China fears U.S. authorities will be tempted to “monetize the debt” by allowing inflation to rise, eroding the value of U.S.-dollar denominated assets held by the Chinese.

Premier Wen Jiabao put it bluntly when he spoke in March at the most important Chinese press conference of the year: “We have lent a massive amount of capital to the United States and of course we are concerned about security of our assets. To speak truthfully, I do indeed have some worries.”

He urged America to maintain its “creditworthiness” and safeguard Chinese assets, a lecture that did not go unnoticed.

Chinese officials have taken umbrage at some suggestions that China's high savings rate contributed to the global imbalances. Some private-sector U.S. analysts say massive capital inflows from China helped fuel the housing bubble that set the stage for the financial crisis.

Zhou said in September that the paper about the dollar had been partly a way of rebuffing such criticisms. But the central banker's proposal hit a nerve. Persistent complaints from Washington about the Chinese currency have long been a source of friction.

Moreover, the dollar has been sliding lately and public comments about the possibility of it losing its stature could reinforce its weakness, posing dangers for both China and the United States.

So the two countries have since found a way of discussing currencies that causes less of a stir in their capitals and in foreign exchange markets — and the new name of the game is “rebalancing.”

Although it was hesitant at first, Beijing got on board in Pittsburgh with a U.S. call for an economic rebalancing. The idea is for export-driven economies like China to boost domestic demand while big spenders like the United States strive to increase savings.

It is in this context that currencies could come up in the Hu-Obama meeting, said a senior U.S. official who spoke to Reuters on condition of anonymity.

“It will be clear that part of rebalancing is having a more balanced economic growth that depends more on domestic demand and that obviously implicates macroeconomic policy in all its dimensions,” the official said.

This official rejected the widely held view that China's vast holdings of U.S. Treasurys are a matter of concern.

“They have an enormous stake in our economic success and we have an enormous stake in their economic success,” this official said. “That's not a problem; it's a good thing. It's an enormously good thing and it should be welcomed.”

Prestowitz said China's leverage is limited by an awareness that it, too, would, suffer drastic consequence if it decided to suddenly unload its holdings of U.S. Treasurys.

“It would be a mutually-assured destruction situation,” Prestowitz said in a view shared by many Chinese analysts.

“Under extreme circumstances, it might be possible for Chinese leaders to threaten to sell Treasurys,” said --ie Tao, an expert on U.S.-China relations at the Beijing Foreign Studies University.

“But at the moment, I really cannot believe that they would do this,” --ie said.

Rebalancing and currency rows are new items on a list of U.S.-China fault lines that has long been topped by Taiwan and human rights.

Tensions Cooling With Taiwan

Taiwan is still the one issue that could trigger war between China, which claims sovereignty over the self-ruled island, and the United States, which is committed by U.S. law to provide weapons for Taiwan's defense.

But Obama's tenure has coincided with a cooling of tensions between Beijing and Taipei thanks to the 2008 election of Taiwan President Ma Ying-jeou, who has sought better ties with China. But potential friction over U.S. arms sales remains.

The Obama administration has angered some for appearing to play down human rights in the interest of gaining Chinese cooperation in combating the financial crisis.

Obama broke with presidential tradition and did not meet the Dalai Lama when the exiled Tibetan spiritual leader visited Washington last month. But U.S. officials reject the idea that Obama snubbed the Dalai Lama and tell critics to judge the policies by their results.

Other foreign policy disputes stem from China's scorching economic growth. China's need for energy and raw materials to fuel its growth has led it to deepen ties with countries which have troubled relations with the United States or face international condemnation for their human rights records or pursuit of banned weapons.

China's oil investments in Sudan drew calls for a boycott of the 2008 Beijing Olympics by critics who said China abetted the perpetrators of atrocities in Darfur. China's energy trade with Iran is seen as helping Tehran withstand Western economic sanctions over its nuclear ambitions.

Drew Thompson, director of China Studies at the Nixon Center in Washington, said the United States has started to take into account how Chinese “resource needs and self-perceived insecurities” influence its foreign policy.

“The more we address those insecurities and resolve them as much as possible, the more we will get from China in terms of shaping the behavior of other nations, such as Iran, Sudan and Zimbabwe,” he said.

The new dynamic in Sino-America relations was on clear display last April, when Obama brokered a dispute between Hu and French President Nicolas Sarkozy at the G-20 summit in London in April.

The G-20 was under enormous pressure to show unity amid fears financial markets could face another wave of turmoil after the chaos of late 2008 and early 2009.

But at a luncheon of beef and asparagus, Hu and Sarkozy were deadlocked over the French president's proposal to crack down on international tax havens. China was concerned about the potential impact on the Hong Kong and Macau banking sectors.

Ratcheting up the pressure was a threat Sarkozy had issued on the eve of the summit to walk out unless the G-20 talks yielded a firm commitment on financial regulatory reforms.

Obama pulled each leader aside and urged each to give ground, even though his own view on tax havens was closer to Sarkozy's.

At a news conference later, he spoke approvingly of the rise of countries like China and said it was a good thing decisions were no longer made by “Roosevelt and Churchill sitting in a room with a brandy.”

“That's an easier negotiation but that's not the world we live in, and it shouldn't be,” Obama said.