Toxic US Treasuries?
Posted: March 13, 2009 Filed under: Equity Markets, Global Financial Crisis, Team Obama, U.S. Economy, Uncategorized | Tags: China Debt, Current Account deficit, U.S. Treasuries 15 Comments
You know things are changing in the world when a country expresses “concern about the outlook for the U.S. and the safety of its Treasury bonds”. This would especially be true when that country is China and they are your biggest creditor. This is not the sort of thing one hears about industrialized nations, let alone the world’s largest single country economy. But there it is. The US is now considered a credit risk.
Analysts who watch the interest rates that the US must pay on its debt should have felt a little shiver yesterday. The Chinese government, the largest holder of Treasuries, expressed some doubt about the turnaround of the American economy and came a bit too close to stating that US paper might be becoming less attractive as the government borrowing to stimulate the economy and save financial institutions makes American debt a more risky investment.
According to the FT, the Chinese premier said, “We have lent a huge amount of money to the United States. Of course we are concerned about the safety of our assets. To be honest, I am a little bit worried. I request the US to maintain its good credit, to honour its promises and to guarantee the safety of China’s assets.”
I posted at the end of January about the touch and go trade relationship between the US and China. We stimulate their economy by buying Chinese stuff. They enable us to do so by buying our debt. We don’t yell at them for restricting their capital flows, pegging their currency, or violating human rights and we get to spend a lot of money without raising taxes. Well, that was so last month. Today, China’s decided to publicly assert its ‘interests’. We have yet to respond. Is China expressing similar concerns already voiced by economists and the markets over the current handling of the US Economy by the Obama team? Quite possibly. This, from the previously cited WSJ article.
Mr. Wen said that China is also closely watching to see the effects of the policies taken by U.S. President Barack Obama aimed at returning the world’s largest economy to health. Chinese foreign minister Yang Jiechi was also in Washington this week to discuss how the two countries can cooperate on economic policy, among other issues.
A test of that cooperation is quickly approaching. U.S. Treasury Secretary Timothy Geithner this week called on the Group of 20 – a gathering of the world’s largest developed and developing economies – to increase funding for the International Monetary Fund by up to $500 billion to help combat the financial crisis. Achieving that sum likely will depend on getting agreement from countries that hold large foreign exchange reserves, such as China and Saudi Arabia.
Ahead of a preparatory meeting of G-20 financial officials this weekend near London, Mr. Wen said pointedly that “increased funding for the IMF is not a question for just one country” but for all member nations. He also repeated China’s desire to see reforms to the IMF that give more clout to developing nations.
They’re ‘inkling’ that China deserves more international status and bargaining power. They also would like the international community–especially the US– to lay off any notion of a more free and open Tibet. I still find it intolerable that we’ve basically decided cheap Chinese manufactured goods are worth more than the religious and political freedom of native Tibetans. That is, however, the bargain that is on the table.
Mr. Wen used harsh language against the Dalai Lama, Tibet’s spiritual leader, who accused the Chinese government this week of turning the Himalayan region into a “hell on earth.” He said talks between
Beijing and the Dalai Lama, which took place last year without making any progress, could only resume if the Dalai Lama is “sincere.”
Indeed, China does have a big stake in the U.S. economy and is the nation’s biggest creditor. It is always disconcerting when that creditor calls you at work and reminds you about the bill. Here’s the size of the problem reported by the NYT.
China should seek to “fend off risks” as it diversifies its $1.95 trillion in foreign-exchange reserves and will safeguard its own interests, Mr. Wen said. He said that the Chinese had invested $696 billion in United States Treasury bonds as of Dec. 31, an increase of 46 percent from a year ago.
The United States Treasury Master index from Merrill Lynch shows that the securities declined 0.5 percent last month, after falling 3.1 percent in January, the worst since April 2004, as President Barack Obama sells record amounts of debt to finance his $787 billion bailout. The dollar has dropped 17 percent against the yuan since China ended a fixed exchange rate in July 2005.
This definitely presents a challenge to the Obama administration. In order to forward the aggressive spending packages and tax cuts required for their agenda, the Chinese must continue buying US Treasuries. It was rumored that one of the messages brought to China by newly appointed SOS Hillary Clinton was the hope that China would continue its huge investment in Treasuries. The Chinese have now publicly stated that there will be a cost to those funds above and beyond the current interest rate.
Every time my students ask my what would happen if the Chinese suddenly dumped their supply of US Treasuries on the market, I say absolute chaos. Chaos here in the US and chaos throughout the world markets. I’ve also thought that an infinitesimally likely event. I’m not so sure about that now that we’ve had such a public announcement of our bad risk status. I’m also not sure if we’re being threatened with kneecapping, higher fees, or a mortgage on our soul.
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dakinikat,
100 days after Tiannemmen Square, I acted as a spokesperson for the Graduate Students’ Association at a memorial event for the victims held by the Chinese Students’ Association. When I started the day by reading the local newspaper’s above the fold headline about Canada resuming normal trade relations with China, I was unaware of the significance of the date 100 days after an event, but upon arriving at the GSA office and finding they needed someone to speak at the CSA memorial, I experienced a minor eureka moment. Accordingly, as I spoke to the assembled mourners, I noted that the old guard of The Long March acted as they did because they knew
the leaders of the so-called Western Democracies talked a good game when it came to human rights, but that when push came to shove, they sided with money. Orwell made the same point with respect to the West and totalitarian appeasement in “Homage to Catalonia.” Brian Mulroney’s government proved this point by supplicating to the old guard for trade rights on a day they ought to have been reflecting upon those who fell in the square.
What follows is from Sun Tzu’s, “The Art of War.”
III
Offensive Strategy
1. Generally in war the best policy is to take the state intact; to ruin it is inferior to this.
3. For to win one hundred victories in one hundred battles is not the acme of skill. To subdue the enemy without fighting is the acme of skill.
_________________________________________
Non sequitur.
I enjoy the art of your framing of your written work.
Thank you for your radio presentation last night. I view it as a gift to the community {especially now that I know what finance Ph.D.s receive for their insights 😉 }.
SM
hi thx on all accounts and the message about Tiannemmen Square is moving and right own. Its a rare politician that isn’t motivated by money, position and power. Very few of them will do what is right.
Also, I’m glad some one caught the art imagery, it wasn’t random but I wasn’t really expecting any one to notice. I really do have a thing for antique prints and items so I love finding just the right ones.
And it’s never been about the money for me, otherwise I’d have gone to Vassar like the rest of the cousins and done something really banal with my life … i prefer to live my own way, small and on my own terms.
hi dakini scince it would cause chaos throughout the world markets if is it safe to say that it would be in chinas best intrest to avoid that possiblity at all cost?
well, I’m beginning to think at some point it may not actually cause chaos for them because as long as they have real assets and all those people, and they can slowly find ways of buying things with $, they can quit holding the treasuries with worse results to us than them, but i do agree they probably wouldn’t drop them all at one or they’d have major issues too.
I look at it this way: the stimulus spending was supposed to be a one-time occurence, maybe with a follow-up.
HOWEVER, the political system in this country is so calcified that IMO, at least, it’s rather silly to imagine that, next year, the president will tell the senators and representatives, “Remember all of that money for your states and districts that came through last year? Well, don’t expect more.”
I think it’s a sound conclusion given the inability to eradicate obscene and inane laws and programs from marijuana prohibition and Prohibition-era alcohol regulations to runaway “defense” spending. It never dies. And neither will this, until the ability to pay for it is absolutely gone.
I doubt that the results will go as far as, for instance, the Anglo-French takeover of the Egyptian government, but I do think that it’ll be something to behold. Perhaps we’ll see a silver lining in the stymying of the craven and cowardly political classes who can see no solution to any problem but more spending, more regulation, and more centralization.
dakini i dont know if you know the awnser to this one but do you know what caused the great depression.?
It was basically a speculative bubble (much like this one) that started a financial panic which bled into mainstreet. It started off as a typical recession but was made worse by botched monetary policy and botched fiscal policy by both the Hoover and the earlier Roosevelt administrations. Also, there was a wave of protectionism that shut down global trade including tons of tariffs. It probably wouldn’t have been so great if it hadn’t been for a number of things like putting us back on the gold standard in 1931, trying to raise taxes to balance the budget, and a number of huge missteps by the federal government. Also, at the same time, there was a severe drought in the middle south and that didn’t help things either.
China should be worried about their dangerous over investment in US Treasury obligations. Washington’s long-term choice is either repudiation or monetization. For monetization to be effective, the depreciation in the dollar would have to be substantial and this in turn would dramatically raise prices of imports for American consumers which would mean a tremendous drop in foreign imports. Debt monetization would cause more disruption to exporting nations than selective repudiation of Treasury debt.
Washington has bailed out the banks, Wall Street & their Washington special interests and much of the cost is added to the national debt to by paid by this and future generations while real estate and investments continue to fall. Find out what a growing repudiate the debt movement could mean for treasury bonds, the dollar, gold and the stock market.
The Campaign to Cancel the Washington National Debt By 12/22/2013 Constitutional Amendment is starting now in the U.S. See: http://www.facebook.com/group.php?gid=67594690498&ref=ts
Thanks, Ron Holland
dakinikat,
Your posts betray that the arts embody your experience, which is why I said “the art of your framing.” Unfortunately, my double entendre was ruined by my clumbsy prose.
I hope you have a wonder filled weekend.
SM
no, i got that 😉 the art is part of the framing of the topic also … i think i said it clumsily not you …
you have a superb weekend too!
I’ve been concerned about the China situation for years now. Instead of the goal of making China free with capitalism, China has managed to make us enslaved by Communism. China itself is toxic for a few reasons.
1. Currency manipulation is ongoing. The yuan isn’t specifically pegged to the US dollar anymore, but there is a considerable lack of transparency in the way a Communist economy operates.
2. Human rights abuses are rampant and necessarily so under Communism. If you tear down the walls between countries, everyone would leave the communist ones and go to the capitalist ones. We let it go because they own us and we have little to no support in the UN.
3. Trade abuses are constant and the WTO is their lapdog. Other countries have trade parity and tariffs. China uses those policies against us. If the governmet buys a US product, part of it has to be manufactured in China, so they can learn how to copy it.
I still don’t think China has sucked the US dry yet. The doomsday scenario is no longer them selling our bonds on the open market, which could save us some interest payments, but China refusing to buy our upcoming debt. My guess is that they would like Treasury bonds to hit 6-7% so they can compensate for a shrinking trade surplus with the US.
At this point, we need someone in this government to start telling US citizens to buy bonds because we are headed for a massive interest obligation otherwise.
Or the ultimately unsustainable practice of funding a huge portion of government via borrowing so that people can continue to pretend that the answer to every problem involves a) additional regulation and centralization, or (if that fails,) b) throwing lots and lots and lots of money at it, will have to end.
government revenue, rather
A large number of people are basically brought up thinking that the government owes them a lot. Their churches even support this idea and seek grants and monies from the government to establish programs that basically keep them ‘needy’. The church has always been a tool in that. The government gives them special status and they tell folks the government will help them while they wait for ‘the kingdom.’ Meanwhile, the political class and the religious class empower themselves and enrich themselves with this little tale. As long as folks see a little money and a glimpse of heaven, they can be kept stirred up and in line at the same time. It is amazing to me how many people there are out there that manipulate the poorest of us.
China has severely restricted capital flows. It’s one of the ways they manipulate their currency although they are less obvious about the pegging than they used to be.
Additionally, their complete lack of environmental regulations and labor standards as well as lax consumer safety protection on products lets them do every thing on the cheap.
They’ve been able to get away with a lot since their high growth rate of 10% which ensures low unemployment and growth in availability of goods and services keeps people content. There’s some speculation that they will have trouble maintaining that if their growth rate falls below that. It is currently around 8% and there is some problem with unemployment now.