1. Fed expansionary policy (lower interest rates, liquidity injections) benefits China in ways like: 1. primarily by lowering US dollar-denominated corporate financing costs, 2. boosting Chinese manufacturing and exports by increased U.S. demand (or demand from American consumers), and 3. encouraging capital inflows that can raise/support Chinese asset prices. 4. A weaker U.S. dollar, often a byproduct, may also help stabilize the falling yuan 1. Intervention to stabilise (steady) falling/declining yuan by Chinese state-run banks - Chinese state-owned banks often sell dollars. on behalf of PBOC, in the spot to prevent excessive depreciation or (rather steady the decline) of the yuan. This is because a sharp decline in yuan could lead to capital outflows, make imports and debt payments expensive, and thus disrupt/destabilise the financial markets in China. 2. So PBOC tries to avoid big sharp depreciation of yuan. It may not be only about the fall but about how fast the currency declines. 3. However, sometimes they may not sell it from reserves, but through forex swaps with foreign banks. So they buy USD in first leg of the swap (and sell yuan) and sell these dollars in the spot market to support yuan, and sell USD back in the second leg (after say a year, if it 1-year forward swaps) to the other party of the forex swap. It is called buy/sell USDCNY swap. So until the settlement of the swap, they would be carry short USD positions in the forex forwards with foreign banks (counterparty). 4. These Buy/Sell dollar-yuan swap also helps the state banks to scoop up the available dollars and drain the pool of dollar liquidity. This makes the dollars intentionally scarce. This reduced the supply of dollars makes it difficult to bet against or short-sell the yuan. 5. However, buy-sell swaps are not just fresh transactions but they can also be rollover of past buy-sell swaps (or past dollar purchases through swap). 6. They also sell outright forward dollars, reducing dollar-yuan swap points (forward leg-spot leg), to signal that the yuan value against the dollar in a year's time could rise. 7. Since both flood the forward market with dollars, buy-sell swaps and outright forward sales in the dollar-yuan pair cause sharp drop in forward rates, that is, cause the forward points to fall heavily. 8. Other tools are sales of RMB bills to absorb yuan liquidity. 9. Here the risk to Chinese banks is drying up of dollar liquidity around the time to around the time they need to source those dollars to sell-back the dollars in the second leg of the swap and thus settle it. 2. US trade war with China 1. China’s economy relies on massive amounts of borrowed money (debt) to fund real estate, factories, and infrastructure. 2. During a trade war, their export economy slows down, making it extremely difficult and painful to generate the cash needed to pay back those massive loans. 3. Lowering of rates by US during the trade war 1. When the US Fed pumps trillions of dollars into the global economy, it creates global inflation and lowers interest rates. Inflation is great for debtors because it makes existing debt fundamentally cheaper and easier to pay off. so the Fed effectively gives China's struggling, debt-heavy economy a free financial boost. 2. The entire goal of a US trade war is to inflict enough economic pain on China that they are forced to surrender and negotiate a new deal. But because the US Fed just relieved China's financial pressure by lowering rates, China isn't hurting anymore. They don't need to make concessions. They can simply sit back, refuse to negotiate, and comfortably wait it out until the US gets tired of the trade war. 4. 2. Tightening by the Fed 1. A global dollar deflation will put extreme stress on China’s finances. 2. Dollar deflation means the US dollar becomes stronger and scarcer. Just like global inflation made their debt _easier_ to pay off (as we discussed earlier), deflation does the exact opposite. It makes their massive US-dollar debt burden much heavier and more expensive to service, threatening to crush their over-borrowed economy. ## Further Reading: 1. [On the Economy Blog](https://www.stlouisfed.org/on-the-economy) by Federal Reserve Bank of St. Louis 1. Why Does China Have Large Foreign Exchange Reserves? 1. [Choices for China; Consequences for Us](https://www.stlouisfed.org/dialogue-with-the-fed/choices-for-china-consequences-for-us) 2. On the Economy: [Four Things China Could Do to Address Capital Outflows](https://www.stlouisfed.org/on-the-economy/2016/may/four-things-china-address-capital-outflows) 3. Economic Synopses: [Chinese Foreign Exchange Reserves and the U.S. Economy](https://research.stlouisfed.org/publications/economic-synopses/2016/05/06/chinese-foreign-exchange-reserves-and-the-u-s-economy/) ## References 1. Setser, B. W. (2026, April 30). China's “fake” de-dollarization. Council on Foreign Relations. https://www.cfr.org/articles/chinas-fake-de-dollarization