General Question

filmfann's avatar

If China boosts the Yuan, does that effect our debt?

Asked by filmfann (45868points) November 14th, 2010

Obama has been pushing China to change the exchange rate between the Chinese currency (the Yuan), and ours (the Dollar). We owe China in the neighborhood of $1 trillion. If the exchange rate gets changed, won’t that change the amount we owe them? Did we borrow dollars, or Yuan?

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7 Answers

Mamradpivo's avatar

Someone who knows more about this could correct me, but my understanding is that Chinese banks (and Japanese, Saudi, etc) own Treasury bonds in US dollars. When they come due, we will have to pay them in dollars.

So in theory, the rise of the RMB won’t affect that. But it could impact the price of just about everything on the market. And it would take years, if ever, for American companies to re-establish industrial production on the scale and at the efficiency of their Chinese counterparts.

laureth's avatar

When China (or anyone else) buys treasury debt, they buy it in dollars, and it stays enumerated in dollars until we pay them back – in dollars.

filmfann's avatar

@laureth So if they bought $1 Trillion in Treasury Bonds, it cost them 100,000,000,000,000 Yuan. If the exchange rate on the Yuan was changed to, say, 50–1, rather than the current 100–1, wouldn’t we end up paying them back only half of their investment?

laureth's avatar

It only cost them yuan if they exchanged yuan for dollars to buy the treasury bills. This is like when you go to Europe, and you exchange dollars for euros at the airport so you can buy things while you’re there. The shopkeepers don’t care what you paid in dollars to get enough euros to buy their stuff, they just sell you trinkets for euros. On the way home, you might exchange any euros you have left for dollars at the same airport counter. If the rate is less on the way out, oh well, sux to be you, but the shopkeepers selling things in euros still don’t care.

If they bought a trillion dollars in bonds, we will pay them a trillion dollars back. The changing of the yuan doesn’t change our debt, we still pay them the same number of dollars as they lent to us. If the exchange rate is different when China goes to “the airport” to exchange those dollars back into yuan, any difference is not our concern.

However, let’s say that it costs 2 yuan to buy a duck (I’m making this up) when they bought the treasury bond, and on the way back out the yuan has risen in value, it might only cost them 1 yuan to buy a duck with the money we pay them back at cash out time. So it’s not necessarily true that they are losing in absolute value.

Something to keep in mind is this. The value of currency is (usually) tied to demand. One way that the Chinese keep the yuan low, is to keep using them to buy dollars (or bonds). This devalues the yuan when compared to the dollar, and increases the value of the dollar when compared to the yuan. (It’s also why returning Chinese tourists are divested of their dollars in exchange for yuan unless they have a very compelling reason to possess dollars in China, and then China uses those dollars to buy from us.) When the U.S. dollar is the world’s reserve currency, that great demand for the dollar keeps it somewhat artificially high.

So, the answer is “yes and no.” :) Investments are not always guaranteed, but the dollar has been a pretty stable investment for a good long time and continues to remain so. China (and anyone else investing in bonds) ought to know the risks before they buy them.

wundayatta's avatar

It makes the dollar cheaper, which means there will be a greater demand for American goods and services.

@laureth is correct. The Chinese buy American bonds with American dollars. They have trillions of those dollars lying around, and they have to do something with them. So they buy American bonds. Now, when they sell those bonds, they get more dollars, but if the Yuan has increased in price, then the dollar has decreased and they make less money, when they try to sell those dollars for something else.

The Chinese want the dollar to stay strong, so that they can get a lot of stuff with the dollars they are sitting on. They are willing to take a hit in order to keep the Yuan low relative to the dollar. That keeps the US kind of dependent on China, because if we go anywhere else, goods will be much more expensive.

The Chinese have some leverage, but not as much as people think. As long as they trap us with the low Yuan, they are also trapped in this relationship. They can’t afford to let the dollar decline because it will hurt them too much.

This is all a good thing, it seems to me. It makes us very interdependent. We rely on each other for our present and future good. No one wants to rock that apple cart any harder than they have to.

jlelandg's avatar

We’re not enemies, but friend-amies, with co-dependent economies!

mattbrowne's avatar

China boosting the Yuan would mean the US needs to innovate less to be able to sell its goods.

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