I strongly recommend the latest by Balls (in DC) and Dyer (in Shanghai).
It covers both sides of the "does China's reserve management matter" debate. But it gets two key points absolutely right: China doesn't have to sell to put pressure on the US, it just has to buy less, and oil exporters matter too.
The money quote:
But it would not need China to start dumping dollar assets for there to be pressure on the dollar. If China became less willing to continue adding to its holdings of US Treasuries, that itself could put downward pressure on the dollar and upward pressure on US interest rates - particularly if it encouraged other countries to follow suit.
Oil-exporting countries have become increasingly important sources of foreign capital, owing to the high oil price, becoming as important as developing Asian countries in financing the US deficit.
Balls and Dyer also quote Stephen Green, who estimates that China's government accounted for about 15% of all foreign demand for dollars last year:
Stephen Green, economist at Standard Chartered in Shanghai, estimates that China is responsible for about 15 per cent of foreign purchases of dollar assets. As a result, comments about a shift in investment strategy were likely to put further downward pressure on the US currency, he said.
I will put forward some ball park math of my own.
Suppose China added $250 billion to its reserves in 2005 (adjusting for valuation, adjusting for the currency swap and counting the $15 billion transferred to a state bank), and 75% of those reserves were invested in dollars.
That would have provided $190 billion in financing to the US, relative to a likely 2005 current account deficit of $820 billion. China might have provided 23% of the financing the US needed for its current account. The US needed $630 billion in (net) financing from sources other than the Chinese central bank.
Note: I don't think my numbers are totally out of line with Stephen Green's numbers. He compares Chinese financing to total foreign demand for dollar assets, not the current account -- and total foreign demand for dollar assets exceed the US current account. Remember, the US relies on foreign inflows to finance capital outflows from US residents, not just the current account deficit. We in US cannot finance investment here in the US with our own savings, let alone US investment abroad.
Now suppose China's reserve accumulation falls to $15 billion a month in 2006, or $180 billion for the year. And only 2/3s of that is invested in dollar assets. That is hardly a huge reduction in the share of Chinese reserves going to dollars. But Chinese financing still falls to $120 billion.
Yet, by my calculations, the US is headed for a current account deficit of $950 billion or so in 2006. So Chinese financing would fall to about 13% of the US current account deficit. The US would need $830 billion in (net) financing from source other than China's central bank.
I am not yet convinced that Chinese reserve accumulation really will fall to $15 billion a month in 2006, and I certainly do not know what share of China's reserves went into dollars in 2005. My point is simple: falling Chinese reserve accumulation and increased Chinese demand for non-dollar assets is only consistent with a rising US current account deficit if others step up, big time.