US-China Trade Relations

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    When Americans pay in dollars for imports from China, the Chinese have two alternatives: they can hold the dollars or spend them. If they hold dollars, then the purchasing power of the dollar is higher than otherwise. As a consequence, Americans can buy goods at prices lower than otherwise. If the Chinese spend dollars, then they can either buy goods from Americans, in which case there would be neither a trade surplus nor deficit, or they can buy American assets, in which case the current account deficit would be matched by a capital account surplus.

    More than half of dollar currency is held by foreigners overseas. The following Fed study is dated, but the analysis of currency holdings is interesting.

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