China has increased its foreign currency reserves nearly tenfold in the last eight years, amassing U.S. dollars at an incredible rate. Unlike historical strategies for building reserves, China’s foreign currency accumulation is not intended to strengthen their currency. Rather, China’s stated aim is to protect U.S. purchasing power. China presents itself as the friendly trading partner, saying it will gladly keep buying dollars so that the U.S. may keep buying Chinese products. But these massive U.S. dollar holdings also give China the ability to influence the U.S. currency. The Chinese have a keen understanding of the concept of leverage, and can use these reserves to maintain their current trade advantages. Any attempt to make China revalue the renminbi will surely be met by more threats from Beijing to diversify their reserves away from the U.S. dollar. Meanwhile, the United States has remained complacent about growing its foreign currency reserves, leaving the U.S. government powerless to curb the dollar’s recent plunge in value.
May 28, 2008