The deepening of President Donald Trump’s trade war with China has raised concerns that China may retaliate by selling off its U.S. Treasury holdings, potentially causing mortgage rates to skyrocket for many Americans. Some experts believe that China has a dangerous weapon at its disposal in its more than $760 billion in U.S. Treasury securities that could be used to strike back at Washington and weaken its opponent. With escalating tariffs between the two nations, the Trump administration’s strategy of doubling down on tariffs on Chinese imports may not be a winning one.
The recent spike in activity in bond yields has raised suspicions that China may be behind it, given its status as the U.S.’s second-largest foreign creditor. While it is hard to predict exactly what China may do with its Treasury holdings in the ongoing trade war, there is a possibility that China may sell off its treasuries, despite the potential capital losses it may incur. This move could have significant consequences for the global and U.S. domestic markets, including falling Treasury prices, rising yields, and a decline in the value of collateral.
Despite the risk of a sudden, large-scale sell-off being low, China could use the threat of a Treasury sell-off as a bargaining chip in the trade war. The gradual shift away from U.S. Treasuries could have far-reaching consequences, with China already reallocating reserves into gold and other non-dollar assets as part of a long-term diversification strategy. The risk of weaponizing U.S. Treasury holdings by China is seen as overhyped, with the United States having the power to cancel China’s debt holdings, though with drastic consequences for the U.S. economy.
A sell-off of U.S. Treasury bonds by China would have enormous consequences for the global and U.S. domestic markets, with the potential for accelerated financial stress and sell-offs. Rising Treasury yields would mean higher borrowing costs for the federal government and businesses, tighter financial conditions, and a heavier fiscal burden. Mortgage rates, closely linked to the 10-year Treasury yield, would also climb as a result of a possible sell-off by China, further weakening the housing market and dampening consumer spending.
For China, a sell-off of U.S. Treasuries would be extremely costly, increasing the value of its currency and further hurting its export competitiveness. A stronger yuan would reduce the value of China’s remaining reserves and introduce instability into its economy. While there is concern about a “sudden Chinese Treasury dump,” China’s real weapon may lie in the uncertainty it can create with its large Treasury holdings. The only way out of this trade war may lie with President Trump, with the current economic policies being seen as potentially destructive and reminiscent of the Great Depression-era Smoot-Hawley Tariff Act.
