Dear Michael,

Thanks for detailed review of PBoC policy. Whilst reading the article it occured to me that there are much simpler but more pronounced dynamics in all this.

the simplicity emenates from simple macroeconomy principles.

As we know the following are occuring as we speak

To keep Yuan fixed the PCoc needs to print Yuan in exchange for USDs that importers of Chinese goods place with it to buy their chinese goods!

This has two major consequences
1- persistent surplus creates large foreign currency reserves that need to be invested externally. in PBoc case $2.6tril almost 50% of GDP in foreign denominated assets.
2- the newly printed cash will eventually find their way into economy causing inflation

To tackle the 1st PboC has been investing heavily outside China, more specifically in the US with some calling PboC the lender of last resort or the ultimate vendor financiar. All this Helping to keep FEd rate at historically low rates of 0.5%.

On the domestic front PboC has been using direct and indirect levers to suck up the excess liquidity. Mandatory reserve ratio of 18.5% (mamoth rate in comparison to the usual 3% in most developing countries) and active sterilisation activities e.g., selling CB bonds in exchange for cash. Hence limiting credit expansion and driving domestic interest rates higher e.g.,12% p.a.

Now the impact of all of this for PboC is that it now has to manage a supersize balance sheet with negative yield of appx 10-12% (differential from what it receives in foreign assets and what it will have to pay domestically). a back of the envelope calculation puts this at $150bn - $250bn per annum. Given that it has been running this strategy for at least 4 yeras the question is when rather than if it would break away from this strategy.

MikeS