One of the factors behind today’s exceptionally low global interest rates has been the return of excess savings in Asia since the turn of the decade. Much of this excess saving is channelled through foreign-exchange reserves. So the fact that China’s official reserves fell to $3.65tn in July from a peak of $3.99tn a year earlier is striking, especially against the background of the botched attempt to prop up Chinese equities. Note, too, that other emerging markets are using up official reserves to support their ailing currencies, Russia being a notable case in point. Could it be that one of the great drivers of the search for yield is going into reverse?
If China and others are serious about rebalancing their economies away from investment towards consumption, all those savings surpluses would undoubtedly shrink. Another group of excess savers, the petro-economies, are also seeing their reserves shrink as the fall in energy prices causes revenues to dwindle. The fallout will not be confined to the US Treasury market, which is the world’s main repository for official funds. In previous periods of weak oil prices budgetary strain has caused energy-producing states to raid their sovereign wealth funds to plug fiscal holes. That means that equities and property could feel some backwash.
That said, the picture is very complicated. The recent overall decline in the official reserves of emerging market countries may partly reflect valuation effects. Because reserves are measured in dollars, holdings of euros, sterling and other non-dollar currencies will cause the reserve number to shrink. That impact will have been magnified where countries have rebalanced their reserve portfolios to maintain fixed currency weightings in response to the appreciation of the dollar.