If the people who sold those bonds would otherwise have liquidated them and bought stuff for them, then it reduces domestic demand, by taking the liquid cash out of the economy (because the cash in question is Chinese and can therefore only be spent in China).
- Jake If you only spend 20 minutes of the rest of your life on economics, go spend them here.
But the alternative to recycling those euros is not to keep them in mattresses in China - it is to allow the people who earned them to buy European stuff with them (or, which comes to the same thing, to sell them for Chinese currency that some European merchant got from selling stuff to China).
Being against the zero lower bound on interest rates means it makes no difference whether Chinal holds Euros or bonds. However, the widening spreads among Eurozone bond issuers mean that it now makes sense for China to hold (say) Spanish bonds rather than Euro cash. This partly offsets the liquidity drain from any EU trade deficit with China, as China releases Euro cash into circulation and holds illiquid bonds.
But if the fiscal policy is tight and you have a trade deficit the overall effect is still one of monetary drain.
However, China's trade balance with the US dwarfs the trade balance with the EU, so most of the action should be there, By laying out pros and cons we risk inducing people to join the debate, and losing control of a process that only we fully understand. - Alan Greenspan
