Good overview of usa debt situation for us non economists.
Message 19215309
Message 19215332
Message 19215334
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U.S. bonds in foreign hands don't pose big threat
EDWARD LOTTERMAN
Columnist
One of the knottiest issues surrounding the U.S. national debt is that of growing foreign ownership of our Treasury bonds. Is there any danger in the fact we owe about a third of our national debt to entities outside our borders?
Historically, this was not a problem. Introductory economics textbook long argued that much public breast beating about the debt is misguided. One reason is that "we owe the debt to ourselves."
For years, most Treasury bonds were owned by people or institutions within our borders. While current and future taxpayers must pony up money to service the debt, any interest and principal payments made also go to people in the United States. There is no flow of funds outside the country. This argument was almost entirely correct 50 years ago. But by 1980 foreigners already owned 18 percent of all U.S. Treasury bonds "held by the public."
In the intervening two decades, that proportion continued to climb. As of a year ago, debt held by the public totaled $2.9 trillion. Some $1.3 trillion of this, or 39 percent, was owed to foreigners. Since flows of money in and out of a country generally balance out in the long run, for every $100 in Treasury interest payments, we must export $39 worth of goods or services to make foreign interest payments. Or we can sell foreigners $39 worth of U.S. assets.
Foreign ownership of any U.S. physical or financial assets scares many people, mostly unnecessarily. Attracting foreign investment is not necessarily a bad thing.
Many developing countries go to great lengths to attract outside capital. The U.S. used a great deal of foreign capital in the 1800s to build canals, railroads, mines and factories. Foreign investments in dollar assets can be risky for the investor. Japanese purchases of U.S. real estate are a good example. In the 1980s, Japanese investors bought large amounts of commercial property, largely in Hawaii and California. Indeed, buying by foreigners helped stoke a property price bubble. U.S. magazines ran cover stories implying that Japan was buying up the United States and, implicitly, would control it.
Fifteen years later, few remember the brouhaha. First, the property prices collapsed, particularly in southern California. When Japanese investors bailed out and tried to bring their money back to Japan, they were clobbered by a yen that was more expensive in dollar terms than when they had first sent their money to the United States. Between the lower property prices and an adverse exchange rate move, many ended up losing two-thirds of their money.
"Yes," you may say, "but that was different than foreigners owning U.S. government bonds."
It is and it isn't. One important difference is that private Japanese firms made the real estate investments. Foreign central banks, rather than private sector investors, are the largest foreign owners of U.S. Treasuries. But such foreign ownership of U.S. bonds resembles the real estate experience in two important ways. Any large-scale move by foreigners to dump U.S. Treasury bonds would provoke the same double whammy that lacerated Japanese property buyers.
If the foreigners who own U.S. bonds all decided to sell them, the price of bonds would drop. As they converted the dollars they got from selling bonds back into their own domestic currencies, foreign exchange markets would be flooded with U.S. dollars and the dollar would weaken against whatever currencies the bond sellers wanted. They could get out of their U.S. debt holdings, but they would take a terrible bath.
The U.S. would not be unscathed. Dropping bond prices mean rising interest rates, which would slow consumer and business spending. The Fed could buy up enough of the bonds dumped by foreigners to hold interest rates down, but this would dramatically increase the money supply, increasing inflationary pressures.
Such a sudden, mass shunning of U.S. Treasury bonds is not likely to occur. One must ask why foreign central banks buy U.S. treasuries. There are two reasons. First, the U.S. dollar is a reserve currency. Many countries hold substantial reserves of the currencies of nations with which they trade with to ensure their ability to pay for imports or service debts.
Since the U.S. dollar can be traded for nearly any other currency, holding foreign exchange reserves in dollars simplifies the process. Moreover, as long as central banks have dollars, short-term U.S. Treasury IOUs will earn some interest.
Other countries manage billions of dollars of reserves in this way. They are lending money to the U.S. government, but this is a collateral effect of their foreign exchange management, not an objective in itself.
Some central banks buy dollars to keep their own currencies from gaining value relative to the dollar. This is clearly going on in Japan and China and neighboring countries right now. Members of Congress recently asked the Treasury Secretary to investigate if such exchange rate intervention in Asia hurts U.S. manufacturers.
Asian governments know that if the yuan, yen or rupee strengthens against the dollar, their firms will find it harder to sell in the United States. Their central banks buy surplus dollars to prevent this, just as the U.S. government long bought corn to keep U.S. farm prices up.
As for those countries simply managing their exchange reserves, if you are going to hold dollars you can earn interest by buying Treasuries. The central banks of Japan, China and other Asian exporters now hold hundreds of billions worth of U.S. Treasury bonds. Their objective is not to help the U.S. government, but rather to effectively subsidize their own domestic industries by keeping their currencies weak.
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China to tell U.S. to cool yuan criticism--sources
Friday August 8, 3:47 pm ET
By Eric Burroughs and Gertrude Chavez
NEW YORK, Aug 8 (Reuters) - Chinese officials plan to tell U.S. Treasury Secretary John Snow they might reconsider the country's hefty buying of Treasuries and U.S. agency debt if Washington doesn't cool its calls for China to revalue the yuan, according to a report this week seen by market sources.
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This week, the currency market buzzed with speculation about the report, which is sent only to paying subscribers and which was one factor behind the dollar's dive of more than one percent against the yen on Thursday.
"Part of the (dollar)'s decline may have (also) been caused by rumors of a consultant's report that official Asian accounts will be less inclined to purchase U.S. Treasuries," strategists with BNP Paribas wrote in a research note on Friday.
The report, by geopolitical advisory group Medley Global Advisors, quotes Chinese officials saying they will reiterate that they have not sold any Treasuries or agencies and have in fact continued to buy those securities, sources said.
But unless the U.S. calms its criticism, Chinese officials plan to tell Snow during an expected visit this year they may reconsider their purchases of Treasuries and the debt sold by the two biggest U.S. mortgage financing agencies, Fannie Mae (NYSE:FNM - News) and Freddie Mac (NYSE:FRE - News), market sources quoted the report as saying.
Those steady purchases from China and other Asian countries have helped bolster the dollar and keep a lid on long-term U.S. interest rates.
Medley declined to comment on any reports issued to clients.
"We do not publicly comment on our reports. We have been covering the topics of Asian interest in Treasuries. Yesterday's rumors seem like a hotchpotch of different stories, combined with violent market action," said Sassan Ghahramani, senior managing director, Medley Global Advisors in New York.
China, Japan and other Asian countries are all big buyers of Treasuries and agencies as a way of keeping their currencies weak to the dollar, thereby boosting exports. The countries often funnel dollars coming in from their trade surpluses back into Treasuries and agency debt.
Through May, Japan and China were the two largest holders of U.S. Treasuries, with $428.6 billion and $121.7 billion respectively, according to Treasury data.
Total Treasuries and agencies owned by foreign central banks stand at a staggering $935 billion, and most of those belong to Asian central banks.
Any slowdown in those purchases or even outright selling would almost certainly drive up long-term U.S. interest rates, hurt the dollar and increase borrowing costs of Fannie Mae and Freddie Mac, not to mention the U.S. government.
Snow's recent repeated calls for China to revalue the trading band of the yuan has been widely seen as a political move as the Bush administration attempts to calm the ire of struggling U.S. manufacturers heading into next year's presidential election. In late July Snow brought up the yuan revaluation at a manufacturing plant in Milwaukee, Wisconsin.
Despite the pressure, China is believed to have little desire to widen the yuan's trading band and let it strengthen against the dollar.
China has pegged its exchange rate at 8.28 to the dollar since 1998 and this has made Chinese exports cheaper than their foreign counterparts.
Most currency traders are skeptical of the Medley report's hints that Chinese buying of U.S. fixed income might cool.
One New York-based currency trader, who asked not to be named, said it is not in the interest of China to change policy at this stage.
Another New York-based trader said the massive current account surpluses of Japan and China leave them few options other than to recycle their excess dollars into Treasuries.
Moreover, the latest Federal Reserve numbers on custody holdings for the week to August 6 suggested the Chinese were not as yet big sellers. Data show that foreign central banks bought U.S. assets for the first week in four weeks, purchasing $6.2 billion of Treasuries.
This is a marked turnaround from the previous three weeks where European central banks seemed aggressive sellers of U.S. assets, and appears driven by Asian central banks intervening in order to weaken their currencies against the dollar. (Additional reporting by John Parry in New York)
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