YY - The “Asset Crisis” of Emerging Economies

2011-09-30

BEIJING – In theory, the difference between capital inflows and outflows in developing countries should be positive – they should be net capital importers, with the magnitude of the balance equivalent to the current-account deficit. Since the 1997-1998 Asian financial crisis, however, many East Asian countries have been running current-account surpluses – and hence have become net capital exporters.
Even odder is the fact that while they are net capital exporters, they run financial (capital) account surpluses. In other words, these countries lend not only the money they earned through current-account surpluses, but also the money they borrowed through capital-account surpluses – mainly to the United States. As a result, East Asian countries are now sitting on a huge pile of foreign-exchange reserves in the form of US government securities.
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...while China’s foreign assets are denominated in US dollars, its liabilities, such as FDI, are mostly denominated in renminbi. As a result, when the dollar depreciates against the renminbi, the value of China’s foreign liabilities increases in dollar terms, while that of its foreign assets remains unchanged. As a result, China’s net international investment position (NIIP), which is the difference between China’s gross assets and its gross liabilities, automatically worsens. The deterioration of China’s NIIP is a reflection of the transfer of wealth from China to the US. 
Since the 2000’s, China’s gross assets and gross liabilities have increased dramatically, owing to the success of China’s trade-promotion and FDI policies. As a result, China’s net international investment position has become very vulnerable to the devaluation of the dollar...

Source: http://www.project-syndicate.org/commentary/yu10/English