China has over $1 trillion of US treasury bills. Its a well described cycle–China produces massive amounts of consumer goods, the US buys those goods, the trade is imbalanced, so China ends up with a lot of dollars, and they invest them hier in T-bills, essentially loaning them back to the US government to finance the US federal budget deficit.

So far, China has been sitting on this mound of cash, content to save. That seems to be changing, reports the NY Times today:

China will create a new agency to invest the country’s immense reserves of foreign currency, now totaling more than $1 trillion, the country’s finance minister announced today.

The minister, Jin Renqing, offered no specifics about how much of China’s currency reserves would be under the new agency’s control. But whatever the precise figure, analysts say that the agency is certain to begin life as one of the world’s biggest investment funds.

China’s currency holdings are already the world’s largest, and they are growing rapidly because of China’s huge trade surpluses. Most of the reserves are now invested very conservatively, in United States Treasury bonds and other government securities, a strategy that helps to keep interest rates low in the United States and other developed countries but earns little profit for China.

A trillion dollar investment fund controlled by the Chinese government!

Now, A) that’s a lot of money and B)strategically invested, it could do some interesting stuff for China and reshape some significant relationships in world politics.

The new agency will be able to invest some of the money more diversely and aggressively, analysts said, with the possibility of hundreds of billions of dollars put into acquiring “strategic assets” — mines, oil fields, whole companies — around world, especially in developing countries in Africa and Latin America.

“They’re not going to be looking for financial assets, but energy assets and natural resources, minerals, things China desperately needs,” said Jing Ulrich, an analyst at J.P. Morgan.

For those who see the specter of a rising China behind every corner, this is surely a sign of an assertive China challenging US hegemony by buying up all that the US can no longer afford to protect.

But, really, how significant is such a fund? Well, in the first place,

The government said that the new agency would be modeled in part on Temasek Holdings, the Singapore government’s hugely successful investment agency, which manages an $84 billion global portfolio of investments….

Andy Rothman, a strategist at CLSA Asia-Pacific Markets, said the government was likely to proceed cautiously and give the agency only a relatively small part of the reserves to work with at first, perhaps $20 billion. “It’s not going all of a sudden going to change the world,” Mr. Rothman said. “I think they are going to move very, very slowly in diversify what they are doing. Nobody should expect that suddenly they are going to invest $1 trillion.”

A quick comparison:

• • The Endowment of Harvard University is around $25 billion.

• • CalPers, the retirement fund of California teachers, is one of the largest investment funds in the US and worth about $230 billion.

• • The largest Hedge Fund is worth about $21 billion, and the entire hedge fund industry has about $1.1 trillion in assets (pdf).

• • The largest Asset Management firms in the world (all US or Western Europe) manage about $1 trillion each.

So, China would start out as powerful as the Harvard Endowment in the global economy, but rapidly approach the power of Fidelity or Barclays.

That’s still some serious investing power, but not take over the world type power. It would put China Fund in the top 10 of global asset managers, but only the top 10. The rest would still be US based / backed capital, and China’s primary investment remains US Dollars.

Now, if China Inc. focuses its investments on maximizing return–which many think it will do out of necessity–

And with that growth have come rising costs at home for education, health care and pensions. Earning more on government holdings, analysts say, will allow the government to better cope with some of these problems.

–then this new entrant creates inflationary pressure in the investment markets (more cash chasing a shrinking number of performing investments) but doesn’t fundamentally alter the system.

The more interesting element comes if and when the government dictates the fund to invest in politically / strategically important asset (like an oil field or bauxite mine or something) that performs poorly or even loses money. Will the government A) sacrifice its own financial well-being for national political / strategic gain or B) be disciplined and socialized by the market and get out of the poor investment. Now that’s a long way off, but could certainly accelerate key debates about China’s future as hegemonic challenger or member of the existing system.