The Ripple Effect of U.S. Interest Rate Hikes on China and Global Economies
Since 2022, the Federal Open Market Committee (FOMC) has increased interest rates 11 times in a year and a half, bringing its key federal funds rate to a target range of 5.25% to 5.50%. This marks the highest level since early 2001, with such a rapid increase not observed since the 1980s.
Market interest rates and bond prices generally move in opposite directions. When interest rates rise, prices of fixed-rate bonds fall. Consider the iShares 20+ Year Treasury Bond ETF (TLT), which represents the long end of the Treasury market and carries an average duration of 17 years. This means a 1% rise in rates will cause roughly a 17% fall in bond prices.
Examining the historical NAVs of the iShares 20+ Year Treasury Bond ETF shows the aforementioned trend. Amid record low interest rates, the valuations peaked in 2020, and has shed over 50% from their record high.
Curious about who’s feeling the pinch from the interest rate hike? Let’s take a look at which foreign country holds the most U.S. debt. As of October 2023, Japan and China are right on top of the chart, with Japan holding US$ 1,098 billion and China holding US$ 769 billion of U.S. treasury bonds, respectively.
As we saw earlier, the prices of long term U.S. treasury bonds plummeted in recent years, and holders of U.S treasuries are facing significant valuation losses. This is not an issue so long as the holders have holding power and are able to hold the bonds to maturity.
While the U.S. and Japanese economies boast resilience, evidenced by the robust performance of their equity markets, the situation in China presents a stark contrast. The Chinese economy grapples with persistent turmoil, stemming from an ongoing real estate crisis and a rout in the stock market. Additionally, factors such as price wars, waning confidence levels and weak income growth exacerbate domestic economic challenges.
Should China have to reduce their holdings of U.S. treasury bonds at a deep discount to shore up the yuan, it would inevitably incur substantial realized losses in its investment portfolio.
Would that be the intention of the United States all along.
Visit us at DataDrivenInvestor.com
Subscribe to DDIntel here.
Have a unique story to share? Submit to DDIntel here.
Join our creator ecosystem here.
DDIntel captures the more notable pieces from our main site and our popular DDI Medium publication. Check us out for more insightful work from our community.
DDI Official Telegram Channel: https://t.me/+tafUp6ecEys4YjQ1
