The recent joint market intervention by the United States and Japan to prop up the Japanese Yen has raised eyebrows. The transaction was carried out in Euros, which has sparked a disquieting market interpretation: the US involvement was about ensuring the stability of the US bond market.
US treasuries have become less stable lately. Yields on 10- and 30-year US bonds have shot up since the Iran war. The yield on the 30-year bond has gone up from 1.3% to 5.2% since early 2020, making the US government pay its highest borrowing costs on these bonds since 2007 and 2001 respectively.
China can now dump some treasuries as a pressure tactic against Washington. There are four interconnected reasons for the weakness in US bonds: inflation, unsustainable debt dynamics, the new Fed Chair Kevin Warsh's muddled rhetoric, and the shift from government debt to corporate debt as global capital flows into US equities.
China has shifted its foreign exchange reserve management strategy. It stopped piling dollars in its reserves around 2015 and instead accumulated them in state-run commercial banks. As a result, China is now less dependent on treasuries for managing its currency.