Brad Setser

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Cross border flows, with a bit of macroeconomics

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More on China’s May Reserves

by Brad Setser

The best available indicators of China’s activity in the foreign exchange market—the People’s Bank of China’s (PBOC) balance sheet data, and the State Administration of Foreign Exchange’s (SAFE) foreign exchange settlement data—are out. They have confirmed that China did not sell much foreign currency in May.

RMB_new

The PBOC’s balance sheet data shows a fall of between zero and $8 billion (I prefer the broadest measure—foreign assets, to foreign reserves, and the broader measure is flat). And SAFE’s data on foreign exchange (FX) settlement shows only $10 billion in sales by banks on behalf of clients, and $12.5 billion in total sales—both numbers are the smallest since last June.

The settlement data that includes forwards even fewer sales, as the spot data included a lot of settled forwards.

A couple of weeks ago I noted that May would be an interesting month for the evolution of China’s reserves.

May is a month where the yuan depreciated against the dollar. The depreciation was broadly consistent with the basket peg. The dollar appreciated, so a true basket peg would imply that the yuan should depreciate against the dollar.

And in the past any depreciation against the dollar tended to produce expectations of a bigger move against the dollar, and led to intensified pressure and strong reserve sales.

That though doesn’t seem to have happened in May. All things China have stabilized.

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A Bit More on Chinese, Belgian and Saudi Custodial Holdings

by Brad Setser

Marc Chandler asked why I chose to attribute Belgium’s holdings to China rather than any of the other potential candidates—notably the Gulf and Russia.

The answer for Russia is pretty straightforward. Russia’s holdings of Treasuries (and in the past Russia’s holdings of both Treasuries and Agencies) tend to show up in the U.S. custodial data. Russia holds around $275 billion in securities in its reserves, and it holds a relatively low share of its reserves in dollars (40 percent still?). $85 billion in Treasuries (in March) is more or less in line with expectations. There are maybe a few billion missing, but there also is no need to search for large quantities of missing Russian dollar-denominated reserve assets.

Differentiating between the Gulf and China is a bit harder. Both are to a degree “missing” in the custodial data. Both China’s and the Gulf’s custodial holdings are a bit lower than would be expected based on the size of their reserves, and for the Gulf, the size of their reserves and sovereign fund. Both are big players, so both could conceivably account for one of the key features of Belgium: the rapid rise and then the rapid fall in Belgian’s custodial holdings.

So why China?

Consider a plot of Saudi Reserves—looking only at the Saudi Arabian Monetary Agency’s (SAMA) holdings of securities. I also plotted the change that would be expected if say 75 percent of SAMA’s securities were in dollars, just as a reminder that the full change is the upper limit. SAMA also has a lot of deposits, but they aren’t relevant here.

Saudi Arabia

It is fairly clear that the changes in Belgium’s custodial holdings are a loose fit at best for SAMA’s security holdings. The big run-up in the Belgian account actually came when the pace of Saudi reserve growth was slowing. And the drawdown in Saudi reserves started a bit before the drawdown in Belgium, and has been more steady.

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How Many Treasuries Does China Still Own?

by Brad Setser

Quick answer. A lot. Between $1.3 trillion and $1.4 trillion, or about 40 percent of China’s reserves. The last year has made it abundantly clear that Belgium’s holdings of Treasuries aren’t from Belgian dentists. China’s reserves started to fall last summer. Yet China’s reported holdings of Treasuries in the custodial data barely budged. Belgium’s holdings, by contrast, fell by around $200 billion. It is now standard among those who care about this stuff to add Belgium’s holdings (between $80 and $90 billion in long-term Treasuries, and $154 billion if you count Treasury bills) to those of China ($1245 billion).

A more interesting question, one that takes a bit more technical wizardry to report, is how many U.S. assets China holds. The right answer, I think, is at least $1.8 trillion and perhaps more. That is somewhat less than China used to hold—but still quite a lot. In addition to Treasuries, China has $200 billion or so in Agencies, and $200 billion or so in U.S. equities, and close to $100 billion on deposit in U.S. banks. That is more or less in line with expectations for a country with $3.2 trillion in reserves.

ONE

I actually lied about the technical wizardry required. Now that the Treasury reports monthly custodial holdings of all kinds of debt along with custodial holdings of U.S. equities, the amount of skill required isn’t very high. You just need to know where to look. (Historical data is here)

I do still have a few tricks up my sleeve. After all, the trick to Treasury International Capital (TIC) watching is looking at changes over time, and trying understanding the resulting patterns. The art comes in making the adjustments needed to make the custodial data better map to the transactional data.

If you want a continuous time series that goes back to the start of China’s reserve accumulation, you need to extrapolate between the annual custodial surveys from 2002 to 2012. Using, in broad terms, the methodology outlined here, that can be done with a fair amount of sweat, toil, and tears. After 2012, the Treasury provides a continuous monthly data series.

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China’s May Reserves

by Brad Setser

The change in China’s headline reserves is actually one of the least reliable indicators of China’s true intervention in the foreign currency market. Valuation changes create a lot of noise. And it is always possible for China to intervene in ways that do not show up in headline reserves. Last fall, for example, much of the intervention came from changes in the banks’ required foreign currency reserves.

The change in the foreign assets on the PBOC’s balance sheet, and the State Administration on Foreign Exchange’s (SAFE) foreign exchange settlement data are more useful.

Still, there is valuable information in today’s release. The roughly $30 billion fall in reserves to $3,192 billion (not a very big sum) is more or less explained by a $20 billion or so fall in the market value of China’s euros, yen, pounds, and other currency holdings. Actual sales appear to have remained low.

That is interesting and perhaps a bit surprising, as the yuan depreciated in May against the dollar. And in past months, yuan depreciation against the dollar has been associated with large sales of dollars, and strong pressure on the currency.

CNY v Basket

We need the full data on China—the “proxies” for true intervention that should be released over the next couple of weeks—to get a complete picture. But if it is confirmed that China’s reserve sales were indeed modest, I can think of three possible explanations:

1) Renewed enforcement of controls on the financial account are working. They limited outflows.
2) Chinese companies have mostly finished hedging their foreign currency debts. They now have had three quarters to pay it down, or to hedge. And it certainly seems from the balance of payments data in late 2015 that Chinese banks and firms were paying back their cross-border loans with some speed.
3) Managing against a basket (at least some of the time) is working. The depreciation against the dollar came in the context of the yuan’s appreciation against the basket, and thus did not generate expectations that the move against the dollar was the first step in a much bigger devaluation.

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What Drove China’s Large Reserve Sales?

by Brad Setser

China never was going to transition from one of the most heavily managed currencies in the world to a free float overnight. The critical question always has been how China is going to manage its currency, not whether China will manage its currency. The “market” in China has effectively been a bet on where the People’s Bank of China (PBOC)—and its various masters—wanted the currency to go. The reform last August did not change that.

And China made its task more difficult last August by trying to get rid of one of its tools for managing market expectations—the daily fix of the level for yuan against the dollar, which in theory, though rarely in practice, sets the yuan’s daily trading band—precisely when it moved to destabilize market expectations. Both the spot (the “market” price for China’s currency) and the fix (the PBOC’s reference rate) had been remarkably stable in the three to four months prior to China’s August currency reform. Depreciating the fix to the weaker spot price sent a signal, even if the actual initial move was rather small. In a different world, it would be interesting to game out what might have happened had China guided the spot up toward the fix first. Signals matter.

Take 8

OK, glad I got that off my chest.

Last week’s well-sourced Wall Street Journal story on the PBOC was interesting to me for its information on the domestic politics of the Chinese currency, not for the news that China’s currency is “back under tight government control.” For those who like stories on China’s internal currency politics, I suspect it is up there with the Reuters story from last August highlighting the political pressures on the PBOC.

And it raises one of the most critical ongoing questions in the global economy: what has driven large-scale Chinese reserve sales?

There are two theories.

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Dan Drezner Asked Three Questions

by Brad Setser

He gets three half answers.

Drezner’s first question: “Just how much third-party holdings of U.S. debt does Saudi Arabia have?”

Wish I knew. The custodial data doesn’t really help us out much. $117 billion—around 20 percent of reserves—certainly seems too low. So it is likely that the ultimate beneficiaries of some of the Treasuries custodied in places like London, Luxembourg or even Switzerland (Swiss holdings are bit higher than can be explained by the Swiss National Bank’s large reserves) are in Saudi Arabia or elsewhere in the Gulf.

Europe Custodial Holdings

The Saudi Arabian Monetary Agency (SAMA) is generally thought to be a bit of a hybrid between a pure central bank reserve manager (which invests mostly in liquid assets, typically government bonds) and a sovereign wealth fund (which invests in a broader range of assets, including illiquid assets). So there is no reason to think that all of SAMA’s assets are in Treasuries.

There are a couple of benchmarks though that might help.

If you sum the Treasury holdings of China and Belgium in the Treasury International Capital (TIC) data (Belgium is pretty clearly China, not the Gulf) and compare that total with China’s reserves, Treasuries now look to be around 40 percent of China’s total reserves. Other countries have moved back into agencies, so Treasury holdings aren’t a pure proxy for a country’s holdings of liquid dollar bonds. But this still set out a benchmark of sorts.

And if you look at the IMF’s global reserves data (sadly less useful than it once was, as the data for emerging economies is no longer broken out separately), central banks globally hold about 65 percent of their reserves in dollars. This also sets out a benchmark. Countries that manage their currencies tightly against the dollar would normally be expected to hold a higher share of their reserves in dollars than the global average, though this imperative dissipates a bit when a country’s reserves far exceeds its short-term needs.

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Bye, Bye Asian Oil

by Brad Setser

“Asian Oil Exporters” always was a geographically accurate yet still somewhat misleading subcategory of the Treasury International Capital (TIC) data release.

Technically, the Gulf is in Asia, and Asian oil exporters were a set of countries that could be differentiated from African oil exporters. But the title wasn’t terribly helpful either. Not for a set of countries—the GCC countries (Saudi Arabia, the United Arab Emirates, Qatar, Bahrain, Oman, and Kuwait), Iraq, and Iran—in what more commonly is called the Middle East.

And, thanks to a wise decision by the U.S. Treasury to release the disaggregated data, it will soon be only of historic interest. The Treasury didn’t just release the current Treasury security holdings (or to be more precise, their holdings of Treasury securities in U.S. custodial accounts) for individual Gulf and Caribbean countries, it also released the historical time series. That is the way to immediately establish the credibility of a data series (Take note, for example, of the difficulty in interpreting China’s Special Data Dissemination Standard [SDDS] release, including the lines on China’s forward book, without back data).

So, shock of all shocks, we now know Iran doesn’t own any Treasuries. At least not any in U.S. custodial accounts.

The real story in the data, though, is the lack of any real story. The Gulf countries do not keep that many Treasuries in U.S. custodial accounts, so there wasn’t much for the disaggregated data to reveal.

That has long been apparent from the aggregated data. The $250 billion or so of Treasuries held by “Asian oil exporters” was small relative to combined reserves of these countries (excluding Iran, for obvious reasons) of around $1 trillion. And after say 2010, the changes in the Gulf’s combined Treasury holdings haven’t even really moved with their reported reserves.

BChart4

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It Has Been a Long Time

by Brad Setser

I stopped blogging almost seven years ago.

My interests have not really changed too much since then. There was a time when I was far more focused on Europe than China. But right now, the uncertainty around China is more compelling to me than the questions that emerge from the euro area’s still-incomplete union.

Some of the crucial issues have not changed. The old imbalances are starting to reappear, at least on the manufacturing side. China’s trade surplus is big once again—even if the recent rise in the goods surplus (from less than $300 billion a couple years back to around $600 billion in 2015) has not been matched by a parallel rise in China’s current account surplus. The U.S. non-petrol deficit is also big, and rising quite fast.

But some big things have also changed.

The United States imports a lot less oil, and pays a lot less for the oil it does import. That has held down the overall U.S. trade deficit.

Oil exporters have been facing a gigantic shock over the last year and a half, one that is putting their (sometimes) considerable fiscal buffers to the test. Even if oil has rebounded a bit, at $50 a barrel the commodity exporting world is hurting.

Looking back to 2006, 2007, and 2008, one of the most surprising things is that Asia’s large surplus coincided with rising oil prices and a large surplus in the major oil exporters. High oil prices, all other things equal, should correlate with a small not a large surplus in Asia.

The global challenge now comes from the combination of large savings surpluses in both Asia and Europe rather than the combination of an Asian surplus and an oil surplus.

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Bonus graph

by Brad Setser

A quick chart showing how my estimates (from work I have done with Arpana Pandey of the CFR) for official holdings of Treasuries and Agencies compares with the FRBNY custodial holdings and the data that the US reports on the TIC website.

frbny-custodial-data-july-09-3

My estimates match those of the TIC in June of every year — when the data is revised. That is by design. All I am doing is using data on flows through the UK and Hong Kong to smooth out the revisions over the course of the year, and thus to avoid the sudden jumps in the official data.

frbny-custodial-data-july-09-41

How much do the major Sovereign Wealth Funds manage?

by rziemba

This post is by Brad Setser and Rachel Ziemba of RGE Monitor

A score of recent reports have put the total assets managed by sovereign wealth funds at around $3 trillion. That seems high to us – at least if the estimate is limited to sovereign wealth funds external assets.

We don’t know the real total of course. Key institutions do not disclose their size – or enough information to allow definitive estimates of their size. But our latest tally would put the combined external assets of the major sovereign wealth funds roughly $1.5 trillion (as of June 2009) – rather less than many other estimates. This portfolio of $1.5 trillion does reflect an increase from the lows reached of late 2008. But it is well below the estimated $1.8 trillion in sovereign funds assets under management in mid 2008. Significant exposure to equities and alternative assets like property, hedge funds and private equity led to heavy losses by most funds in 2008 – a fact admitted by many of the managers.

$1.5 trillion is lot of money. But it is substantially less than $7 trillion or so held as traditional foreign exchange reserves.

There are three main reasons for our lower total.

First, we continue to believe that the foreign assets of Abu Dhabi’s two main sovereign funds – The Abu Dhabi Investment Authority (ADIA), and the smaller Abu Dhabi Investment Council (which was created out of ADIA and manages some of ADIA’s former assets) – are far smaller than many continue to claim.* Our latest estimate puts their total size at about $360 billion. That is roughly the same size as the $360 billion Norwegian government fund – and more than the estimated assets of the Kuwait Investment Authority (KIA) and the combined assets of Singapore’s GIC and Temasek. Our estimate for the GIC’s assets under management is also on the low side.

To be sure, Abu Dhabi’s total external assets exceed those managed by ADIA and the Abu Dhabi Investment Council. Abu Dhabi has another sovereign fund – Mubadala and a number of other government backed investors. Its mandate has long been to support Abu Dhabi’s internal development (“Mubadala [was] set up in 2002 with a mandate not only to seek a return on investment but also to attract businesses to Abu Dhabi and help diversify the emirate’s economy) but it now has a substantial external portfolio as well. Chalk up another $50 billion or so there. Sheik Mansour’s recent flurry of investments also has made it clear that not all of Abu Dhabi’s external wealth is managed by ADIA, the Council and Mubadala. The line between a sovereign wealth fund, a state company and the private investments of individual members of the ruling family isn’t always clear. Abu Dhabi as a whole likely has substantially more foreign assets than the $400 billion we estimate are held by ADIA, the Abu Dhabi Investment Council and Mubadala. And despite Dubai’s vulnerabilities, it still holds a good number of foreign assets, even if its highly leveraged portfolio has suffered greatly in the last year.

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