"If the Chinese economy collapses, or even slows dramatically, then the raison d'etre for the country’s huge foreign exchange reserves - as a sterilisation measure to dampen domestic inflation - will evaporate. With that, so will China's US Treasury holdings. Or alternatively the Chinese could devalue the yuan. Either way, the US will be in trouble. Treasury prices could collapse (although given the current renewed banking collapse fears, not before a significant rally has occured) and if that happens, the Fed's yield-lowering credit easing policies will be left in tatters. As will any plans for economic stimulus packages. Hypothetically, that would leave just the nuclear option: devaluing the dollar."
15 January 2009
It All Depends On China
The Financial Times's Alphaville column continues to be a good read: