Economists are having wide-ranging debates on how to rescue the world economy from the exacerbating financial crisis. Yu Yongding, Director of Institute of World Economics and Politics at the Chinese Academy of Social Sciences, suggested the creation of "panda bonds" to diversify the use of the nation's $2 trillion foreign reserves, which could boost liquidity in countries hit hard by the credit crunch. In an interview with Beijing Review, Yu discussed how the nation could use its huge foreign reserves. Edited excerpts follow.
The most critical problem is that we should stop buying U.S. treasury bonds if the economy continues to worsen and no signs of recovery are in sight. The United States must raise no less than $1 trillion to restore its shaky economy through only two options-printing more money and issuing more bonds. Either way will lead to a plunge in the value of bonds held by foreign lenders-China is the biggest holder of its T-bonds.
I have four suggestions for making use of our $2 trillion foreign reserves.
First of all, China should buy some strategic assets and materials such as gold and oil in a gradual manner.
Next, we could also exchange the U.S. dollars in our foreign reserves for other internationally recognized currencies such as the Japanese yen or the euro to diversify the portfolio.
Third, part of the growing foreign reserves could be loaned to the International Monetary Fund, which could then make loans to countries that are short of cash.
Finally, I also have proposed on many occasions that China encourage foreign financial institutions to issue "panda bonds" to rescue themselves from the ongoing credit crunch. "Panda bonds" should be denominated in renminbi and sold to Chinese financial institutions. Foreign financial institutions can get renminbi from their counterparts in China, and then exchange the renminbi into U.S. dollars or other currencies at the Chinese central bank to fund economic development projects in their own nations.
Let's consider a hypothetical situation. The Asian Development Bank (ADB) issues 100 million yuan worth of 10-year "panda bonds" in China's bond market. It could then use the renminbi it collects and exchange it for $15 million at the Chinese central bank. After the deal is sealed, the ADB would have long-term debt, but get a certain amount of cash in dollars which could be appropriated for construction projects. At the same time, the Chinese central bank's dollar reserves would decrease when it withdrew the renminbi from circulation. When the bonds matured, the ADB should pay back the specified amount of interest. This could be a win-win situation for both sides.
Issuing "panda bonds" can reduce the risks stemming from additional purchases of U.S. treasury bonds, push forward the efforts to internationalize the renminbi, resolve cash shortage problems in some nations, and promote the financial stability of the world.
Of course, there are lots of risks along with the debut of a new invention, and technical problems would need to be addressed properly before the introduction. But now, it is evident enough that the possibility of issuing large-scale renminbi-denominated bonds in international markets has emerged, and such a move would accelerate the internationalization of the renminbi.
All in all, we should no longer collect more foreign reserves at the speed of $300 billion a year. Diversifying our portfolio is urgent.