Risk Watch: What China’s Fx Reserves Looks Like Without a Trade Surplus with America

According to People’s Bank of China (PBoC) data released on Aug. 15, China’s foreign exchange balance at the end of July was 21.53 trillion yuan ($3.130 trillion). The reserves rose by 10.81 billion yuan, the seventh straight month of increases.

Earlier in the month, the PBoC announced that China’s foreign exchange reserves in July amounted to $3.118 trillion, or an increase of $5.82 billion from the previous month. In June, reserves rose by $1.51 billion.

China, however, faces 25 percent tariffs on at least $250 billion of goods exported to the United States. President Donald Trump has threatened to impose 25 percent tariffs on $500 billion of Chinese products in total, or nearly all of China’s trade with America.

If China’s trade surplus with the U.S. is eliminated, how much reserves will China have left?

The big picture:
China’s A-shares have been plummeting since Trump announced plans to impose tariffs on Chinese goods March 22 to Aug. 17. The Shanghai and Shenzhen stock exchanges have lost over 10 trillion yuan in market value. On Aug. 16, the yuan exchange rate fell below the 6.92 level. The markets are currently bearish on the Chinese economy.

Our take:
1. In 2017, China’s total goods trade surplus was $419.321 billion, of which $275.81 billion was with the U.S. If China does not have a trade surplus with America, its foreign exchange earnings from trade in goods is only $143.509 billion.

From January to June 2018, China’s goods trade surplus was $138.576 billion, or 78 percent ($177.544 billion) from the same period last year. Of the $138.576 billion, $133.576 billion was the result of trade with the U.S. In other words, China’s goods trade surplus with other countries was only $5 billion, or a 12-fold decrease ($60 billion) from the previous year.

Based on the above ratio, China’s goods trade surplus with countries other than the U.S. may not exceed $12 billion in 2018

2. According to a report on Sino-U.S. economic and trade relations by China’s Ministry of Commerce, 57 percent of the country’s trade surplus in 2017 is derived from foreign direct investments, while 59 percent comes from processing trade.

If the Sino-U.S. trade war persists, there is a good probability that China would see high foreign capital outflows. This year, several foreign companies have already begun pulling out of China, including:

End April: Samsung closed its Shenzhen electronics factory.

May 7: Olympus shut its production line in Shenzhen and transferred its factory to Vietnam.

May 31: Philips Lighting announces plans to close its Shenzhen factory.

June 15: Suzuki Motor Corporation announced that it would withdraw from a joint venture with Changhe Suzuki.

July 16: Omron Co. Ltd. announces that it is permanently shutting down its Suzhou plant.

Aug. 12: News broke that Samsung is suspending operations at its Tianjin plant.

As of June 2018, China’s foreign industrial enterprises (including Hong Kong, Macao, and Taiwan enterprises) total assets were 21.69 trillion yuan while total liabilities were 11.71 trillion yuan. From the figures, China’s net assets of foreign industrial enterprises total 9.98 trillion yuan. In a scenario where 30 percent of foreign industrial enterprises pull out of China, the country will see $435 billion of capital outflows (at the exchange rate [at the time of writing] of 6.8775 per U.S. dollar).

3. There is a clear trend of capital outflows from China.

U.S. Treasury Department data released on Aug. 15 shows that China reduced its holding of Treasury bonds by $4.4 billion in June. China’s total Treasury bond holdings are now at $1.1787 trillion, the lowest in the past four months.

From January to June 2018, China’s international trade surplus in goods and services was only $7.9 billion. From January to July, the PBoC’s accumulated foreign exchange settlement and surplus amounted to $44 billion, but saw a deficit of $9.4 billion in July.

4. At the end of July, China’s foreign exchange reserves were $3.118 trillion, a decrease of $43.511 billion from the previous month.

As of March 2018, China’s total foreign debt balance was $1.843 trillion, of which 59.1 percent was debt and not assets. Sixty-nine percent of the foreign debt is made up of short-term debt of one to two years, with much of the debt repayment due over the recent two years.

5. Going by rough calculation, if the U.S. trade deficit with China is eliminated, China has only $12 billion in trade surplus revenue. After deducting $1.8 trillion in U.S. foreign debt and $435 billion in foreign capital outflows, China’s foreign exchange reserves amount to only $851.4 billion.

In 2017, China imported $162.33 billion of oil, $260.1 billion of microchips, $115.26 billion of grain, or deduction of $537.696 billion from China’s reserves.

This year, China’s summer grain purchases alone have fallen sharply by 33.2 percent. China’s grain imports would inevitably increase, and the depreciation of the yuan means more foreign exchange spendings.

Calculating from the figures above, China has only about $300 billion in foreign exchange reserves. In other words, China’s economy would be in a precarious position if U.S. tariffs completely eliminate the trade deficit.