China's distaste for more U.S. debt could affect Canadian jobs: BMO

If China declines to buy up more U.S. debt or sells off some of the debt it already holds, U.S. interest rates could rise — possibly hurting Canada, according to a BMO analyst.

China’s apparent lack of enthusiasm for taking on more U.S. debt could soon affect Canada, an analyst with BMO Capital Markets says.

China holds more than $1.3 trillion of U.S. debt, mainly short-term treasury bills, a kind of government IOU.

In the last five years, China has spent as much as one-seventh of its entire economic output buying foreign debt, most of it American.

But according to the New York Times, it may have  had enough.

The newspaper quotes a forecast from the credit rating agency Fitch Ratings that China’s foreign reserves will increase by $177 billion US this year, down sharply from an estimated $415 billion US increase last year.

U.S. president-elect Barack Obama has indicated he wants to spend big during his administration and predicts trillion-dollar deficits for years to come. Normally, China would be the first place to turn to pay for those deficits.

But Beijing needs cash to stimulate its own slipping economy.

In the past, China’s voracious demand for U.S. bonds helped keep interest rates low for Washington. But if that demand wanes or if China tries to unload some of its U.S. Treasury debt, it would put pressure on the U.S. Federal Reserve to raise interest rates to prevent inflation.

"I think the most dangerous aspect of Barack Obama’s stimulus plan and the massive amount of debt issuance that’s going to be coming at the end of the year is that you drive up interest rates," said Andrew Busch, a foreign currency strategist with BMO Capital Markets.

"As Canadians, we run the risk of having parity with the dollar by the end of the year. A much stronger Canadian dollar could back up interest rates quite a bit, " Busch said. "You’re also looking at crowding out private investment. That could mean job losses in Canada."

Busch said he believes the U.S. dollar’s status as the world’s reserve currency could be affected by the amount of debt the U.S. seems ready to issue.