Foreign Demand Diminishing for U.S. Treasuries

From the New York Times:

“All the key drivers of China’s Treasury purchases are disappearing — there’s a waning appetite for dollars and a waning appetite for Treasuries, and that complicates the outlook for interest rates,” said Ben Simpfendorfer, an economist in the Hong Kong office of the Royal Bank of Scotland.

I’ve talked extensively about the bubble in U.S. Treasuries in recent issues of Bourbon & Bayonets. The majority of the emphasis in my analysis was towards the massive amount of monetary inflation and the exponential growth of U.S. government liabilities. What I haven’t talked about is the other side of the story.

As Mr. Simpfendorfer notes, we are seeing demand from the biggest foreign players in the Treasury market diminish. Obviously these guys aren’t complete idiots and a lot of their decreased demand is from the above mentioned reasons. But why must it always be about us?

You see, that’s the problem. Both politicians and the citizens of the U.S.A actually believe the Chinese care what we say. That’s the equivalent of the bookie taking orders from the gambling addict that owes him $50,000. It’s ridiculous. At any time the Chinese can cut off its funding to the U.S. and poof, there are no more wars in Iraq and Afghanistan. Social security and Medicare cease to exist, and the dollar collapses overnight resulting in complete chaos.

A perfect and very interesting example of this is the continued jaw-boning by the U.S. to get the Chinese to let the Yuan float in order to increase its value therefore reducing our trade deficit. Even Geithner was speaking out on this topic, shaking his finger at the Chinese Like I mentioned, the Chinese don’t care, but the interesting thing is whether or not this notion would even work. There have been many occasions where a nation has let its currency float with the desire to strengthen it and reduce their trade surplus with the U.S. A large number of those cases have ended up having the exact opposite reaction with the domestic currency actually decreasing in value. Two clichés here: be careful what you with for and don’t bite the hand that feeds you.

I’ve gotten side tracked and will have to cover those details more extensively in a future issue of Bourbon & Bayonets. For now I must digress.

But the notion is the same. In the U.S. we tend to focus more than we should on what we’re doing and our side of the trade. It’s not a terrible thing, especially in recent months, but sometimes you miss a piece of the puzzle doing so.

Chinese Credit Cards: Drying Up

Let’s look at some Chinese macroeconomics. The Chinese economy is also in decline. We have seen GDP growth decline to approximately half of what it once was. Just like the U.S., economic declines have lead to reduced levels of domestic tax revenues. Given that the global economy will continue to decline, we can expect Chinese tax revenues to continue to decline, and we can also expect the Chinese domestic fiscal expenditures to increase in order to combat this (even the Chinese are Keynesians). Look for more along the lines of their $600 billion stimulus package. Less revenues and higher expenditures means less government surplus. That will result in less of a budget surplus, which means less money to spend on Treasuries.

You are obviously aware of the decline in consumer spending here in the U.S. That means people are buying a whole lot less things that say “Made in China.” This has a two pronged effect. The first is simply less business for China’s manufacturing sector. This contributes to the above mentioned scenario and will end up further reducing China’s budget surplus.

The second notion is very simply. Less spending here in the U.S. means less of a trade surplus for China. That’s exactly what we’re seeing as the trade gap between the U.S. and China is in decline. As the trade gap shrinks the amount of excess U.S. dollars that are funneled back into the Treasury market decreases. Expect this trend to not only continue, but to get more severe going forward.

The Chinese have their own issues. Not only is the U.S. driving bearish fundamentals into the Treasury market, but the Chinese simply don’t have as much excess money to spend on Treasuries any more and that pile of dollars is only going to decrease. That in itself is a bearish fundamental. The trade is stacked, and it’s just a matter of timing at this point.

Disclosure: no positions

Comments

[market ace:]

It is too bad that Obama and his tax dodging Secretary cannot see the hand writing on the wall for their don't tax, but spend like crazy policies. If their stim package does not create spending on Chinese goods it is doomed in the end. To be so worried about saving Wall Street's failed banks and ignore the problem of US debt is worse than the ridiculous gov't policies that got us into this mess. Their only hope is to severly devalue the US $, but that will kill main street so they will be giant losers in the end.

Jan 28 10:20 AM

[John Polomny:]

"Their only hope is to severly devalue the US $, but that will kill main street so they will be giant losers in the end."

Dollar devaluation is the end game. there is no way the debts of the US can be paid back. The only opton is to devalue the dollar and lower the burden of the debt. I am sure the statists in Washington are going to try and do it in a controlled manner so that foriegn creditors and the sheeple here do not notice but devalue they will. They have been doing it since the inception of the Fedreal Reserve.

Jan 28 11:42 AM

[Jason Rines...:]

Great point. That's of course part of the current deflation/huge inflation later debate.


On Jan 28 11:42 AM John Polomny wrote:

> "Their only hope is to severly devalue the US $, but that will kill
> main street so they will be giant losers in the end."
>
> Dollar devaluation is the end game. there is no way the debts of
> the US can be paid back. The only opton is to devalue the dollar
> and lower the burden of the debt. I am sure the statists in Washington
> are going to try and do it in a controlled manner so that foriegn
> creditors and the sheeple here do not notice but devalue they will.
> They have been doing it since the inception of the Fedreal Reserve.

Jan 28 01:37 PM

[notsosmart:]

would you buy u.s. paper in view of recent disclosures? phony AAA rated wortless paper.

Jan 29 11:28 AM

[Urbane Gori...:]

Good article... jegan

Jan 29 05:43 PM