Over the last couple years, the Central Bank of China has built up a treasure trove of foreign exchange reserves ($1.8 Trillion at last count), as part of its effort to hold down the Yuan, or at least slow its appreciation. Unfortunately, these reserves have depreciated significantly-10% per year in real terms- as the Yuan has risen relative to the Dollar. These reserves may slide further in real terms, as the credit crisis diminishes the value of the mortgage securities that comprise almost 20% of its portfolio. In order to
shore up its capital position, the Bank may be forced to accept an infusion of capital from China’s Finance Ministry and halt the appreciation of the Chinese Yuan. The New York Times reports:

China finds itself hemmed in. If it were to curtail its purchases of dollar-denominated securities drastically, the dollar would likely fall and American interest rates could soar.

Read More: Main Bank of China Is in Need of Capital