BEIJING / NEW YORK - The US Federal Reserve said on Wednesday it could ease monetary policy further if the United States failed to see solid growth, which analysts said may add to China's inflation and endanger its $3.2 trillion foreign exchange reserves.

"The possibility remains that the recent economic weakness may prove more persistent than expected and that deflationary risks might re-emerge, implying a need for additional policy support," Ben Bernanke, Fed chairman, told the House of Representatives Financial Services Committee. His remarks were generally interpreted as a signal of a possible QE3 (quantitative easing) stimulus infusion.

In late 2009, the Fed launched an unprecedented bond-buying drive to boost the economy and make more credit available, spending some $1.7 trillion on mortgage-backed securities and Treasuries before it ended in March 2010. It then initiated a second round of easing that wrapped up in June, in which $600 billion of bonds were bought.

But the US economy remains weak, prompting the possible launch of a QE3. A Reuters/Ipsos poll released on Wednesday shows that the number of Americans who believe the country is on the wrong economic track rose to 63 percent this month, up from 60 percent in June. The country's jobless rate rose to 9.2 percent in June from 9.1 percent in May.

The US hit its $14.3 trillion debt limit on May 16. US President Barack Obama and the Republicans are bogged down in negotiations to raise the borrowing limit before the Aug 2 deadline.

Also on Wednesday, global rating agency Moody's Investor Service put the Aaa bond rating of the US government on review for a possible downgrade, citing the "rising possibility that the statutory debt limit will not be raised on a timely basis", which would lead to a default on US Treasury debt obligations.

The agency in early June had issued a statement warning that it would carry out this review in mid-July unless "there was meaningful progress in negotiations to raise the debt limit".

Steven Hess, senior credit officer at Moody's, told China Daily that such a review doesn't happen often and the last time Moody's put only certain Treasury bonds (that had interest rates coming due) on review for downgrade was in 1996.

"We just want to have the market on notice that the rating will go down if an interest payment is missed," Hess said.

Shortly after Moody's announcement, Beijing-based rating agency Dagong Global Ratings Co Ltd, which downgraded the credit rating for the US to A+ from AA in November (after the Federal Reserve launched a second round of quantitative easing), said it might knock down the US rating again.

"In the coming three to six months, if there is no major event to make real improvement in the fiscal situation in the United States, we will definitely downgrade the US sovereign rating," said Guan Jianzhong, president of Dagong, in a Reuters interview.

China is the largest foreign holder of United States Treasuries and it bought more federal bonds in April for the first time since October despite concerns over the US debt level. According to the Treasury International Capital report, or the TIC, China's purchases of US debt rose $7.6 billion to $1.15 trillion in April - the first month-on-month increase since its holdings reached $1.18 trillion in October.

Bernanke's hint of a QE3 could also be a strategy to pressure lawmakers to agree on raising the US debt ceiling, analysts said.

"If the Fed continues to print more money (as Bernanke hinted), it will drag China into a protracted war to limit liquidity and tame inflation," said Lu Zhengwei, chief economist with Industrial Bank Co Ltd.

China's consumer inflation already surged to a three-year high of 6.4 percent in June, according to the National Bureau of Statistics. This was partly attributable to quantitative easing measures by the US which drove global capital into the more lucrative developing markets, including China, analysts agreed.

"It will be very bad news for emerging countries," Lu said.

Those countries may have to continually tighten their monetary stance, such as by raising interest rates, further incurring capital inflows, Lu said.

Cao Fengqi, director of the Finance and Securities Research Center at Peking University, told China Daily that a QE3 would lead to faster appreciation of the yuan against the dollar.

According to Cao, if the easing policy became a reality, the resulting flood of US dollars means a faster depreciation of the greenback, whichthreatens the security of China's foreign exchange stockpile as it will reduce the real value of the dollar-denominated reserves.

Wei Tian contributed to this story.

China Daily

(China Daily 07/15/2011 page1)