"U.S. debt is not as safe as it seems, with two looming risks: the inflation threat from U.S. debt and the climbing depreciation threat from U.S. dollars," said Zhang Ming, deputy director of the Institute of World Economics and Politics under the Chinese Academy of Social Sciences (CASS).
Liu Yuhui, a researcher with the Financial Research Center of the CASS, said that the S&P's downgrading of the U.S. credit forecast would drive some investors away from the U.S. debt market.
The S&P's last Monday lowered its outlook on U.S. credit to "negative" from "stable." It kept its highest AAA rating for U.S. government debt and said that there was a one-in-three chance it would lower the rating in two years.
Equities quickly dropped, but the dollar did not weaken and U.S. Treasury interest rates did not rise.
U.S. Treasury Bonds reflect the U.S. government's credit and have been a key investment item for the world. China overtook Japan as the United States' largest debt holder in September of 2008.
China remained the largest buyer of U.S. Treasury Bonds in February of this year, after the country cut its holdings for four consecutive months to 1.15 trillion U.S. dollars, according to the latest data from the U.S. Treasury Department.
After the S&P's negative assessment of the outlook for U.S. credit, China's Foreign Ministry last Tuesday urged the U.S. administration to adopt "responsible policies and measures" to protect the interests of investors.
Liu said that the S&P's cut of the U.S. sovereign credit forecast stemmed from the fact that the U.S. deficit has been climbing, while purchases of U.S. Treasury Bonds has been shrinking.
The U.S. deficit climbed remarkably after the financial crisis, but two leading buyers of U.S. debt, China and Japan, reported a shrinking surplus of current accounts, Liu said.
Along with the U.S. government's multiplying need to raise funds, the United States implemented quantitative easing policies to meet the gap, boosting distrust from U.S. Treasury Bonds traders on the Federal Reserve and triggering sell-offs of U.S. Treasury Bonds, Liu said.
Early in November of last year, when the U.S. government announced a new round of quantitative easing, or QE2, China's domestic ratings agency, Dagong Global Credit Rating Co., Ltd, downgraded the sovereign credit rating of the United States by one level to A+ from the previous AA.
It gave the U.S. a "negative" outlook due to its deteriorating debt repayment capability and the drastic decline of the U.S. government's intention to repay its debt.
Chinese experts believe that it would be hard to end the leading role of U.S. Treasury Bonds as a key investment channel for a country that has more than 3 trillion U.S. dollars of forex reserves.
Zhang said that it would be hard to find another capital market with such a huge capacity to replace U.S. government debt, since China has 3 trillion U.S. dollars of forex reserve assets.
China overtook Japan to be the leading forex reserve country in 2006. China's forex reserves stood at 3.04 trillion U.S. dollars by the end of March 2011.
Tan Yaling, a financial expert, said that U.S. government debt was still a reliable investment method as no other currency could replace the U.S. dollar's role as an international currency.
Meanwhile, the U.S. economy is recovering, Tan said.
The key should be reducing the forex growth rate in China's forex reserve management, Liu said.
The growth rate of China's forex reserves has been slowing. China saw a trade deficit of 1.02 billion U.S. dollars in the first quarter this year, which was the first quarterly trade deficit in six years.
Zhuang Jian, a senior economist with the Asian Development Bank, said that the growth rate of forex reserves would decrease with the continued promotion of China's trade balance.
China should make more efforts to keep the forex reserve from expanding drastically, including economic restructuring, foreign trade restructuring, management of the flexibility of the Renminbi exchange rate, management of capital projects to prevent the inflow of hot money, and the internationalization of the Renminbi, Zhang said.
