As official data flash up staggering US$1 trillion of foreign exchange reserves, China is debating whether the huge stockpile is a blessing or a burden and what to do with it.

 

The huge reserves are a reflection of China's economic achievements since reforms began in the 1980s, but observers worry that an excessive, fast-growing stash will endanger currency stability and liquidity.

 

Since 1980, China's foreign exchange reserves have jumped from zero to US$1 trillion, with rises of more than US$200 billion in each of the last two years.

 

The rapid growth of reserves could fuel speculation on the appreciation of the Chinese currency, or Renminbi (RMB), said Tan Yaling, research fellow with the China International Economic Relation Association under the central bank.

 

The product of foreign trade revenue and foreign investment, China's huge reserves are a target of international critics, who argue that the RMB should be revalued, saying that the undervalued yuan gives Chinese products a price advantage in international markets and hurts manufacturers from other countries.

 

However, some economists say the rapidly growing and reforming Chinese economy needs a huge reserve in order to protect itself against financial risks created by speculators and possible financial crises.

 

"Huge US dollar reserves can deter international speculators as well as foreign politicians who like to make threats about economic sanctions," said Yang Yingjie, a PhD in economics and associate professor at the Party School of the Communist Party of China Central Committee.

 

Although China is estimated to need only US$600 to 700 billion to guard against financial risks, a trillion is not excessive, said Yang, adding that a stable financial environment is the key to the success of the country's reforms and development.

 

It is not so much the quantity as the structure of the reserves that is of concern, said Tan.

 

She said the government should consider diversifying the foreign currencies held in reserve, but added that it will be hard to challenge the dominance of the US dollar in the next three to five years, as the United States continues to set the pace for the global economy.

 

"The United States is the largest manipulator of foreign exchange rates," said Liu Yihui, researcher at the Institute of Finance & Banking (IFB) with the major official think tank Chinese Academy of Social Sciences, noting that the superpower can eschew debt and provoke reserves losses in other countries by devaluing the dollar.

 

Zhou Xiaochuan, governor of China's central bank, said Friday that China is pursuing a more diversified forex reserves portfolio, triggering a slump of the US dollar in exchange markets.

 

"We are doing something about foreign exchange reserves," said Yu Weibin, an expert with the IFB, while declining an interview request by Xinhua.

 

What should be done with the reserves?

 

Some experts recommend buying foreign high-tech equipment and strategic materials like oil and farmland, supplementing pension funds or supporting public services such as education, medical care and conservation.

 

However, others argue that such choices may fan inflation risks, because the central bank may have to spend more RMB to keep exchange rates stable.

 

Wu Xiaoling, deputy governor of the central bank, has stated that forex reserves cannot be consumed with impunity, pointing out that the RMB must be used to pay for the reserves.

 

Wu counseled investing the reserves in state-owned banks, especially listed ones, as previous experience showed that this would preserve and increase the value of the reserves.

 

Liu argued that part of the reserves should be used to buy oil, gold, silver and other rare metals as a hedge against dollar risks.

 

"The central bank has to consider monetary policy, but the reserves are a national resource that needs to be proactively managed," said Tan.

 

She said the government should relax restrictions on foreign exchange held by individuals and enterprises.

 

Foreign experts and organizations like the International Monetary Fund have also suggested a free floating exchange rate system and the lifting of foreign exchange restrictions but Liu disagreed, pointing to risks of turbulence that would require even larger forex reserves for financial security.

 

"In the long term, China should reduce the excessive growth of forex reserves by adopting a different mode of economic growth, but stable exchange rates are necessary if the market is to fully play its role in adjusting the economic structure," said Liu.

 

As the debate rages on, China's State Administration of Foreign Exchange (SAFE) has decided to recruit 30 more staff members for its Reserves Management Department, bringing the total number of staff to 200, according to the China Business News. Each of them is in charge of about US$5 billion.

 

Having a trillion US dollars is indeed a blessing, but managing it is quite a burden.

 

(Xinhua News Agency November 15, 2006)