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Comment by ArikBe | Hacker News Reader

China holds US debt treasuries.

China sells US debt treasuries in exchange for dollars.

China sells the dollars it raised to buy Yuan.

Demand for the Yuan increases, hence the Yuan becomes more valuable, hence its exchange rate vis-a-vis the dollar appreciates (it will also appreciate vis-a-vis other currencies).

Dollars are being dumped into the market, so the dollar should decrease in value.

A more valuable Yuan means that China's currency is more expensive, hence its exports become more expensive (and drop) and its imports become cheaper (and rise).

Other people now own US debt, for which they will receive interest payments and a repayment when the debt is due.

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In terms of supply and demand what you say makes sense, but:

> China sells the dollars it raised to buy Yuan.

The Yuan is a highly controlled currency that does not behave like other normal free market, floating currencies.

The Chinese government sets the exchange rate as was shown just weeks ago when they devalued the Yuan and Trump call that move the start of a China/USA currency war.

> Demand for the Yuan increases, hence the Yuan becomes more valuable

If the Yuan was free floating that might be true, but even then, since China is a net exporting nation they want a low Yuan, so that their exports are cheaper and their imports are more expensive. So why would they want to drive up the Yuan?

I'm really not sure what is going on but everything they are doing (i.e. selling US bonds) goes against what one would expect.

The only thing I can think of, because of the turmoil in China (i.e. the share market shock, property bubbles etc) they are a bit short of cash and rather than print money (which would causes inflation) they are raising money by selling some of their US bonds.

China cannot just set the exchange rate arbitrarily, well, without creating huge artificial imbalances that even they can't get away with. Instead, they make their peg real by buying/selling RMB and dollars. So if china wants to prevent the RMB from tanking (and believe me, they do) they need to buy satisfy the demand for dollars bought buy exchanging RMB, just like they buy dollars to provide dollars. China bought treasuries in the first place to park USD from trade surpluses somewhere that wouldn't cause their currency to appreciate, and now they are selling that to prevent depreciation. Balance must be maintained, one way or the other.

>The Yuan is a highly controlled currency that does not behave like other normal free market, floating currencies.

They "control" it by using free market tools: buying and selling yuan in the open market.

What they want is a very slowly appreciating Yuan. This shows that the economy is growing, and it gives China more buying power overseas, but it keeps imports affordable. This is what has happened over the past 10 years, since the government allowed the exchange rate to float. (see https://www.google.com/finance?q=CURRENCY%3ACNY&ei=bD_fVZnNN...).

The issue is that over the past month, the Yuan has actually started to DECREASE in value against the dollar, which is a sign that the economy is slowing. That's scaring the crap out of China investors, who have baked in a very high growth rate into their pricing. That's what's driving the government to put their rate control machine into reverse -- instead of trying to keep the rate from growing too fast (to favor exports), they are doing what they can to keep the rate from falling any further.

More like, there is capital flight from China because there are economic problems and yuan devaluation is anticipated.

When people liquidate yuan assets and buy overseas assets, they sell yuan to the central bank, buy foreign currency.

In order to buy the yuan, China's central bank needs to supply foreign currency. To acquire the foreign currency, they sell foreign assets, e.g. Treasurys.

It's not so much they are trying to push the yuan up, as trying to prevent it from falling too precipitously as people sell it.

They are accommodating the capital flight by supplying foreign assets, instead of letting the yuan fall sufficiently sharply to the point that would stop capital flight, because investors would no longer expect further depreciation.

in a nutshell, as hopefully others have explained better...

before

- yuan is undervalued relative to market-clearing price

- central banks sells yuan to prevent it from rising too quickly

- selling yuan, it acquires dollars in exchange

- it builds currency reserves, invests in Treasuries

now

- yuan is overvalued relative to market-clearing price

- central bank buys yuan to prevent it from falling too quickly

- buying yuan, it needs to offer dollars in exchange

- it sells Treasurys for dollars, sells off currency reserves

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