China should 'trust, but verify'

[Doctor Cynic]

http://www.shanghaidaily.com/sp/article/2009/200908/20090820/article_411223.htm#explore

RECENTLY there has been much discussion about the dilemma the Chinese government faces stemming from its large holdings and continued purchases of United States government debt.

The Chinese government is rightfully wary of American fiscal carelessness, and the possibility of holding on to assets that will be worthless over time given the very real prospect of a declining dollar.

China could achieve asset protection by informing the US that it will continue to buy US debt but only if denominated in yuan. Alternatively, China could insist on purchasing bonds that give it the right of redemption in either dollars or gold.

If the US government is able to miraculously hold off monetization over the next several decades, as Federal Reserve chairman Ben Bernanke and Secretary of the Treasury Timothy Geithner claim it can do, China would receive the benefit of its bargain when it purchased the bonds.

If the US government is stuck in a fiscal vortex requiring a monetization of the federal debt, and there is a consequent decline in the value of the dollar, the Chinese government could demand payment (for new purchases) in gold which generally moves in the opposite direction of the dollar or in yuan.

Uh-oh...