“Worried” About Treasury Bonds

Among Western nations, the U.S. is in relatively better shape that European nations whose currencies are dragged down by the weaker European Union nations and whose lending institutions have their own “subprime equivalent” in loans into the shaky and plunging economies of Eastern Europe. But our staggering deficits, and our reach into the international marketplace to sell our Treasury bonds, create entirely new issues for the U.S. and those countries that have traditionally been the buyers and hence supporters of our economy.

If those bonds don’t sell – and so far they really have done well since there are few instruments that, in this meltdown in which global investors have more confidence – these national debt instruments are typically purchased by the Federal Reserve. They simply increase the “M1” money supply and buy the notes. In normal times, this dilutes the value of the dollar, and is a prime cause of inflation (the dollar just buys less, because it is worth less). Today, since we are relatively more stable that most of the rest of the world, this has not happened yet.

But the buyers of our Treasuries who have solid, if not still-growing, economies and massive foreign cash reserves – especially huge net exporting nations like China, India and the oil producers (excluding Iran) in the Middle East – have currencies that can hold in tough times (to their detriment, since their export buyers cannot afford to keep up the same level of imports as currencies fall). China, a nation which exports 2/3 of its manufacturers, has a strong interest in keeping the U.S., a main buyer, solvent.

The Peoples Republic of China has purchased U.S. Treasuries in huge volumes (approximately $1 trillion to date out of an estimated $2 trillion in their dollar currency reserves), but with their own $586 billion stimulus package, their ability to “buy bonds” seems diminished, and they can see the obvious difference between the long term values of the U.S. dollar, likely to fall as deficit spending balloons, and their own growth economy (which is growing even in this financial collapse).

We first saw the Chinese concerns about our Treasuries last month when Secretary of State Hillary Clinton visited China as she met her counterpart from the Peoples Republic of China (Foreign Minister Yang Jiechi). She was less than subtle in expressing her hope that China continues supporting the U.S. national debt: “She thanked Mr. Yang for China’s ‘continuing confidence’ in the United States, as the largest foreign buyer of Treasury securities. He offered a noncommittal statement that China would decide where to invest its foreign-exchange reserves on the basis of safety, value and liquidity.” Feb 22^nd NY Times.

But that was last month. On March 13^th, in a press conference after the annual meeting of the Parliament, Chinese premier Wen Jiabao said: “President Obama and his new government have adopted a series of measures to deal with the financial crisis. We have expectations as to the effects of these measures. We have lent a huge amount of money to the U.S. Of course we are concerned about the safety of our assets. To be honest, I am definitely a little worried.”

Interesting statement, since everyone should be worried in this economy, but did that statement foretell more than a generalized concern? Was premiere really saying that as U.S. deficits loom, China is not likely to continue to buy Treasuries, even as he predicted an overall economic improvement in 2010? And if his concern is the value of the dollar, is there any real likelihood that China will begin dumping its dollar holdings into the international markets – even as this inflationary accelerant would reduce America’s ability to buy Chinese products?

The Obama administration, knowing that getting over $1 trillion of more than an estimated $2 trillion of “bad” assets off the books of our nations’ banks is critical for an overall economic recovery, faces the big question of where that money will come from. At her weekly news conference on March 12^th, House Speaker, Democrat Nancy Pelosi, confirmed that Congress is not interested in entertaining any more federal bailout packages any time soon: “"I don't think you ever close the door to being prepared for whatever eventuality may come… [but passing another near-term stimulus package is] just not right now something that's in the cards."

Maybe bailing banks out is not considered a “stimulus package,” but clearly, fixing that anomaly is absolutely necessary if we are to bottom out to set the stage for however slowly we begin to recover. Complications abound when everything, everywhere from everybody needs a fix.

I’m Peter Dekom, and I approve this message.