The large amount of foreign reserve in our country is mainly caused by the (managed) fixed exchange rate system which at present set at a level below the equilibrium exchange rate. As a result, the supply of the RMB is smaller than the demand for RMB. The shortage of RMB supply occurs and gives pressure on the appreciation of the Chinese Yuan. However, to fix the currency at the present exchange rate, the central bank has to find means to create the artificial equilibirium in way of purchasing other currencies with RMB. The common way is to purchase Treasury bonds and increase the value of foreign assets held. That in turn leads to the increase of the money supply.