One Trillion Dollars

China has finally surpassed the 1 trillion dollar mark. That is the amount of money that is in China's foreign exchange reserves. This build up in reserves is a result of a managed exchange rate that (until recently) was fixed to the dollar (now it is fixed to a basket). While many in the US have used this fixed exchange rate as a rallying cry for protectionism in the US, this is more of a Chinese problem than a US problem.

The US trade deficit with China is big but it only represents 30% of our trade deficit. Many other countries with flexible exchange rates contribute to the other 70%. I won't argue that the fixed Yuan does not matter and I do believe it is holding back the correction that is needed for global imbalances. However, I believe the people who SHOULD be complaining are the Chinese people. China's fixed exchange rate could lead to:

-Inflation problems
-The worsening of the banking sector

These are a result of the interventions and sterilizations by Chinese officials that are needed to maintain the exchange rate and keep money supply from getting out of control. This highlights how China is still not economically free:

"China keeps about two-thirds of the reserves in dollars and is the second-largest owner of U.S. treasuries after Japan, holding $344.9 billion in October. Concern that a weakening dollar may erode the value of the holding is encouraging China to diversify and central bank Deputy Governor Wu Xiaoling said in November that the bank had been buying yen."

The money holed up in reserves could be used on assets earning real returns for the Chinese people. Added to this restriction on economic freedom is the limitation on foreign currency exchange. The Chinese people have to ask their government if they can have dollars or Euros or Yen and they are limited to how much they can receive. However, it is promising to see some of these controls being relaxed:

"The government relaxed currency controls and eased rules on companies and individuals investing abroad in 2006. The amount of foreign currency that individuals can buy is doubling to $50,000 a year from Feb. 1."

I think the uplifting part of this story is the following:

"The central bank's announcement on currency reserves is less than a week after China's stock market capitalization exceeded $1 trillion for the first time, underscoring the growing might of an economy that has expanded 10-fold since it was opened to international investment in 1978."

This is good for America and the world. Let us not be fooled by Democrats in Congress who want to close our borders between the US and China. We must embrace China and if we do, both countries will benefit with further growth and further prosperity.