Capital Markets Calmer, Greenback Consolidates

As market participants were just getting their sea legs back after the start of the year, it was hit by a one-two punch of ideas that BOJ policy was turning less accommodative and that Chinese officials were wary of adding to their Treasury holdings. Then late yesterday, a news wire reported that Canada suspected the US was going to withdraw from NAFTA.

Today, however, the markets have stabilized. First, in today's operations, the BOJ maintained its purchases of short- and medium-term bonds today. This helped ease some fears and the 10-year benchmark yield slipped back. In our view, the purchases of fewer bonds by the BOJ was evident last year and is a consequence of the shift to “yield curve control” by targeting the 10-year yield rather than the quantity of purchases. 

Second, China's State Administration of Foreign Exchange (SAFE) pushed back against yesterday's news wire report about its wariness to buy Treasuries. The official suggested that “wrong sources” were used, and went on to say that China's demand for Treasuries depends on market forces. That is exactly our point. China is not homogeneous even if it is a one-party state.There are natural difference of views and interests. For example, the PBOC often seems more open to market reforms than say the Commerce Ministry. From the news wire account, that some many other reporters and observers took at face value there was no way of telling how representative the view was or the gravitas of the officials cited.

Also, our point is that if China wants to rebuild its reserves, like it has for the past 11 months after drawing them down by $1 trillion, it must buy foreign assets by definition. It can change the allocation of its reserves, of course, by this is not done by whim and there are many considerations, including alternatives. Some argue that China is trapped in Treasuries. That is not our point. China only faces the dilemma because it insists on amassing stock pile of reserves, in part because of its reluctance to embrace to fully embrace the best practices as defined by the G20 of letting market forces drive exchange rates. 

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