Between Fantasy and Reality

The macro point

In financial markets, falsehoods and fantasies often endure. One of them is frequently resurfacing at the moment. It’s the idea that China could influence the US dollar by selling Treasury bonds. Let's see what the numbers say. Based on end-2024 data, China indeed holds a significant portion of US debt, amounting to $800 billion. This may seem considerable. But it’s less than 3% of total debt. This already puts things into perspective. Japan holds more, around $1100 billion, while the US Federal Reserve (Fed) holds around $7000 billion following various asset purchase programs launched since 2007 – ten times more than China.

Pessimists believe that the Chinese government might decide to massively sell Treasury bonds, which would increase US rates, decrease the value of bonds and, in theory, weigh on the dollar. Analysts point out that this is precisely what happened following 'Liberation Day' last April.

As often in economics, it’s never that simple. This theory has three main issues:

1. China would penalize itself by crashing the price of its assets, which would also hurt its exports (a strong yuan = less competitive Chinese products).

2. China still heavily depends on global trade and financial markets, which are tied to the dollar despite incessant calls for global dedollarization.

3. The yuan is not a credible alternative: it remains partially state-controlled, illiquid, and rarely used internationally.

In conclusion, it seems unlikely that China could exert a lasting and substantial influence on the US dollar. On the other hand, it’s an open secret that Beijing seeks to reduce its exposure to the greenback, as Russia did starting in 2014 due to its desire to take control of Ukraine. It is mostly for geopolitical reasons that Beijing seeks dedollarization in case the situation with Taiwan deteriorates. But this will take time and be done meticulously to avoid disruptions that could be damaging to the Chinese economy.

Not surprisingly, the theory of Chinese influence on the dollar's value will resurface, perhaps later this year or in the future. Be cautious and remember that it’s never as simple as it seems. The same goes for theories about dedollarization and predictions of American recession formulated almost every quarter. This often creates a lot of noise and volatility in the foreign exchange market. But the medium-term effect is almost nil. It’s always better to refer to the numbers to know where we really stand. That's what we tried to demonstrate with China’s relatively low holding of US sovereign bonds when referring to the total stock of bonds.

Technical point

In the forex market, the 25 basis point cut in the European Central Bank's key rate, which was widely expected, had no major effect. The EUR/USD pair consolidates around 1.14. From a technical perspective, the trend is bullish, particularly supported by the 50-day moving average. The euro has been supported in recent sessions by a much better-than-expected IFO German business climate indicator in May. We expect the short-term evolution of the pair to depend mainly on European macroeconomic indicators and market sentiment toward the dollar. On this subject, the outlook is not great. According to the latest data from the US regulator, the CFTC, net short positions on the greenback by speculators and financial intermediaries are at their highest point since 2023.9

Announcements to follow

This week, the economic calendar is light.

US inflation will be the main focus – consumer prices are expected to remain stable at 2.3% year-on-year by consensus. It will be necessary to look in detail if certain sectors begin to pass on tariffs to consumers. This will be a crucial element for the Fed to adjust its monetary policy in the fall. In the immediate future, we consider that it should remain on autopilot for the next two meetings in June and July.

It is also likely that volatility remains high in case of a new uproar from President Donald Trump regarding tariffs. Caution.

The information presented in this publication is provided purely for informational purposes and does not constitute investment advice, a sales offer, or a solicitation to buy, and should not be used as a basis or considered as an incentive to engage in any investment.