Sunday, June 20, 2010

Finally MSM Gets the Danger to Treasury Securities because of China's Currency Move

Reuters reports:
The U.S. Treasury market may be vulnerable to a sell-off on Monday on fear that China's move to allow more flexibility for its currency means the world's largest holder of U.S. sovereign debt will cut future purchases.
Adding to market tensions, the surprise move on Saturday occurred before next week's sales of $108 billion in shorter-dated debt by the U.S. Treasury and a Federal Reserve policy meeting this week.
In July 2005 when China abandoned its peg against the U.S. dollar and moved to a managed float, there was a sharp sell-off in U.S. Treasuries, a reaction that some analysts say could happen again.

"The knee-jerk reaction was a 10 to 15 basis point increase in yields. That was one of the biggest moves of the year and it continued to rise for two to three weeks thereafter," said George Goncalves, head of U.S. interest rate strategy at Nomura Securities International in New York.
I am not as concerned about the short term reaction in the markets to China's currency move ,which is the focus of the above Reuters report, as I am implications for purchases of Treasury securities over the long term by the Chinese. The long term consequences will certainly be negative. How negative will be dependent on just how much of a cut back in size of the role of the dollar will be. Remember, before this announcement the yuan was fixed 100% in relation to the dollar. with a basket of currencies it is not hard to imagine the dollar's role dropping by 50%, though China has not disclosed the composition of the basket at this point. 

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