Aim high

Chinese "tapering" may worsen US bond woes

Investors are concerned about what will happen when the Federal Reserve "tapers" its purchases of US bonds. They should start to worry about China following suit. Chinese central bankers suggest they might stop the currency intervention which feeds their demand for Treasuries. For now, both kinds of tapering are just ideas. But if they overlap, Treasury yields may rise faster and further than investors expect.

China has amassed $3.7 trillion of foreign exchange reserves, the world's largest, by tightly managing the yuan's moves for years. Yet recently, its central bank governor floated the idea of speeding up reforms to give markets more sway, saying regular intervention could "basically" stop. And, a vice-governor said the drawbacks of amassing more reserves outweighed the benefits.

That would be helpful for China's economy. With less reliance on exports, there's no longer an obvious need to micro-manage the yuan. Reforms would advance Beijing's plan to win international status for its currency. And while China can't slash its reserves without sparking a massive sell-off in the dollar and US bond market, it makes sense not to increase its stockpile when US politicians are willing to threaten each other with the prospect of a debt default.

Beijing doesn't publish details of its reserves but holds at least 60 per cent in dollars and Treasuries, if other countries' breakdowns are any guide. Its stockpile has grown at an average monthly clip of about $39 billion in 2013, which suggests at least $20 billion of dollars and US bonds may be bought by Beijing every month. That's a fifth of the total size of the Fed's asset purchases, which targets more than just Treasuries. While the Fed has more influence over yields, they would easily be higher without Chinese buying.

Beijing tends to reform slowly and its reserve accumulation is unlikely to end either suddenly or soon. However, its road map is unlikely to suit bond investors. The day is coming when dependable buyers of Treasuries will be troublingly thin on the ground.