CONFIDENTIAL #2
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At the same time, Chinese officials advanced several arguments against excessive foreign exchange holdings (China Newsletter No. 57, July-August 1985 published by JETRO). First, depositing foreign exchange earnings in foreign banks amounts to giving other countries use of China's assets, without making a sufficient contribution to improving China's own living standards. Second, foreign currency reserves are all the time losing value because of inflation. Third, because of China's relatively large foreign exchange holdings, China is already barred from obtaining new low-interest loans from the International Monetary Fund (IMF). Fourth, the increase in foreign exchange holdings is basically the result of pushing up exports, restraining imports and developing non-trade earnings. Such a pattern will push up the volume of money in circulation and aggravate imbalances in the demand for consumer goods, which is already in excess of their supply. Fifth, when banks have too much cash on hand, they will tend to lend more freely, even to unworthy projects.
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The first two of these arguments relate to the efficient use of foreign exchange reserves. The reserves are in effect China's net savings in relation to other countries and the problem is one of making the best use of such savings to purchase goods and services for current
consumption, to purchase physical assets for use in China with a view to enhancing output, or to purchase financial and physical assets outside China with view to earning a reasonable return and thus enabling future purchases of goods to be made..
CONFIDENTIAL KK 7771