REASSURANCE ON FREIGN EXCHANGE RESERVES

UNCLAS SECTION 01 OF 02 BEIJING 005317 SIPDIS SIPDIS SENSITIVE STATE FOR EAP/CM AND EB/OMA TREASURY FOR OASIA/DOHNER USDOC FOR 4420 STATE PLEASE PASS USTR FOR STRATFORD E.O. 12958: N/A TAGS: ECON EFI PREL EINV CH SUBJECT: REASSURANCE ON FREIGN EXCHANGE RESERVES SUMMARY -------------- . (SBU) Beijing-based economist He Fan told EconMinCouns and FinMinCouns that an August 8 article published in the London Daily Telegraph quoted him out of context when it suggested that he believed China had the power to set off a U.S. dollar (USD) collapse in response to U.S. actions on trade and currency issues. Mr. He was actually never interviewed by the Telegraph, and the paper appears to have selectively drawn words from an op-ed he published in Chinese media the previous day but had written months earlier. Meanwhile, on August 12, the state-controlled Xinhua news agency prominently featured comments of an unidentified central bank official emphasizing the importance of USD assets in China's foreign exchange reserves. END SUMMARY UK PAPER HIGHLIGHTS CHINESE "THREATS" AGAINST USD... -------------- -------------- ¶2. (SBU) On August 8, the London Daily Telegraph reported that the "the Chinese Government has begun a concerted campaign of economic threats against the United States, hinting that it may liquidate its vast holding of U.S. Treasury bonds if Washington imposes trade sanctions to force a RMB revaluation." Two Chinese economists were quoted in the article as suggesting that Beijing would use its foreign currency reserves as a "political weapon to counter pressure from the U.S. Congress." The piece in the Telegraph was widely reflected in other media reporting and commentary throughout Europe, Asia, and the United States. More than 550,000 online readers linked to the article, according to a count published on August 9 by the newspaper. (The article can be found online at: http:// www. telegraph.co.uk/money/main. jhtml?xml=/money/2007/08/07/bcnchina107a.xml) ...DRAWING SELECTIVELY FROM OP-ED IN CHINA DAILY -------------- --- ¶3. (SBU) The Daily Telegraph article took out of context the views of a Beijing-based economist, portraying him as suggesting that China had the power to set off a USD collapse if it chose to do so. The economist, He Fan, who is the Assistant Director of Chinese Academy of Social Sciences Institute of World Economics and Politics, had on August 7 published an op-ed in the state-controlled China Daily. Mr. He's piece does not advocate liquidation of China's USD reserves. Rather, Mr. He argues for a slow and gradual appreciation of the RMB in order to give China greater flexibility in carrying out monetary policy and encourage industrial restructuring. Mr. He further suggests that the U.S. has more to gain if China maintains the RMB at a stable level, since China holds a considerable portion of its reserves in the form of U.S. Treasury bonds and that a more flexible exchange rate could require China to sell some of its holdings, causing the U.S. dollar to depreciate further. (Comment: this is not necessarily true, as less foreign exchange intervention might only lead to fewer purchases, but not net sales of U.S. fixed income assets. End Comment) He also asserts that exchange rate reform is only one part of a package of policy reforms needed to upgrade China's industry structure. Mr. He concludes by warning against politicizing the exchange rate issue, suggesting this could slow reform. (Mr. He's op-ed is available at: http:// www .chinadaily. com.cn/cndy/ 2007-08/07/content_5448889.htm) ECONOMIST SAYS HE WAS QUOTED OUT OF CONTEXT -------------- ¶4. (SBU) Speaking to Emboffs on August 13, Mr. He stated that even though the op-ed ran recently, he actually drafted it several months ago. He said he was never interviewed by the Daily Telegraph and could not understand why a British paper had characterized his views as threatening to the United States. Mr. He insisted that not a single Chinese Government official has ever threatened to use foreign exchange reserves as a political weapon, and that he had never proposed this. Moreover, while other countries are reducing the share of their official reserves in USD holdings, China continues to maintain the majority of its foreign exchange reserves in USD assets. Mr. He said that to his knowledge, there are no Chinese academics who believe China should leverage its foreign exchange reserves to counter contemplated U.S. Congressional action on trade and currency. In Mr. He's view, the U.S. should "maintain a lower profile" on controversial issues, and particularly on China's exchange policy, since public pressure is unhelpful to Chinese officials who at the same time have to respond to growing domestic anxiety about economic challenges. XINHUA SETS THE RECORD STRAIGHT BEIJING 00005317 002 OF 002 -------------- ¶5. (SBU) On August 13, Xinhua News reported statements from a People's Bank of China (PBOC) official downplaying rumors of Beijing's threat to sell off its USD reserves and reiterating China's support for close economic and trade relations with the U.S. The unnamed official stated that "the U.S. financial market is huge and has high liquidity, and dollar assets, including U.S. government bonds, are an important component of China's foreign exchange reserves investment." Reciting previously stated policy, the official said Beijing's priorities in managing its $1.33 trillion in foreign currency reserves include "safety, liquidity, and investment returns." The PBOC official further stated, "In deciding the portfolio of the currency assets structure, [we] have consistently stuck to a long-term, strategic policy, taking into consideration multiple factors such as China's foreign economic development, evolution of the international monetary system, as well as changes in the international capital and foreign exchange markets." (The Xinhua report can be found at: http://www. chinadaily.com.cn/china/ 2007-08/13/content_6023038.htm) COMMENT -------------- ¶6. (SBU) Comment: The original op-ed piece, Xinhua's rapid clarification, and Mr. He's remarks echo previous assurances by State Administration of Foreign Exchange (SAFE),PBOC, and MOF officials that any changes in the composition of China's reserves would be done in a way that safeguards orderly financial markets, and particularly U.S. fixed income markets. In early August, PBOC Deputy Governor Hu Xiao Lian told visiting Treasury Under Secretary McCormick that comments by Chinese economist Xiao Bin, who in addition to Mr. He was a quoted in the Telegraph article, do not reflect government policies. Lou Ji Wei, Deputy Secretary of the State Council and Head of the State Investment Corporation, also assured visiting Treasury Deputy Secretary Kimmitt in June, that China will maintain a responsible approach to foreign reserves management. End Comment. RANDT