Question

Please read the following excerpt from an article:

" As President Barack Obama prepares to depart Thursday for his first Asia trip, Chinese premier Wen Jiabao is urging the U.S. to keep its deficit to an "appropriate size," a clear message to the leader of the world's largest debtor nation from its largest creditor.

China is the largest holder of U.S. government debt and has invested an estimated 70% of its more than $2 trillion stockpile of foreign-exchange reserves (the world's largest) in dollar assets, Reuters reports. Further dollar weakness, brought on by enormous U.S. deficit spending and near-zero interest rates, would erode the value of China's huge U.S. holdings.

"Most importantly, we hope the United States will keep an appropriate size to its deficit so that there will be basic stability in the exchange rate, and that is conducive to stability and the recovery of the global economy," Wen Jiabao said over the weekend at a news conference in Egypt.  

In contrast, the best strategy for the U.S. may be an inflationary stance. We need stimulus spending to jump start our economy and reduce the real value of our record budget deficit of $1.42 trillion in the fiscal year that ended Sept. 30. An improved U.S. economy also would mean more Americans buying up Chinese-made goods"

Please comment on the following questions:

Why is China concerned about the value of US dollar? What can they do to decrease their exposure to fluctuations in the value of US dollar? Is decreasing exposure to US dollar an easy task for China? Why?

Answer 1

China is concerned about the value of US dollar because China has invested a large sum, i.e. 70% of approximately $2 trillion USD in American government bonds. The rest is saved up as Us dollar currency reserves. Now a stable appreciating value of dollar would be in interest of China as it will result in increease in its investments as well as its foreign reserves of US dollar. Since China has so much invested in USA, the stability of Dollar shall be also good for economy of the China as well. Apart from this China is an export based economy with US being its largest importer. An increase in dollar value or even high fluctuation will be bad for its own economy as the chinese exporters shall receive lesser US dollars for their exports. Also, a stable dollar shall lead to a stable US economy and this shall lead to American buying more Chinese products which again would be good for China.

To decrease the exposure, China can gradually decrease its exposure in US dollars. This can be done by buying up other currencies or investing elsewhere. Now this shall not be easy as China exports large amount of goods to US, so everyday it receives US dollar for its exports which again shall increase its exposure. It may ask for any other type of payment but due to lack of other alternative to US Dollar as reserve currency it would be difficult. Other currencies such as Euro, Yen etc are less present.