Brad Setser

Follow the Money

Cross border flows, with a bit of macroeconomics

China’s Non-Reserve Official Assets, and How They Might Help Us Understand China’s Forward Book

by Brad Setser Tuesday, November 8, 2016

China’s headline reserves fell by around $45 billion in October, dropping to $3.12 trillion. Many China reserve watchers expected a bigger fall. Moves in the foreign exchange (FX) market knocked around $30 billion off China’s roughly $1 trillion portfolio of euros, pounds, and yen assets in October. After adjusting for these valuation changes, China might only have sold a bit over $15 billion or so in October. That is less than my estimates of the true pace of sales in September.

But it bears repeating that the changes in headline reserves often do not provide as good an estimate of China’s actual activities in the market as the PBOC’s balance sheet data and the FX settlement data. Neither is yet available for October. I at least do not yet have confidence that the pace of underlying sales really slowed.*

China’s October reserves, though, aren’t the real subject of this post.

Rather, I want to make two arguments about the non-reserve foreign assets held by Chinese state institutions. The second is a bit speculative. It is meant to encourage more work, not to provide a definitive answer.

One, China’s state sector still has a lot of foreign assets, assets that are not formally counted as FX reserves. The state banks hold foreign exchange as part of their capital, thanks to past recapitalizations. The state banks hold foreign exchange as part of their regulatory reserve requirement (the banks have to set aside a large portion of every deposit at the PBOC). This pool of foreign exchange is not counted as part of China’s formal reserves. The China Investment Corporation (CIC—China’s sovereign wealth fund) holds some foreign assets in its portfolio, and financed the purchase of those assets with domestic borrowing. The China Development Bank (CDB) and the China Export-Import Bank have also made significant loans to the rest of the world. There is room to debate just how big the state’s non-reserve portfolio is, but the balance of payments indicates something like $200 billion in cumulative outflows through the banks and China Investment Corporation, and well over $300 billion or so in offshore loans—mostly, I assume, from the CDB.


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Korea’s September Intervention Numbers

by Brad Setser Friday, November 4, 2016

Korea’s balance of payments data—and the central bank’s forward book—are now out for September. They confirm that the central bank intervened modestly in September, buying about $2 billion.* That is substantially less than in August. Based on the balance of payments data, intervention in q3 was likely over $10 billion (counting forwards).

Korea is widely thought to have intervened when the won got a bit stronger than 1100 at various points in the third quarter (a numerical fall is a stronger won).


I suspect that had an impact when the market wanted to drive the won higher. And, well, market conditions have changed since then. The dollar appreciated against many currencies in October, and Korea’s own politics have weighed on the won. Korea’s headline reserves fell in October, but that was likely a function of valuation changes that reduced the dollar value of Korea’s existing holdings of euro, yen, and the like, not a shift toward outright sales.

There though is a bit of positive news out of Korea. The new finance minister, at least rhetorically, seems keen on new fiscal stimulus. The Korea Times reports the nominee for Finance Minister supports additional stimulus:

“I [Yim Jong-yong] believe there is a need (for a further fiscal stimulus) as the economy has been in a slump for a long time amid growing external uncertainties.”

Korea has the fiscal space; it should use it!

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Can China Reduce Its National Savings Rate with More Social Insurance?

by Brad Setser Wednesday, November 2, 2016

Andrew Batson recently pushed back a bit against my attempt to frame one of China’s core macroeconomic problems as “too much savings.” He argues that policies to bring down savings have been tried in China – spending on social insurance rose in the ‘aughts – and it didn’t bring down national savings:

“the hypothesis that stingy social welfare policies are the main culprit, because they induce lots of precautionary savings behavior, was conventional wisdom around 2003-04 but has not held up well.”

Andrew characterizes my concerns (laid out in detail in my recent paper) about high Chinese savings fairly.

I worry that if investment dips and savings stays high China will suffer from a cyclical shortfall in demand. I think that is a good explanation of what happened in China in late 2014 and early 2015, when residential investment was weak (there was a glut of supply at the time thanks to over-building, especially in tier 3 and tier 4 cities) and China tried to curb local government investment. The cyclical short-fall in demand creates pressure for China to look to exports to support growth—rebalancing away from both investment and exports is actually quite difficult. And the cyclical short-fall in demand also creates pressure on Chinese policy makers to loosen curbs on credit to support the economy, creating the stop-go pattern we have observed recently.

And I worry that the combination of a structurally high level of savings and a structural fall in investment will re-create a large current account surplus. Or to be precise, an even larger current account surplus.

So is there no hope?

Will China’s savings fall naturally with investment, either as a result of lower business profits and less business savings, or because – as Andrew argues, drawing on work from Guonan Ma, Ivan Roberts and Gerard Kelly *– the rise in household savings was in part a function of the need to save to make a down payment on an apartment and household savings will fall naturally as more and more Chinese urban residents own their own homes (assuming prices stabilize).

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When The Trade Data Does Not Add Up

by Brad Setser Monday, October 31, 2016

This is not a post about China, or the various discrepancies in the Chinese data.

It is about a rather puzzling thing that I only noticed as a result of the Brexit debate.

The bulk of the UK’s surplus in services come from trade with non-EU countries (services exports to the EU are large, but so are imports—Tuscan and French vacations?). See this chart (h/t Toby Nangle).

A big part of the non-EU surplus in services comes from the United States. In 2015, the UK reported a 27 billion GBP (just over $40 billion) surplus in services trade with the U.S. and an overall surplus in goods and services with the United States.

The funny thing? The U.S. also thinks it runs a surplus in services trade with the UK. A $14 billion surplus in 2015, for example.


It is pretty hard to square those two data points. UK data is from the Office of National Statistics’ Pink Book, U.S. data is from the Bureau of Economic Analysis (BEA), table 1.3 of the “International Transactions” data set.

It turns out that the U.S. thinks it sells more services to the UK than the UK thinks it buys:


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Inflows from Private Bond Investors Into the U.S.

by Brad Setser Wednesday, October 26, 2016

The global capital flows story these days is complex. I wanted to build on Landon Thomas’ article with a set of charts drawing out how I think large surpluses in Asia and Europe are now influencing the TIC data. Obviously, this is a more technical post.

Asia’s surplus is big. In dollar terms, the combined current account surplus of China, Japan, and the NIEs (South Korea, Taiwan, Hong Kong, and Singapore) is back at its pre-crisis levels. China’s surplus is a bit smaller in 2007, but Korea and Taiwan are clearly running bigger surpluses. Yet unlike in the past, very little of Asia’s surplus is going into a reserve buildup. China is obviously selling, and its selling overwhelms intermittent purchases by Korea (Korea sold in q1 2016, but bought in q3) and Taiwan. The outflow of savings from Asia is currently overwhelmingly a private flow.

That is a change. And frankly it makes the impact of Asia’s surplus on global markets harder to trace. The Bank for International Settlement (BIS) data shows that much (I would say most) of the “capital outflow” from China over the last four quarters has actually gone to paying down China’s external bank debt, not to build up assets. It thus just becomes a new source of liquidity for the global banking system (once a dollar loan is repaid, the bank is left with a dollar—which has to be parked somewhere else).

And of course the eurozone and northern Europe also run substantial surpluses. Negative rates and ECB asset purchases in effect work to push investors out of super low-yielding assets in Europe, and into somewhat higher yielding assets outside the eurozone.*


The combined surplus of China, Japan, the NIEs, the eurozone, Sweden, Denmark, and Switzerland was close to $1.2 trillion in 2015. That is a big sum; one that has to leave traces in the global flow data. The U.S. current account deficit isn’t as big as it was prior to the crisis (and it is smaller than the UK’s current account deficit), but it is still financed, in part, by inflows from abroad into the U.S. bond market.

Total inflows from private purchases of U.S. bonds by foreign investors—together with the inflow from American investors selling their existing stock of bonds abroad and bringing the funds home—actually look to be at a record high in the TIC data (in dollar terms, not when scaled to U.S. GDP). $500 billion in inflows from foreign purchases of Treasuries, Agencies, and corporate bonds by private investors abroad, and $250 billion in financing from Americans bringing funds previously invested in foreign bonds home.

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Asia’s Persistent Savings Glut

by Brad Setser Tuesday, October 25, 2016

Back in 2005, when Ben Bernanke first warned of the risk of a global savings glut, the combined savings rate of Asia’s main “surplus” economies (China, Japan, South Korea, Taiwan, Hong Kong, and Singapore) equaled 35 percent or so of their collective GDP.

That number now? About 40 percent.


That is obviously a lot of savings—savings which either has to finance a very high level of investment at home or has to be exported to the rest of the world. And with low interest rates around the world, the world doesn’t especially need to import savings from Asia right now.

East Asia’s high level of savings is the subject, obviously, of my new CFR working paper.

Much is often made of the small fall in China’s national savings rate. China’s savings rate peaked at a bit over 50 percent of GDP; in 2015 it dipped to 48 percent. A fall, yes, but not a big one. Remember that the flip side of high savings is a low level of consumption; without high levels of investment, domestic demand growth can easily fall short.

In the aggregate data for Asia’s surplus countries, the rise in China’s share of the region’s output more than offsets the (modest) fall in China’s savings rate. The national savings rate in Korea and Taiwan has also increased over the last five years. Hence record regional savings.

In dollar terms, the jump in savings is even more spectacular. Asian surplus economies saved around $2.8 trillion back in 2005. Now they save around $7 trillion. China’s savings have increased from $1 trillion to more than $5 trillion.

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China’s September Reserve Sales (Using the Intervention Proxies)

by Brad Setser Monday, October 24, 2016

The most valuable indicators of China’s intervention in the foreign exchange (FX) market are now out, and both point to a pick-up in sales in September, and more generally in Q3.


The data on FX settlement shows $27b in sales in September, and around $50b in sales for Q3. Add in changes in the forwards (new forwards net of executed forwards) reported in the FX settlement data, and the total for September rises to $33 billion, and the total for Q3 gets to around $60 billion. FX settlement is my preferred indicator, though it is always important to see how it lines up with other indicators.

The data on the PBOC’s balance sheet shows a $51 billion fall in reserves in September, and a fall of over $100 billion in Q3. I like to look at the PBOC’s foreign assets as well as reserves, this shows a slightly more modest fall ($47 billion in September), as the PBOC’s other foreign assets continued to rise. But total foreign assets on the PBOC’s balance sheet are still down around $95 billion in q3 (with a bigger draw on reserves than implied by the settlement data, which includes the banking system; chalk the gap between settlement and the PBOC’s balance sheet up as something to watch).

$100 billion in a quarter isn’t $100 billion a month—but it is noticeably higher than in Q2.

All in all, the pressure on China’s “basket peg” or “basket peg with a depreciating bias” exchange rate regime (take your pick on what managing with reference to a basket means, it certainly has meant different things at different points in time this past year) is now large enough to be significant yet not so large as it appears to be unmanageable.

China still has plenty of reserves; I wouldn’t even begin to think that China is close to being short of reserves until it gets to $2.5 trillion given China’s limited external debt, tiny domestic liability dollarization, and ongoing external surpluses. $2.5 trillion would still be the world’s biggest reserve portfolio by a factor of two, it also would be roughly 20 percent of China’s GDP, which would be in line with what many emerging markets hold.

The depreciation in October has been consistent with maintaining stability against the CFETS basket, though stability at a level against the basket that reflects the depreciation that took place from last August to roughly July. The dollar has appreciated against the other major tradeable currencies in October this period, and maintaining stability against the CFETS basket meant depreciating somewhat against the dollar.

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Large Scale Central Bank Asset Purchases, Versus Supply

by Brad Setser and Emma Smith Thursday, October 20, 2016

In earlier posts, Emma Smith and I added up central bank purchases of G-4 government bonds. This includes emerging market, Japanese and Swiss purchases for reserve accumulation and purchases by the Fed, Bank of Japan, European Central Bank and Bank of England during periods of quantitative easing (QE).

In this post we compare our estimates of official demand for U.S., Japanese and European bonds with changes in the supply of safe assets—that is, purchases by central banks relative to net new issuance of government bonds.

If central bank demand for a particular asset is lower than net new issuance, then private sector holdings of government bonds continue to grow but at a slower pace than would otherwise be the case. And if central bank demand for a particular asset exceeds net supply, then private sector investors—such as banks and pension funds—have to reduce their holdings of safe assets, and move into alternative assets.

This is how the portfolio re-balancing transmission channel of asset purchases works: private investors sell to the central bank and are forced to find new places to park their money. Conceptually, it should not matter much if the central bank buying say U.S. assets is the People’s Bank of China or the Fed, at least so long as both are expected to hold on to their purchases for a long-time. When either buys, it reduces the stock of assets in private hands and forces investors to shift into other assets.

Central bank asset purchases aren’t limited to government bonds of course, but, to simplify things, we limited our analysis to new issuance of government bonds. We know this over-simplifies. For example, a lot of “official” demand has gone into Agencies. Before the global crisis Agencies were a favorite of reserve managers globally. But adding in the Agencies to net supply takes a bit (ok, a lot) more work. The Fed also bought Agencies, but Fed holdings of Agencies and Treasuries are reported separately on their balance sheet. The numbers below only count the Fed’s Treasury portfolio.

In the U.S., the supply of Treasuries has exceeded central bank demand since 2010. This is largely because the U.S. Treasury ramped up issuance of Treasury securities after the crisis (offsetting, it should be noted, a big fall in private bond issuance). Even as annual net issuance of Treasuries slowed from its peak of around $1.7 trillion to a little over $600 billion, it has remained above official purchases. Right now there isn’t any official bid for U.S. bonds. Reserve managers on net have been selling and the Fed hasn’t been buying.

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Large Scale Central Bank Asset Purchases, by Currency

by Brad Setser and Emma Smith Tuesday, October 18, 2016

In an earlier post, I added reserve purchases by the world’s major emerging market central banks, Japan and Switzerland to the bonds purchases by the Fed, the BoJ, the ECB and Bank of England. I wanted to highlight that the central banks of the world were buying a lot of U.S. and European bonds before the big central banks started quantitative easing (QE). China and others bought a ton of bonds prior to the global crisis.

Emma Smith, an analyst at the Council on Foreign Relations, helped me with the data work for that post; she and I are jointly writing the follow up posts.

In addition to looking at the total number of G-4 bonds bought by the world’s central banks—counting bonds bought in large scale asset purchase programs (QE) alongside estimated reserve purchases—it is interesting to look at central bank purchases by currency. QE results in the purchase of your own country’s bonds; reserve purchases mean you need to invest in bonds issued by someone else—e.g. both the Fed and the PBOC have bought large quantities of U.S. Treasuries and Agencies at different times over the last fifteen years.

Take central bank purchases of dollar bonds. The chart below relies on the Fed’s data on its purchases, and an estimate of the dollar bond purchases implied by global reserve growth.

Before the global crisis, central bank purchases of dollar bonds came from reserve managers. Their accumulation of dollar assets picked up from around 2003—coinciding with the dollar’s depreciation against the euro, the beginning of the rise in China’s current account surplus and a pickup in capital flows to a range of emerging economies. In early 2008, the Fed was actually selling a portion of its bond portfolio—it didn’t want its balance sheet to expand as its lending to the world’s banks rose in the run-up to the global crisis—and after Lehman, reserve managers started to sell. But the Fed soon reversed course, and started purchasing large amounts of Treasuries and Agencies in its QE programs. And emerging economies recovered and resumed large scale intervention of their own—albeit at a lower level than pre-crisis—taking central bank demand to new highs.


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China: Too Much Investment, But Also Way Too Much Savings

by Brad Setser Monday, October 17, 2016

Most analysis of China’s economy emphasizes the risks posed by China’s high level of investment, and the associated rise in corporate debt.

Investment is an unusually large share of China’s economy. That high level of investment is sustained by a very rapid growth in credit, and an ever-growing stock of internal debt. Corporate borrowing in particular has increased relative to GDP. Not all this investment will generate a positive return, leaving legacy losses that someone will have to bear. Rapid credit growth has been a fairly reliable indicator of banking trouble. China is unlikely to be different.

Concern about the excesses from China’s investment boom permeate the IMF’s latest assessment of China, loom large in the BIS’s work, and the blogosphere. Gabriel Wildau of the Financial Times:

“Global watchdogs including the International Monetary Fund and the Bank for International Settlements (not to mention this blog) have become increasingly shrill in their warnings that China’s rising debt load poses global risks.”

Yet I have to confess that defining China’s primary macroeconomic challenge entirely as “too much debt financing too much investment” makes me a bit uncomfortable.

Investment is a component of aggregate demand. Arguing that China invests too much comes close to implying that, as a result of its credit boom/ bubble, China is providing too much demand to its own economy, and, as a result, too much demand for the global economy.

That doesn’t seem entirely right.

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