China And Euro Debt

Jim Trippon  |

Debt plagued Italy recently asked China to make purchases of its debt, according to a Financial Times report. Italy, one of the nations along with Greece and others in the European Union struggling with its massive debt load, has turned outside the eurozone for help. The report said that Italy had hoped China would buy large amounts of its debt after meetings between officials of the two countries. This follows speculation that China, which had been purchasing Greek debt, would possibly increase its purchases of that troubled country’s debt as well.

The speculation surrounding China and Italy’s debt was fueled by the meetings in early September in Beijing between Italian officials and China Investment Corp, or CIC. The meeting also included China’s officials which manage foreign exchange reserves, from the State Administration of Foreign Exchange. Then a more recent meeting in Rome where a Chinese delegation met with Italian officials including finance minister Giulio Tremonti, led to growing speculation that China would step in to help stabilize Italy’s situation.

China’s Premier Wen With Greece’s Papandreou, Oct. 2010 Source: BBC Business News

China’s Eurozone Role

Although much of the media treated China’s participation in the eurozone debt crisis as new, including speculation that it would make massive purchases of Greek debt, China has already been in the eurozone. A former senior lawmaker, Cheng Siwei, back in August mentioned in regard to China’s heavy exposure to US dollar debt, which is perhaps as high as 70 percent of China’s foreign reserves, or $1.6 trillion, that while diversification was needed, he did not envision China buying large amounts of eurozone sovereign debt. At that time, it was certainly known that China had some exposure to the eurozone debt, including Greece’s debt, though no specific amount was known. Estimates were that perhaps as much as a quarter of its $3.2 trillion foreign exchange reserves are held in euro debt, and even though China has bought Greek bonds, it hasn’t revealed that figure either.

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The New Euro Question

The ongoing eurozone sovereign debt crisis, which began with concerns over Greece’s potential default, concerns which spread chiefly to other weaker economies such as Portugal, Spain, Ireland and Italy, has continued to intensify in the recent months. Greece, Portugal and Ireland have already been on tap for bailouts in the amount of multibillions of euros, with the shift to greater concern about Italy’s ability to handle its debt situation that has come to the forefront in recent weeks. There is not only doubt that Italy will be able to execute the austerity measures it adopted, but there is the backdrop for all the eurozone deep debtor nations that the crisis will continue to spread.

China’s Position

Beijing’s position throughout the European crisis hasn’t really changed. It’s the same as when Vice president of China’s National Reform and Development Commission, Zhang Xiaoqiang, said China would buy the bonds of debtor euro nations. But investors should keep in mind what Premier Wen Jiabao also said at the recent Dalian World Economic Forum. Wen stated that euro and the other developed nations—read the US—should work on their debt discipline to cut their deficits and as a corollary, further open up markets. This was a clear signal that China, while a significant actor in the euro debt drama, does not intend to carry the weight of the whole burden of fixing Europe. China clearly feels instead that the west, chiefly the European Union, but also the US, must work to solve their own deficit problems. So although China is prepared perhaps to step a bit further into the breach to act to help the euro debtors, it is not prepared nor able to somehow completely fix them.

European Banks’ Increased Leverage Source: Seeking Alpha

The Markets’ Take

Even after the rumors of China stepping in to take an even more prominent role in the eurozone sovereign debt crisis surfaced, which many market observers took to mean not only with Italian debt but Spanish debt as well, the atmosphere of the markets momentarily calmed. The worry is, however, as we’ve seen so many times when major progress and hope for solutions of the euro crisis have been put forth, that the market will rush to misplace the emphasis on China’s intentions. Yes, China is assisting in the euro crisis. It has stated its repeated desire to help. Yes, it has the financial ammunition to be able to do so. But why would or should China over commit resources to what is still a very tenuous situation?

With China’s Involvement

The confidence that China’s participation and potential further help provides is real and beneficial, though. The hope for a eurozone debt crisis resolution requires the strong continuing action of the ECB and the will to follow through on the agreed upon measures, i.e., discipline. Further, if there is a supplementary role, a so-called “rescue fund,” China can be a player in that. China still looks to be there to supplement and support, not be the main provider.

Committed To Your Global Profits,

Jim Trippon

Chief Investment Analyst

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