Tuesday, March 6

It doesn't sound like a good idea to me

Public pressure is mounting on the central bank, the People’s Bank of China. In postings on Internet message boards in China and in conversations among educated urban Chinese, critics suggest that the central bank should earn higher profits from its vast hoard — for instance, by taking more risk and investing in stocks — and use some of it to help a nation where most workers still earn less than a tenth of the wages of the typical American.

Foreign exchange reserves have soared across much of the developing world, in countries as diverse as Brazil, Thailand and India, but particularly in China. The reason lies in powerful currency intervention, as these countries strive to keep their exports competitive in Western markets by curbing the appreciation of their currencies against the dollar.

They have bought vast amounts of dollars from their exporters, giving back local currency in exchange. And then they have struggled with what to do with these dollars.

Most central banks have invested their dollars in American securities, particularly Treasury bonds and notes, but sometimes mortgage-backed securities as well. In recent years, these giant purchases have helped hold down interest rates that American home buyers pay for mortgages and the federal government pays to finance its budget deficits.

If central banks move out of such securities, that could push American interest rates higher. But moving into stocks, which tend to earn higher returns over the long term, poses market risks, as central banks carefully noted recently as the markets fell.

Some of the comments on Chinese Internet boards have been unusually strident. They have criticized the government for helping American taxpayers and home owners by investing hundreds of billions of dollars in Treasury debt and other securities instead of spending the money at home.

“China has huge amounts of foreign reserves; why doesn’t the government put more of it into education?” one posting this winter said.

Doubling the investment return on China’s foreign currency reserves, to 8 percent from 4 percent, would generate enough money to triple the nation’s education budget, said Tao Dong, the chief Asia economist at Credit Suisse. “Enhancing returns on the foreign exchange,” he said, “is natural and expected by the Chinese people.”

Yet spending the United States dollars on education and other domestic programs is not a simple task. The central bank would have to sell some of those dollars to buy the Chinese currency, the yuan, to be able to spend it on schools.

But in buying so many yuan, the central bank would nudge up the currency’s exchange value. That would make Chinese exports more expensive — something the bank has tried to prevent.

On top of that, it has already had to borrow yuan — by issuing bonds — to buy the dollars from exporters, and the bank would struggle to repay debts if it then spent its reserves on social programs.

The Chinese government may be poised to respond to the criticism later this month after it formally sets up a new investment agency, several people close to the government’s planning said.

Having invested for decades in the same Treasury securities that most governments purchase, China is now preparing to begin investing public money in stocks, corporate bonds and even commodities like oil and possibly strategic metals.

“That management has to be extremely professional,” said Rajat M. Nag, managing director general of the Asian Development Bank, alluding to central bank fund managers of numerous countries. “And I don’t think it can be done by bureaucrats.”

Both South Korea, which is preparing to move in the same direction, and China are trying in part to emulate the highly secretive Government Investment Corporation in Singapore. But China faces greater difficulties than Singapore, which has a tradition of highly professional money management and a civil service that is largely free of corruption.

By contrast, President Hu Jintao has identified chronic corruption as the biggest challenge facing China, and government officials tend to have fairly narrow expertise in managing asset portfolios.

I'm not saying they should have invested all that money here in the first place, but I don't think this is a good plan. The officials are corrupt and lacking expertise--so let's let them gamble with the nation's money. Not to mention market risk.

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