China has cut its holding of US Treasury bonds by $25 billion to $776 billion at the end of June compared with the previous month, according to a report released by the US Treasury Department on Aug 17. It was considered the first large-scale reduction of US debt by China this year.

During the same period, Japan and the United Kingdom went in the other direction. Japan, the second-largest holder of US Treasury bonds, raised its holdings to $712 billion in June from $677 billion in May, an increase of $35 billion. The UK, the third-largest holder, also increased its stakes to $214 billion in June from $164 billion, a surge of 31 percent. China remains the largest holder of US treasuries, followed by Japan and the UK.

It's obvious that whether to add or cut US treasuries depends on a central government's judgment of expectation toward the global financial market. So there is no need to politicize the behavior that is no more than a normal investment.

It's a problem consistently under controversy: How can China effectively utilize its huge foreign exchange reserves, especially regarding its holding of US Treasury bonds since 2007? In China, some even argue that the problem has turned into a national issue and needs a political solution after the US' financial turmoil in 2008.

US Treasury bonds are the most important component of China's foreign currency reserves investment because they are relatively safe, profitable and highly liquid. Considering the history of the international financial market in the past three decades, the more fluctuation and the higher the risks, the more investors wants to choose safer markets and assets. The US financial market is regarded as a relatively better investment by foreign investors and US Treasury bonds are high-quality assets to buffer against financial risks despite the increasing risks and uncertainties.

China's increasing stakes in US treasuries since July 2007 has helped China preclude the risks and keep its foreign exchange reserve appreciating during the unprecedented financial crisis when all other financial assets devalued sharply. That is a credit to China's State Administration of Foreign Exchange (SAFE). The expanded holding of US treasuries also has laid a solid foundation for China's peaceful diplomatic policy. A right investment decision by SAFE not only brought huge economic returns but also added weight to China's foreign exchange.

China's decrease in holding US Treasury bonds is a normal investment behavior with little political intention. The change signaled that China is trying to diversify its foreign reserve investment and increase returns in the face of increasing worry about a coming inflation risk due to the US' budget deficit.

Great changes have taken place in the economic environment at home and abroad as well as the financial market risk allocation and investment opportunity. Holding the world's largest foreign reserves, it's necessary for China to moderately adjust its investment portfolio. It needs to test whether China's prediction and adjustment are reasonable or not because other countries did just the opposite.

The world economy prospect is still uncertain although countries like China, Germany, Japan and France have been recovering from economic recession. We need to make a comprehensive assessment about the negative effect on the world economy and international financial market caused by the quantitative and loose monetary policy adopted in major economies.

The whole US financial system is to blame for the outbreak of the financial crisis. It's an arduous job to rejuvenate the US financial system in a short term. So China should be more prudent in predicting future economic trends and make more reasonable investment strategies on the basis of safeguarding national interest.

The author is a researcher with Institute of Finance and Banking, Chinese Academy of Social Sciences

(China Daily 08/22/2009 page4)