China Favoring Euros Over Greenback as Bernanke Shifts Course

(Bloomberg) -- China, whose $2.45 trillion in foreign-exchange reserves are the world’s largest, is turning bullish on Europe and Japan at the expense of the U.S.

The nation has been buying “quite a lot” of Europe’s bonds, said Yu Yongding, a former adviser to the People’s Bank of China who was part of a foreign-policy advisory committee that visited France, Spain and Germany from June 20 to July 2. Japan’s Ministry of Finance said Aug. 9 that China bought 1.73 trillion yen ($20 billion) more Japanese debt than it sold in the first half of 2010, the fastest pace of purchases in at least five years.

“Diversification should be a basic principle,” Yu said in an interview, adding that a “top-level Chinese central banker” told him to convey to European policy makers China’s confidence in the region’s economy and currency. “We didn’t sell any European bonds or assets, instead we bought quite a lot.”

China’s position may make it harder for the greenback to rebound after falling as much as 10 percent from this year’s peak in June as measured by the trade-weighted U.S. Dollar Index. The Asian nation cut its holdings of U.S. government debt by $72.2 billion, or 7.7 percent, through May from last year’s record of $939.9 billion in July 2009, according to the Treasury Department, which releases fresh data today.

U.S. Concerns

Concern that the U.S. economy may be faltering was underscored by the Federal Reserve on Aug. 10. The central bank, led by Chairman Ben S. Bernanke, said it will reinvest principal payments on its mortgage holdings into Treasury notes to prevent money from being drained out of the financial system, its first expansion of measures to spur growth in more than a year.

“The pace of economic recovery is likely to be more modest in the near term than had been anticipated,” the Federal Open Market Committee said in a statement after meeting in Washington. “The Committee will keep constant the Federal Reserve’s holdings of securities at their current level.”

Asian central banks holding some 60 percent of the world’s foreign-exchange reserves are turning away from the dollar. Concerned by weaker U.S. growth and the Treasury’s record borrowing, they are also switching toward euro assets to safeguard reserves, driving gains in the 16-nation currency. South Korea, Malaysia and India reduced their holdings of Treasury securities, U.S. government data show.