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China is both a major trading partner of the United States and the largest official holder of U.S. assets in the world. The value of Chinese foreign exchange reserves peaked at just over $4 trillion in June 2014 but has since declined to $3.19 trillion (as of August 2016). This very large decline in foreign exchange reserves is unprecedented, and some analysts have speculated that continued sales of these (mostly U.S.) assets might significantly impact the U.S. and global economies. This article explains the reasons for this large decline in official assets, China's available policy choices, and how these choices could affect the U.S. economy. [ABSTRACT FROM AUTHOR]

This paper employs a version of the error correction model to investigate the demand for international reserves in a typical planned economy, China. Disturbances from the domestic markets are considered by incorporating the monetary disequilibrium into the model. Our main conclusions are that: (1) reserve holdings in China have maintained a long-run relationship and a stable dynamic relationship with several determinants since the 1950s, confirming China's prudential foreign reserve policy; and (2) monetary disequilibrium has significant short-run effects on reserve holdings, reflecting the authorities' 'general balancing' policy in their annual planning. [ABSTRACT FROM AUTHOR]