Senior China official urges cut in US debt holding

By Kevin Yao and Benjamin Kang Lim
Tue Apr 4, 2006 5:26 AM ET

BEIJING (Reuters) - China should trim its holdings of U.S. debt, a senior Chinese official said, rattling markets on Tuesday in the run-up to a visit by President Hu Jintao to Washington this month.

As China is a leading financier of the U.S. current account deficit and holds the world's largest foreign exchange reserves, the comments from Cheng Siwei, a vice chief of the national parliament, sent the dollar and U.S. government bonds lower.

The comments could add to the contentious issues that will come up during Hu's visit, notably what some U.S. politicians and companies see as currency manipulation by China, accused of holding down the yuan to gain an unfair trade advantage.

Hong Kong's Beijing-funded Wen Wei Po newspaper carried Cheng's comments, made in Hong Kong on Monday.

"China can stop buying dollar-denominated bonds, increase buying of U.S. products and gradually reduce its holdings of U.S. bonds," the newspaper quoted him as saying. "But all these must follow the prescribed order," he added, without elaborating.

Despite rising short-term interest rates, longer-term debt yields in the United States are exceptionally low by historical standards. Any move by China to sell some of its massive debt holdings could drive up long-term rates, which ultimately could make it costlier for Americans to take out home mortgages.

However, an official at China's central bank said Cheng was merely giving a personal opinion and a reporter present for the speech said Cheng had stressed he was expressing his own views.

"The comments only reflected his academic view. The People's Bank of China has been studying issues regarding the management of foreign exchange reserves," the central bank official told Reuters.

Cheng is one of more than 10 vice chiefs of the parliament, as well as chairman of the China Democratic National Construction Association, one of eight minor political parties loyal to the Communist Party.

His rank is equivalent to vice premier, outranking cabinet ministers, and he often speaks on economic issues, but he does not exercise direct control over government policy.

"Cheng Siwei is a scholar and at the same time a national leader," said Zhang Zuhua, a former official familiar with the workings of the government. "He often expresses his views as an expert, and doesn't just give bureaucratic talk.

Hu meets U.S. President George W. Bush in Washington on April 20. U.S. officials say Hu's visit will focus on trade issues as the Bush administration seeks to narrow its trade gap with China, which hit a record $202 billion in 2005.

Analysts say China has been gradually diversifying away from dollar assets in its foreign exchange reserves but fears of a collapse in the U.S. currency will prevent it from making any dramatic shift.

It has been a big buyer of U.S. government bonds, helping to finance the U.S. current account deficit and keep American interest rates low. Investors watch closely for any sign that Beijing might shift the government's investment mix.

Central bank chief Zhou Xiaochuan said last month that China would adjust the mix of its reserves in light of global market conditions. In doing so, China's criteria would be safety, liquidity and profitability, in that order.

China's foreign exchange reserves hit $854 billion at the end of February, Premier Wen Jiabao said in a speech published in the official People's Daily on Tuesday, confirming a previously reported figure.

China held $262.6 billion of U.S. Treasuries as of January, dwarfed by Japan's holding of $668.3 billion, according to U.S. Treasury data.

Chinese officials have denied reports they plan to cut the current volume of dollar assets and analysts say China may have to buy more U.S. assets as the country's foreign exchange reserves have been growing rapidly, driven by the inflows of dollars from its trade surplus, foreign investment and hot money.

The central bank buys dollars to ensure the yuan <CNY=CFXS> does not rise too sharply after last year's landmark revaluation. Those dollars, along with assets in other foreign currencies, accumulate in its reserves.

Cheng also said China should widen the yuan's trading band at an appropriate time, the newspaper said.

But China must keep the yuan "relatively" stable in the near term and avoid an "excessively" high rise in foreign exchange reserves, he said.

The country would make the yuan fully convertible in the longer term, but it still did not have a timetable, Cheng said.