With the dollar plunging and the Federal Reserve slashing interest rates, markets are on alert for any signs that foreign investors, particularly in Asia, are buying fewer US assets. But while some private investors may be heading for the exit, analysts say the authorities in Japan and China look set to hold their nerve as the value of their vast dollar reserves declines. The world's largest economy has long relied on foreign purchases of Treasuries (US government bonds) to finance its huge debt. With the yield on those bonds now falling as the Fed tries to contain the credit crisis, higher return assets in other countries have become more attractive. The Fed has now slashed its federal funds rate by 300 basis points from 5.25 percent last September, while the dollar has hit a series of record lows against the euro and a 12-year trough versus the yen. “Foreign investors bought 80 to 90 percent of total US Treasuries last year,” said Akihiro Nishida, senior economist at Mitsubishi UFJ Securities. “When the dollar goes down, investors certainly have an incentive to sell.” While the sale of US assets by individual investors could put extra pressure on the ailing dollar, a potentially bigger risk is that central banks in Asia and elsewhere might sell some of their stacks of greenbacks. But countries such as Japan and China face a dilemma because if they sell some of their dollar assets they risk driving the value of the US currency - and their own forex reserves - even lower. Such a move could also create political frictions with Washington. “The bottom line is that it would open up a can of worms,” said Tim Condon, head of Asia research at ING Barings in Singapore. Governments “like a quiet life, and they've got a lot of things that are really urgent to solve in China,” he said. China's foreign exchange reserves, the world's largest, hit 1.53 trillion dollars at the end of 2007, around 70 percent of which is believed to be in US currency-denominated assets, particularly US Treasuries. As part of efforts to diversify and boost returns on its massive foreign currency holdings, China has created a 200-billion-dollar state-controlled investment fund. But if China suddenly announced it was selling a large chunk of US Treasuries, “the market would find that difficult to absorb,” said Condon. “On the day of the announcement, the dollar would go down sharply and Treasury bond yields would go up sharply,” he said. __
