Asia vouches for US debt

Time of article published Apr 20, 2011

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Kaori Kaneko and Tetsushi Kajimoto Tokyo

SOME OF the biggest creditors of the US moved to shore up confidence in its sovereign debt yesterday after Standard & Poor’s (S&P) threatened to cut its credit rating on the country, touching a nerve among big holders of treasuries.

Asian nations have amassed trillions of dollars in US government bonds through recycled export earnings, and have a vital interest in maintaining their value. It was no surprise that officials were keen to play down the danger.

“The US is tackling fiscal issues in various ways, so I still think US treasuries are basically an attractive product for us,” Japanese Finance Minister Yoshihiko Noda said.

Treasury prices did indeed prove resilient yesterday, although that did not stop stock markets from skidding across Asia, where investors were already worried that Greece may be on the verge of restructuring its debt.

S&P slapped a negative outlook on the US’s top-notch AAA credit rating on Monday and said there was a one in three chance that it could eventually cut it unless politicians found a way to slash the yawning budget deficit within two years.

The warning sparked a general pullback from riskier assets such as equities and commodities.

If investors start demanding higher returns for holding riskier US debt, the rise in bond yields could erode the value of treasuries held in currency reserves and push borrowing costs up, putting the global economic recovery in jeopardy.

Japan’s reserves stood at $1.12 trillion (R7.65 trillion) at the end of March, the bulk of which is in treasuries. Even that pile is dwarfed by China’s $3 trillion in reserves, and again much of that is believed to be in US government debt.

Other large holders of US debt include the UK, oil exporting nations in the Middle East, Brazil, Hong Kong, Russia, Taiwan and Canada.

So monstrous have China’s holdings become that it is stoking inflation in the country while making it almost a captive investor in treasuries, the only market large and liquid enough to absorb such mountains of cash.

Li Jie, the head of the China Foreign Exchange Reserve Research Centre, an academic institute with the Central University of Finance and Economics, said S&P’s warning would ring alarm bells for Beijing.

The scale of the potential losses from a slide in the value of US debt would drive China to cut the share of treasuries in its holdings, he said.

“It is widely believed that US treasuries make up about 70 percent in China’s foreign exchange reserves, but China may cut the proportion to 50 percent or less in the coming decade,” Li noted.

However, achieving such a shift without spooking the market and driving down treasury prices would be no small feat.

The danger of a US downgrade could draw unwanted attention to Japan’s huge debt burden, which is likely to grow larger as the government secures funding to rebuild after last month’s devastating earthquake and tsunami.

Japan is set to compile an extra budget worth about ¥4 trillion (R331.7 billion) to start reconstruction after the March 11 earthquake and tsunami, which triggered the world’s worst nuclear crisis in 25 years.

This is likely to be the first of several spending packages.

Japan’s public debt is already twice the size of its $5 trillion economy, and policymakers have said new bond issuance would be needed after the first extra budget to pay for reconstruction costs.

S&P cut Japan’s sovereign rating to AA-minus in January, although it said shortly after the March disaster that it did not expect to change its ratings stance on Japan. – Reuters

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