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China builds up gold reserves in shift away from dollar

Currency weakness and tensions with US spur moves to diversify

China, Russia and Turkey have been buying gold to replace U.S. Treasury bonds as they look to reduce their reliance on the dollar.   © Reuters

BEIJING/MOSCOW -- China added gold to its foreign reserves last month for the first time in more than two years even as it continued paring its U.S. Treasury holdings, part of a broader trend toward reducing dependence on the dollar amid fraying ties with Washington.

China's gold holdings totaled 1,852 tons at the end of 2018, worth roughly $76 billion, according to central bank data. That marks an increase of about 10 tons from the previous month and the first rise since October 2016. Beijing had sharply boosted its gold reserves to 1,658 tons from 1,054 tons in June 2015 and gradually added more until the fall of 2016, after which the total had remained flat.

Meanwhile, China's holdings of U.S. Treasury securities fell for a fifth straight month to $1.14 trillion at the end of October, down 5% from the most recent peak in August 2017, U.S. government data shows. As the country's economic turbulence put downward pressure on the yuan, Beijing likely sold dollar-denominated assets to shore up the currency, contributing to the decline.

China has kept its total foreign-currency reserves steady at just over $3 trillion for the past two years, buying a more diverse array of assets to replace the U.S. government debt it sold. The uptick in its gold holdings was likely part of this shift.

Given the ongoing trade tensions, the country "probably wants to reduce its dependence on dollar-denominated securities in its foreign-currency reserves," said Yusuke Miura, senior economist at Japan's Mizuho Research Institute.

China's State Council said this month it had designated the Guangxi Zhuang Autonomous Region, which borders Vietnam, as a special zone to link China and the Association of Southeast Asian Nations. In addition to promoting cross-border financial investment, the move aims to encourage use of the yuan in trade with ASEAN.

By raising the prospect of a broad bloc moving away from the greenback, Beijing likely hoped to gain an edge in trade negotiations with the U.S. China's latest foreign reserve data was released Jan. 7, the same day that the last round of working-level talks began.

Sanctions are likely a concern as well. President Xi Jinping warned on Jan. 21 that China faces a slippery international situation and must be on guard against "black swans" -- a term from the financial world referring to unforeseen events with catastrophic consequences.

"The chances are not low" that Washington will impose financial sanctions on China, warned a researcher at a think tank affiliated with the Chinese government.

In 2017, the U.S. cut off Chinese regional lender Bank of Dandong from the American financial system for allegedly facilitating illegal transactions involving North Korea. Should Washington do something similar to a major Chinese state-owned bank, financial markets may swoon. Beijing's efforts to disentangle itself from the dollar appear intended to defend against this risk.

Other countries with deteriorating relationships with Washington seem to be thinking along similar lines. Russian holdings of U.S. Treasury bonds plunged by $87.5 billion from the end of 2017 to $14.6 billion at the end of October 2018, with much of the drop-off coming after Washington imposed new sanctions on the country in April. The share of Russian trade conducted in dollars has fallen to less than 70% in the first half of 2018, from 80% in 2013.

Turkey's Treasury holdings totaled just $10.2 billion at the end of October, falling by $42.3 billion from the end of 2017 as tensions ratcheted up over Ankara's detention of an American pastor on charges related to an attempted coup in 2016. Turkish authorities are believed to have pared dollar-based holdings out of concern that the U.S. could take steps such as freezing assets.

The share of foreign-currency reserves worldwide denominated in dollars reached a five-year low of 61.9% at the end of September, according to the International Monetary Fund. Yuan-based assets' share rose to 1.8%, on a par with the Canadian dollar. The rise was likely thanks in part to Russia, which reinvested the proceeds from its Treasury sales into gold and yuan- and euro-denominated securities.

But a clean break from the greenback would be difficult for either China or Russia. Beijing would likely find it impossible to buy enough alternative assets to replace its enormous Treasury holdings. For Russia, the dollar is all but inescapable in the oil and natural gas industries, which are central to the country's economy.

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