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Over the past several years, China has enjoyed one of the world’s fastest growing economies and
has been a major contributor to world economic growth. However, the current global financial
crisis threatens to significantly slow China’s economy. Several Chinese industries, particularly the
export sector, have been hit hard by crisis, and millions of workers have reportedly been laid off.
This situation is of great concern to the Chinese government, which views rapid economic growth
as critical to maintaining social stability. China is a major economic power and holds huge
amounts of foreign exchange reserves, and thus its policies could have a major impact on the
global economy. For example, the Chinese government in November 2008 announced plans to
implement a $586 billion package to help stimulate the domestic economy. If successful, this plan
could also boost Chinese demand for imports. In addition, in an effort to help stabilize the U.S.
economy, China might boost its holdings of U.S. Treasury securities, which would help fund the
Federal Government’s borrowing needs to purchase troubled U.S. assets and to finance economic
stimulus packages. However, some U.S. policymakers have expressed concerns over the potential
political and economic implications of China’s large and growing holdings of U.S. Government
debt securities. This report will be updated as events warrant.
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China’s Stake in the Current Crisis.................................................................................................. 1
China’s Exposure to the Global Financial Crisis............................................................................. 1
China’s Response to the Crisis ........................................................................................................ 4
China’s Potential Role and Implications for the United States........................................................ 5
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Figure 1. Changes in China’s Monthly Trade Data: January 2008-February 2009 ......................... 4
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Author Contact Information ............................................................................................................ 7
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China’s economy is heavily dependent on global trade and investment flows. In 2007, China
overtook the United States to become the world’s second largest merchandise exporter after the
European Union (EU). China’s net exports (exports minus imports) contributed to one-third of its
GDP growth in 2007. The Chinese government estimates that the foreign trade sector employs
more than 80 million people, of which 28 million work in foreign-invested enterprises.1 Foreign
direct investment (FDI) flows to China have been a major factor behind its productivity gains and
rapid economic growth. FDI flows to China in 2007 totaled $75 billion, making it the largest FDI
recipient among developing countries and the third largest overall, after the EU and the United
States. A global economic slowdown (especially among its major export markets—the United
States, the EU, and Japan) could have a significant negative impact on China’s export sector and
industries that depend on FDI flows. There are indications that the Chinese economy is already
slowing down. Chinese real annual GDP growth slowed from 13.0% in 2007 to 9.0% in 2008.
China’s year-on-year fourth quarter GDP growth was 6.8%. Some analysts contend that China’s
real GDP growth from the third quarter of 2008 to the fourth quarter of 2008 on an annualized
basis was near zero.2 Some analysts contend annual economic growth of less than 8% could lead
to social unrest in China, given that an estimated 20 million people seek jobs every year
(including migrant workers that move to urban centers and high school and college graduates).3
According to the International Monetary Fund (IMF), China was the single most important
contributor to world economic growth in 2007.4 Thus, a Chinese economic slowdown would not
only affect China, but could also have global implications as well.
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The extent of China’s exposure to the current global financial crisis, in particular from the fallout
of the U.S. sub-prime mortgage problem, is unclear.5 On the one hand, China places numerous
restrictions on capital flows, particularly outflows, in part so that it can maintain its managed float
currency policy.6 These restrictions limit the ability of Chinese citizens and many firms to invest
their savings overseas, compelling them to invest those savings domestically, (such as in banks,
the stock markets, real estate, and business ventures), although some Chinese attempt to shift
funds overseas illegally. Thus, the exposure of Chinese private sector firms and individual
Chinese investors to sub-prime U.S. mortgages is likely to be small.
1 Invest in China, September 10, 2007.
2 Associated Press, “China’s official data masks severity of slump, February 6, 2009.
3 According to Xinhua Net (March 9, 2008), China’s Labor and Social Security Minister Tian Chengping warned that
the employment situation in China in 2008 was expected to be “very severe.”
4 IMF Survey Magazine: What the Numbers Show, October 17, 2007.
5 Some analysts contend that China’s policy of keeping the value of its currency low against the dollar and large
purchases of U.S. debt may have been a contributing cause to the current global financial crisis.
6 China’s central bank manages its currency (the renminbi or yuan) against a basket of major currencies (largely the
U.S. dollar) by heavily intervening in international currency markets to maintain targeted exchange rates. See CRS
Report CRS Report RL32165, China's Currency: Economic Issues and Options for U.S. Trade Policy, by Wayne M.
Morrison and Marc Labonte.
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Moreover, Chinese government entities, such as the State Administration of Foreign Exchange,
the China Investment Corporation (a $200 billion sovereign wealth fund created in 2007),7 state
banks, and state-owned enterprises, may have been more exposed to troubled U.S. mortgage
securities. Chinese government entities account for the lion’s share of China’s (legal) capital
outflows, much of which derives from China’s large and growing foreign exchange reserves.
These reserves rose from $403 billion in 2003 (year end) to $1.95 trillion as of December 2008.8
In order to earn interest on these holdings. the Chinese government invests in overseas assets. A
large portion of China’s reserves are believed to be invested in U.S. securities, such as long-term
(LT) Treasury debt (used to finance the federal deficit), LT U.S. agency debt (such as Freddie
Mac and Fannie Mae mortgage-backed securities), LT U.S. corporate debt, LT U.S. equities, and
short-term (ST) debt.9 The Treasury Department estimates that, as of June 2008, China’s holdings
of U.S. securities totaled $1,205 billion (up from $922 billion in June 2007), making it the 2nd
largest foreign holder of such securities (after Japan).10 Of this total, $527 billion were in LT U.S.
agency securities,11 $522 billion were in LT Treasury securities, $100 billion in LT equities, $26
billion in LT corporate securities, and $30 billion in ST debt.
If China held troubled sub-prime mortgage backed securities, they would likely be included in the
corporate securities category and certain U.S. equities (which include investment company share
funds, such as open-end funds, closed-end funds, money market mutual funds, and hedge funds)
which may have been invested in real estate. However, these were a relatively small share of
China’s total U.S. securities holdings.12 China’s holdings of Fannie Mae and Freddie Mac
securities (though not their stock) were likely to have been more substantial, but less risky
(compared to other mortgage-backed securities), especially after these two institutions were
placed in conservatorship by the Federal Government in September 2008 and thus have
government backing.
The Chinese government generally does not release detailed information on the holdings of its
financial entities, although some of its banks have reported on their level of exposure to sub-
prime U.S. mortgages.13 Such entities have generally reported that their exposure to troubled sub-
prime U.S. mortgages has been minor relative to their total investments, that they have liquidated
such assets and/or have written off losses, and that they (the banks) continue to earn high profit
margins.14 For example, the Bank of China (one of China’s largest state-owned commercial
banks) reported in March 2008 that its investment in asset-backed securities supported by U.S.
7 For an overview of the China Investment Corporation, see CRS Report RL34337, China’s Sovereign Wealth Fund, by
Michael F. Martin.
8 China’s large and growing reserves are largely the result of China’s currency policy (which requires the government
to intervene in currency markets to prevent the renminbi from appreciating), large levels of FDI, and large trade
surpluses.
9 ST debt includes Treasury, agency, corporate, and equity debt with less than one year maturity.
10 Although the Chinese government does not make public the dollar composition of its foreign exchange holdings,
many analysts estimate this level to be around 70%. Based on this estimate, China’s holdings of such securities may
have risen to about $1.4 trillion through the end of 2008, and it is likely that China surpassed Japan by the end of 2008
as the largest foreign holder of U.S. securities.
11 China was the largest foreign holder of U.S. agency debt, accounting for 36% of total as of June 2008.
12 According to the Treasury Department, China was not among the top 10 global investors of U.S. corporate mortgage-
backed securities.
13 Financial Times, September 11, 2008.
14 According to Caijing.com, Chinese banks held $670 million worth of bonds issued by U.S. investment bank Lehman
Brothers when it went bankrupt in September 2008.
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sub-prime mortgages totaled $10.6 billion in 2006 (accounting for 3.5% of its investment
securities portfolio). In October 2008, it reported that it had reduced holdings of such securities to
$3.3 billion (1.4% of its total securities investments) by the end of September 2008, while its
holdings of debt securities issued or backed by Freddie Mac and Fannie Mae were at $10 billion.
Fitch Ratings service reported that the Bank of China’s exposure to U.S. sub-prime-related
investments was the largest among Asian financial institutions, and that further losses from these
investments were likely, but went on to state that the Bank of China would be able to absorb any
related losses “without undue strain.”15
However, China’s economy has not been immune to effects of the global financial crisis, given its
heavy reliance on trade and foreign direct investment (FDI) for its economic growth. Numerous
sectors have been hard hit.16 To illustrate:
• The real estate market in several Chinese cities has exhibited signs of a bubble
that is bursting, including a slowdown in construction, falling prices and growing
levels of unoccupied buildings. This has increased pressure on the banks to lower
interest rates further to stabilize the market.
• The value of China’s main stock market index, the Shanghai Stock Exchange
Composite Index, dropped by 36% from June 2, 2008 to March 18, 2009.17
• China’s trade has plummeted in recent months (see Figure 1). For example,
exports and imports in February 2009 were down 25.7% and 24.1%, respectively
on a year-on-year basis. The decline in exports was the biggest monthly decline
every recorded.
• The level of FDI flows to China has fallen four months in a row (November
2008-February 2009). Monthly FDI flows to China dropped by 15.8% in
February 2009 and by 32.6% in January (year-on-year basis).
• Numerous press reports indicate sharp reductions of production and employment
in China. The Chinese government in January 2009 estimated that 20 million
migrant workers had lost their jobs in 2008 because of the global economic
slowdown.
• Global Insight, an international forecasting firm, estimates that China’s real GDP
growth will slow to 5.7% in 2009.18 Some analysts contend annual economic
growth of less than 8% could lead to social unrest, given that every year there are
20 million new job seekers in China.19
15Fitch Ratings, Press Release, January 24, 2008.
16 China’s economy was already slowing down before the global financial crisis hit. This was in large part the result of
government efforts to slow the rate of inflation. China’s real GDP growth fell from 13% in 2007 to 9% in 2008. The
global financial crisis has sharply diminished economic growth. Thus, the Chinese government has abandoned its anti-
inflation policies and instead has sought to stimulate the economy.
17 However, the Shanghai Index is one of the few global indexes to experience positive growth in 2009; from January 5,
2009 to March 18, 2009, it was up 18%.
18 Global Insight, China, March 18, 2009.
19 According to Xinhua Net (March 9, 2008), China’s Labor and Social Security Minister Tian Chengping warned that
the employment situation in China in 2008 was expected to be “very severe,” noting that towns and cities would be
able to provide only 12 million new jobs.
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Figure 1. Changes in China’s Monthly Trade Data: January 2008-February 2009
year-on-year basis
% Change
60
40
20
0
-20
-40
-60
Feb
Apr
Jun
Aug
Oct
Dec
Feb
Jan-08
Mar
May
Jul
Sep
Nov
Jan-09
Exports
Imports
Source: Global Insight and China’s Customs Administration.
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China has taken a number of steps to respond to the global financial crisis. On September 27,
2008, Jiabao reportedly stated that “What we can do now is to maintain the steady and fast
growth of the national economy, and ensure that no major fluctuations will happen. That will be
our greatest contribution to the world economy under the current circumstances.”20 On October
25, 2008, a Chinese Foreign Affairs official was reported by China’s media as saying that China
supported “effective and comprehensive reforms” of the global financial system. On October 30,
another official stated: “In the future we are also willing, within the ambit of our abilities, to
continue positively considering participating in a range of rescue plans.”
On October, 8, 2008, China’s central bank announced a cut (50 basis points) to its benchmark
interest rate (and the reserve-requirement ratio), which coincided with rate cuts by the U.S.
Federal Reserve and several other major central banks. China cut its rates again (by 27 basis
points) on October 29 following the Federal Reserve’s cut (by 50 basis points). China has also
indicated plans to make greater efforts to shore up its own economy to promote greater domestic
demand, boost living standards in the poorer sections of the country, achieve more balanced
economic growth (e.g., lowering dependency on exports), and address a number of economic and
social issues, such as boosting energy efficiency, lowering pollution, narrowing income
disparities, and improving the social safety net (such as health care, education, pensions, and
social security). A number of initiatives were announced by the government in October 2008,
including plans to: implement a new economic stimulus package, including an acceleration of
construction projects, new export tax rebates; tax and interest rate cuts on housing transactions;
increased agriculture subsidies and new loans for small and medium-sized enterprises; and
20 Chinaview, September 27, 2008.
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elimination of taxes on interest income from stocks and savings.21 On November 9, 2008, the
Chinese government announced it would implement a two-year $586 billion stimulus package,
mainly dedicated to infrastructure projects. The package would finance programs in 10 major
areas, including affordable housing, rural infrastructure, water, electricity, transport, the
environment, technological innovation and rebuilding areas hit by disasters (especially, areas that
were hit by the May 12, 2008 earthquake).22 On April 1, 2009, Chinese President Hu Jintao
stated that the economic stimulus was beginning to take effect. The Chinese government predicts
that the stimulus package will add between 1.5 and 1.9 percentage points to the underlying
growth rate in 2009, and that overall GDP growth will be 8.0%.23 An Asian Development Bank
official predicted in March 2009 that China will “emerge from the crisis in better shape than it
was before if it can rise to the challenge of rebalancing its economy."24
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Analysts debate what role China might play in responding to the global financial crisis, given its
huge foreign exchange reserves but its relative reluctance to become a major player in global
economic affairs and its tendency to be cautious with its reserves. Some have speculated that
China would, in order to help stabilize its most important trading partner (the United States),
boost purchases of U.S. securities (especially Treasury securities) in order to help fund the
hundreds of billions of dollars that are expected to be spent by the U.S. government to purchase
troubled assets and stimulate the economy.25 Additionally, China might try to shore up the U.S.
economy by buying U.S. stocks. On September 21, 2008, the White House indicated that
President Bush had called President Hu about the financial crisis and steps the Administration
was planning to take. An unnamed Chinese trade official was reported as stating that “the purpose
of that call was to ask for China’s help to deal with this financial crisis by urging China to hold
even more U.S. Treasury bonds and U.S. assets.” The official was further quoted as saying that
China recognized that it “has a stake” in the health of the U.S. economy, both as a major market
for Chinese exports and in terms of preserving the value of U.S.-based assets held by China” and
that a stabilized U.S. economy was in China’s own interest.26 During her first visit to China in
February 2009, Secretary of State Clinton urged China to continue to buy U.S. Treasury
securities. Some contend that taking an active role to help the United States (and other troubled
economies) would boost China’s image as a positive contributor to world economic stability,
similar to what occurred during the 1997-1998 Asian financial crisis when it offered financial aid
to Thailand and pledged not to devalue its currency.
21 China Xinhua News Agency, Special Report, Financial Crisis.
22 China Xinhua News Agency, November 12, 2008.
23 Global Insight, Country Intelligence Analysis, March 23, 2009.
24 Asian Development Bank, News Release, March 31, 2009.
25 According to the Treasury Department, China overtook Japan in September 2008 as the largest foreign holder of U.S.
Treasury securities. As of January 2009, China’s holdings totaled $740 billion, accounting for 24.1% of total foreign
holdings of U.S. Treasury securities. China accounted for more than one-third of total new purchases of these securities
by foreign investors from January 2008 to January 2009.
26 Inside U.S. Trade, China Trade Extra, September 24, 2008.
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On the other hand, there are a number of reasons why China might be reluctant to significantly
increase its investments of U.S. assets. One concern could be whether increased Chinese
investments in the U.S. economy would produce long-term economic benefits for China. Some
Chinese investments in U.S. financial companies have fared poorly, and Chinese officials could
be reluctant to put additional money into investments that were deemed to be too risky.27
Secondly, a sharp economic downturn of the Chinese economy would likely increase pressure to
invest money at home, rather than overseas. Many analysts (including some in China) have
questioned the wisdom of China’s policy of investing a large volume of foreign exchange
reserves in U.S. government securities (which offer a relatively low rate of return) when China
has such huge development needs at home.28 China’s holdings of U.S. securities at the end of
2008 are estimated to be roughly equivalent to over $1,000 per person in China, a significant
figure for a country with a per capita GDP of about $3,190 (2008).29 On March 13, 2009, Chinese
Premier Wen Jiabao at a news conference stated that he was “a little bit worried” about the safety
of Chinese assets in the United States30 On March 24, 2009, the governor of the People’s Bank of
China, Zhou Xiaochuan, published a paper calling for the replacing the U.S. dollar as the
international reserve currency with a new global system controlled by the International Monetary
Fund.31 Many analysts (including some in China) have questioned the wisdom of China’s policy
of investing a large level of foreign exchange reserves in U.S. government securities, which offer
a relatively low rate of return when China has such huge development needs at home.
While additional large-scale Chinese purchases of U.S. securities might provide short-term
benefits to the U.S. economy and may be welcomed by some policymakers, they could also raise
a number of issues and concerns. Some U.S. policymakers have expressed concern that China
might try to use its large holdings of U.S. securities as leverage against U.S. policies it opposes.
For example, various Chinese government officials reportedly suggested on a number of
occasions in the past that China could dump (or threaten to dump) a large share of its holdings in
order to counter U.S. pressure (such as threats of trade sanctions) on various trade issues (such as
China’s currency policy). In exchange for new purchases of U.S. debt, China would likely want
U.S. policymakers to lower expectations that China will move more rapidly to reform its financial
sector and/or allow its currency to appreciate more substantially against the dollar.32 Some
analysts have suggested that China could choose to utilize its reserves to buy stakes in various
distressed U.S. industries. However, this could also raise concerns in the United States that China
was being allowed to buy equity or ownership in U.S. firms at rock bottom prices, that
technology and intellectual property from acquired firms could be transferred to Chinese business
entities (boosting their competitiveness vis-a-vis U.S. firms), and that becoming a large
27 For example, in June 2007, China’s sovereign wealth fund bought $3 billion worth of shares from Blackstone LP (a
U.S. private equity firm) at $31 each, but the value of those shares fell to $7.3 as of April1 1, 2009.
28 China could use some of these reserves to purchase foreign imports, such as food, equipment, raw materials,
consumer goods, etc. However, a significant sell-off of U.S. assets could destabilize the value of China’s remaining
U.S. assets and could weaken its ability to maintain its exchange rate goals. A similar result would occur if the
government sold off its dollar holdings in China to obtain renminbi to be used to stimulate the domestic economy—it
would cause the value of the renminbi to depreciate against the dollar, which could decrease exports.
29 As long as the Chinese government continues to intervene in currency markets to keep the value of the renminbi low
against the dollar, and continues to experience large trade surpluses, it will have relatively few options for dealing with
additional foreign exchange reserves, other than to keep buying U.S. assets.
30 Xinhua News Agency, March 13, 2009.
31 Financial Times, “China calls for new reserve currency,” March 24, 2009.
32 China’s currency has appreciated by about 19% to the dollar since reforms were made in July 2005, but many U.S.
policymakers contend that it remains significantly undervalued.
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stakeholder in major U.S. companies would give the Chinese government enormous new political
influence in the United States.33 U.S. policymakers in the past have sometimes opposed attempts
by Chinese firms to acquire shares or ownership of U.S. firms.34
While attending the G-20 summit in London on the global financial crisis on April 1, 2009,
President Obama President Hu met separately to discuss a number issues. The two sides agreed
“to work together to resolutely support global trade and investment flows” and to “resist
protectionism.”35
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Wayne M. Morrison
Specialist in Asian Trade and Finance
wmorrison@crs.loc.gov, 7-7767
33 Most Chinese firms that have been allowed to invest overseas are state-owned enterprises.
34 For example, efforts by a Chinese state-owned oil company (CNOOC) in 2005 to purchase a U.S. energy company
(Unocal) was widely opposed in Congress and eventually led the Chinese company to drop its bid. In 2007 a Chinese
firm (Huawei) attempted to buy a stake in a U.S. technology company (3Com), but dropped its bid after a number of
national security concerns were raised in a review by the U.S. Committee on Foreign Investment in the United States.
35 White House Pres Release, April 1, 2009.
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