Will China Use Its U.S. Bond Holdings as a Weapon?

Following the $6.4 billion U.S. arms sale to Taiwan in January, some members of the Chinese military have advocated using China's considerable U.S. Treasury bond holdings as a weapon to retaliate against America. In a recent article in Chinese magazine Outlook Weekly, senior army officers at China's military university called for a stern response to the arms sale, stating that "we could sanction [the U.S.] using economic means, such as dumping some U.S. government bonds."

This anger isn't surprising: Many Chinese perceive the Taiwan weapon sales as American interference in their country's internal affairs. Xiong Lei, writing in China Daily, suggested that the sale was comparable to a nosy neighbor getting involved in a family quarrel, and asked "How would [the U.S.] react if China would sell weapons to Alaska or Hawaii?"

On this side of the Pacific, the view is considerably different. While the U.S. officially recognized the People's Republic of China in 1979, it passed the Taiwan Relations Act in the same year. The act legally formalized the U.S.-Taiwan relationship, guaranteeing that the U.S. would continue to supply weapons to the island country. Noting the 2001 sale of four decommissioned Isaac Kidd-class destroyers, military analyst and author Norman Polmar notes that "we've always given Taiwan earlier-generation tech."

Significant Political Differences

Despite America's close economic relationship with China, the two countries have significant political differences, an issue that was highlighted by the recent fight over Google getting censored in China. On the other hand, Taiwan, which has held democratic elections since the mid-1990s, hews far closer to American political ideals. Freedom House, a nongovernmental organization based in Washington, D.C., lists the island country as one of the most democratic countries in Asia.

Even apart from Taiwan, China and the U.S. have a strained relationship. The last military incident between the two occurred in 2001, when a Chinese fighter jet brushed a U.S. EP-3E Aries II spy plane, disabling the craft before crashing into the ocean. China allowed the American flight crew to land, then held them for 10 days, regularly interrogating them and depriving them of sleep. After President George W. Bush apologized, China released the crew members but held the plane for three months, during which it disassembled the craft.

China's increasingly aggressive posture may owe much to the growing strength of its military, whose budget has had double-digit year-over-year growth for the past two decades. In 2009, its budget increased by 14.9%, and experts estimate that it will have comparable growth in 2010. The Outlook Weekly article quoted Major General Zhu Chenghu as stating that the anticipated 2010 increase should take into account America's "meddling" in Taiwan. Major General Luo Yuan emphasized that China should state that "due to the threat in the Taiwan Sea, we are increasing military spending."

Increased Grumbling About U.S. Debt

While America's relationship with Taiwan could have a significant impact on China's military budget, it seems more likely that China will use the 2010 increase to increase employment and industrial output, not unlike much of the country's current infrastructure binge. A more worrisome development is the increased rumbling about America's debt. With $755 billion in Treasury bonds, China has the power to severely disrupt America's economy.

But the close relationship between the American and Chinese economy means that this move would also have a devastating impact on China. A flooded market would cause the value of China's remaining holdings to plummet, in addition to killing the American market for Chinese products. It could also result in a freeze on China's other holdings in the U.S., and could even lead to a more direct conflict between the two countries. According to Polmar, "It's hard to think of any scenario under which China would dump our bonds."

Polmar suggests that Luo's, Ke's and Zhu's statements might be back-door saber-rattling, intended to unnerve the U.S., while appeasing China's military. In Zhu's case, this makes sense: In 2005, he suggested that, if the U.S. intervened in a Taiwan dispute, China could destroy "hundreds of American cities" with nuclear weapons. The fact that his 2005 statements were made at a lecture sponsored by the Foreign Ministry, coupled with the fact that his most recent comments were published in a state-run magazine, suggests that Beijing tacitly approves of his comments, but is not likely to endorse them further.