Brad Setser

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Scary graph

by Brad Setser
November 27, 2007

I didn’t use the term “sudden stop” in my post on the September TIC data release lightly.   The attached graph — which comes straight from the TIC data — shows an extremely sharp fall in net purchases of US long-term financial assets over the last three months. 


The data here only covers long-term flows – it doesn’t pick up very short-term flows.    It also doesn’t pick up FDI flows.   That said, neither short-term flows nor FDI inflows have been a big source of financing for the US deficit over the past few years.   Most of the financing needed to sustain ongoing large external deficits has come from portfolio flows. 

Three other caveats apply:

  • The data here is a three month rolling sum.   A 12m rolling sum would show a significant fall, but not quite as dramatic a fall as in the higher frequency data.
  • The split between official and private flows in the TIC data is clearly off.  Official flows make up a larger share of the total than the TIC data indicates.  I state this with a high degree of confidence for two reasons;  first, the revisions to the BoP data have consistently increased official flows once the survey data comes out; and two, the TIC data clearly isn’t picking up a lot of flows from the middle east, Russia and China and we know that they all have a ton of cash and that it is in official hands. 
  • The last data point comes from September.  We are now in late November. 

Nonetheless, a range of market indicators — not the least the slide in the dollar v the euro since the end of September — do not suggest a strong pick-up in private demand.   

The counterpart to weak demand for US asset is record demand for European assets.    The euro’s ongoing rally suggests that this hasn’t changed. 

On the other hand, official demand likely has picked up – though it isn’t clear whether or not that will be reflected in the TIC data.   A lot of Asian countries resumed adding to their reserves in October, and both China and the oil exporters – which have yet to report October data – almost certainly added large sums to their official assets.

The inflows earlier in the summer were quite strong – the $300b net inflow in the three months ending in June was more than the US needed to support its roughly $200b quarterly current account deficit.   At the same time, it is hard to sustain a $200b current account deficit for long without any net long-term inflows …




  • Posted by Anonymous

    If everyone is shorting US banks and securities and the dollar, some sovereign funds will be buying very, very low. Then someone will say they had inside information, or that small investors were penalized.

  • Posted by Guest

    countries like china, whose own subprime is worse – and others who have an interest in supporting the ‘US’ economy

    “…Abu Dhabi, like other oil producers, has an interest in making sure the United States economy does not weaken…”

  • Posted by Guest

    not just the SWF’s

    and in the interests of transparency, if RGE can provide basic information about its’ principal investors/clients. RGE used to run a list of its’ clients on the home page of the site and somewhere along the line it stopped doing that… if those of us who have donated time and content can be provided with a bit more assistance in interpreting RGE’s spin, along with a clearer indication of what we’ve been contributing to.

  • Posted by Guest

    “…Other petrodollar investments are made through government-owned corporations, corporations and individuals like Prince Walid, who owns stakes not only in Citigroup but also News Corporation, Procter & Gamble, Hewlett-Packard, PepsiCo, Time Warner and Walt Disney…”

  • Posted by Nicolas

    TRILLIONS of debt, TRILLIONS spent, TRILLIONS unaccounted for, let alone TRILLIONS unreconciled and the printing press is still in motion. The structural problems of the U.S. dollar are well known. The Central Banks will support it to relieve the pain of their exports for the Christmas season but it will be only temporary blips upward. It remains to be seen what effect higher not lower interest rates will have on the currency. As a matter of fact normally the FED should raise interest rates with such inflationary pressures. But the dire circumstances do not allow it. So, hello STAGFLATION and RECESSION.

  • Posted by RealThink

    To London Banker: another differentiating factor for Britain is that the Conservative Party is officially Hubbert’s Peak-aware, and will probably tackle the issue as recommended by their advisory Policy Group in their “Blueprint for a green economy” report (which BTW was the result of over 18 months work with contributions from nearly 500 people!)

    (Sure enough, from British PO analysts it is known that the BNP has been fully aware of the issue for a long time.)

  • Posted by bsetser

    Guest — you know, I am now on the payroll of the CFR not RGE. I just blog here for legacy reasons; your questions are better directed to Dr. Roubini directly.

    I’ll take a look at H8.

    Anonymous — so has the time come to sell euro denominated bunds high and buy dollar-denominated subprime backed CDOS low? that certainly wasn’t the right trade looking back, but at some point it may be the right trade looking forward … I am curious when the smart money thinks that time may be approaching.

  • Posted by Anonymous

    hello STAGFLATION?

    hello PERPETUALLY higher new economy valuations and oil prices

    hello PERPETUALLY weaker dollar

  • Posted by Anonymous

    another differentiating factor

    You simply can’t compare a small territory with another one fifty or so times bigger. It’s like saying an ant is different from a horse. Come on.

    Watch out for the Chinese, Indian and Russian trucks about to ram certain economies if currencies don’t go down driving labor costs lower. They are heavy.

  • Posted by Anonymous

    I am curious when the smart money thinks that time may be approaching

    Maybe closer than most think. Take a look at a dollar chart. When the dollar was strong everyone thought it would go on forever. When the dollar is down we have the same kind of forever story. The euro is consolidated, so what is the big deal in it dropping ten or twenty percent now?

  • Posted by RebelEconomist

    US Worker on 2007-11-27 22:08:35

    As a Brit, I am with London Banker. Although I am scathing about US economic policy, it is not because I think Britain is in a better state (I am, if anything, more pessimistic than London Banker), but simply that the US economy is more globally significant than the UK economy and is therefore frequently the subject of these blogs. Apart from the US health service being scarily expensive, I would gladly live there myself. As I often say, the US has the advantage of being the most productive large nation, so it can afford to make sacrifices to sort itself out. But the US first needs to stop denying its true situation, and second, the people must agree on a solution.

  • Posted by Anonymous

    the US first needs to stop denying its true situation, and second, the people must agree on a solution

    It’s like saying you should blame a hostage or a rape victim. Oil prices have doubled this year. Let’s see what happens as they come back down, along with the euro. Excesses are part of it. If prices dive, that’ll be great for those buying very low.

  • Posted by Guest

    @ Anonymous

    Can you claim rape if you borrowed $9 trillion to get drunk, bought frilly negligees, a large screen TV to watch porn, and then climbed into bed with a sheikh? Maybe in America you can, because the next morning you don’t quite remember how you got there or exactly what you said or did – and you don’t want to know either. And maybe that’s the trouble.

    And maybe that’s why next time folks aren’t so keen to lend you money.

  • Posted by Anonymous

    Nine trillion to buy oil. Again excesses are part of the system, as the French Revolution demonstrated in many different ways.

  • Posted by Majorajam


    Thank you for your response. Point taken about the data collection issues. The second question was really just to point out that a shift in long term flows may not be meaningful to the extent there is an equal and opposite shift in short term flows, as these could be accounted for by tactical positioning (e.g. typically the short end will be more sensitive to any easing/tightening cycle in terms of the magnitude of the interest rate move, etc.).

    On the last bit, what I was really getting at was something you alluded to in your reply to Dr. Dan: whether the funds data was picking up a simple (if massive) blockage in the markets, or reflected a more general collapse in confidence in the US/global system. The latter would certainly parallel historical EM collapses while the former might not. I wasn’t aware that the data evidenced a halt in flows outside of securitized issues, as you indicate it does e.g. with corporate bonds. I had assumed that SIV’s books were almost exclusively made up of mortgage related issues. That was probably a bad assumption given that I don’t have any knowledge of their mandate, only the headlines and that they were basically positive carry vehicles, i.e. yield hungry (and that structured credit and private label mortgages were the preponderant source of yield in the market).

    Saying that, there is another and more significant constituency of players that could help account for the flows data outside of securitized instruments- the hedge funds. We haven’t heard much from these guys aside from the Bear funds that got the ball rolling, (and the stat arb/quant equity guys that are another story), in spite of the fact that they were the single largest subprime and CDO constituency, (and the most thinly capitalized at that). So I suppose but can’t in any way substantiate that the lack of bond flows from these huge players, i.e. the credit crunch itself, might account for a significant amount of what we’re seeing in the data.

    As you say though, in a fundamental sense, all that really matters is that the US fork over the type of obligation creditors want: if these aren’t agencies (which are implicitly immune to credit if not inflation risk), they could be (uninflatable) minority equity stakes, (e.g. ADIA’s recent buying spree), and if/when we get desperate enough, controlling equity interests, (to date allowing the most dollar rich constituency, e.g. China and the oil exporters, to build such stakes has been largely verboten). We may be less happy about selling off these assets than the exceedingly low real risk adjusted returning type we’ve been used to ever since the term ‘exorbitant privilege’ was coined, but it will be far more desirable than a ‘sudden stop’ of Latin American fame. I’ll keep my fingers crossed and monitor this space. Thanks again.

  • Posted by s

    I must agree with london banker that the US gov’t statistics are not reliable. We have Fed officials contradicting each other every day and then we get Greenspan’s hack come in and prescribe the same solution that got us here: presto markets up 300 pts! Almnost sureal. The interesting story about the FHLB doubling lending to Countrywide suggest to me that the govt is desperate to avoid a headline and will basically do anything possible – even those things skirting the unethical – to avert a bad headline (like banks fails). The Fed / Govt hasn’t figured out that most people paying attension to their comments lost faith a long time ago and those that are not listening think we have been in recession for a while. So I am not sure why the walk on eggshells mentality? People are breaking pegs and the Chinese are talking about thier reserves. I revert back to something I wrote a while ago which is that the for all London Banker talk about stupid US, the US consumer is at least watching a TV while the Chinese and the soverigns who own the debt appear to have gotten the short end of the trade. I submit that the dollar hegemey trade is probably over, but this will not come as a shcok to the politicos/bankers. it was inevitable. Syndicating US consumption to the E/M was a cycnical strategy employed to sell the globalization is good theme circa NAFTA. If one is cyncical to believe that this was indeed a strategy – I just can’t get there considering this is gov’t after-all – what is the intended next leg? If the wolrd moves off dollar, seems some asset based regime is the only viable alternative? Sadly, looks like the US has exhausted its options with respect to the free lunch. As an aside, isn;t it curious that the Fed (THE FED) comes out and makes a sell side research like statement that next year headline will moderate because the comps will be easier? great so it doesn;t matter that it is now three timre as expensive, than it was, as long as the % change is flattish? These guys are seriously pathetic. Just watch Bernanke has he testifies on cap hill: you can see the resignatiojn in his face. Bush and co (and his predecessors) have made a mockery of public trust, only this time the world doesn;t have to take it

  • Posted by bsetser

    Majorajam, you wrote:

    “whether the funds data was picking up a simple (if massive) blockage in the markets, or reflected a more general collapse in confidence in the US/global system. The latter would certainly parallel historical EM collapses while the former might not.”

    I think that is right.

    Indeed, i would expect that the oct/ nov data will show a pick up in total long-term flows but with some tell tale signs (which may not be overt) suggesting that the pick in demand came from the official sector, and it the demand was for the the low yielding stuff, not the stuff that offers positive carry. there was a blockage in the markets in aug/ sept. that blockage meant that global reserve growth slowed dramatically (look at russia). there also was — i suspect — a more generalized collapse in confidence in us securitization.

    over the next few months we will start to get data on what happened to flows once some of the most acute blockages ended. I am quite interested in the result. for now all we really have is the price action in various markets.

    my baseline assumption is that the us will be very reliant on asian central bank and petro$ flows in q4. very reliant. and the only real question is how these flows show up in the data.

    one of the great puzzles of the current system is that the us has largely been able to control what it sells to finance its deficit. Chinese purchases of low-yielding us fixed income assets picked up post CNOOC. most of the dollar peggers were far more intent on maintaining their dollar peg than anything else and consequently didn’t stop buying us assets when the us said some assets are not for sale.

    one of my most politically incorrect (in a global sense) opinion is that the us still has a bit of leeway to do this — i.e. china cares more about the dollar peg than the type of assets that it has to buy to support the dollar peg.

    but there are signs that the united states creditors are less happy than they used to be with this system. i just don’t yet know how seriously to take the signals. when china tells europe that the weak rmb is our currency but your problem and we will decide on our own the right pace of appreciation v the dollar and that might well mean further depreciation v the euro, they seem to effectively be saying that they are quite willing to buy what the US wants to sell if that is what it takes to keep the game going.

    at least that is how it seems to me.

    other opinions are always welcome

  • Posted by macro fan

    Perhaps this “scary graph” is actually the flip side of fear?

    Rather than the usual foreign demand having come to a sudden stop, is it not possible that the precipitous decline is simply a reflection of new demand supplanting the usual suspects?

    The decline corresponds to the credit crunch, which has lent a certain appeal to debt that stands a good chance of not defaulting in the next few years. Presumably the greatest marginal benefit of owning US debt at this time is not to foreign central banks (they are already well equipped!). Surely the falling yield curve is evidence of increasing demand for US debt, rather than revulsion to it.

  • Posted by s

    Interesting comment on the fed primning the system and reflating bank bbalance sheets. Apparently gov debt doesn;t count toward bank capital ratios? Maybe someone could elaborate on this. see minyanville article socialism for wall street

    If true then the banks could essentially make up for the demand shortfall while rebuilding thier balance sheets. Makes perfect sense…

  • Posted by s

    “Lower short-term interest rates allow banks to borrow cheaply. The money can be used to purchase government bonds that provide higher returns than the cost of borrowing. This generates profits for the bank without the banks having to hold capital against their assets (banks generally are not required to hold capital against government securities). The profits help re-capitalize the bank. An added benefit is that the U.S. government can fund its deficit by selling its debt to the banks. This would be handy if foreign demand for U.S. Treasuries decreases in response to the weaker dollar. The Bank of Japan used the same strategy to re-capitalize the loss, making Japanese banks after the collapse of the “bubble economy” in 1989. ”

    This article is being brought to you by Minyan Satyajit Das, a risk consultant and author of Traders, Guns & Money: Knowns and Unknowns in the Dazzling World of Derivatives (2006, FT-Prentice Hall) as well as the author of The Super Conduit Proposal.

  • Posted by Majorajam

    I can’t say I have the expertise to offer any opinion, but see nothing that doesn’t look sensible with what you’ve outlined, and the evidence.

    I’ll also be interested in your opinion of how deep that sentiment goes. For example, at what level of local inflation will these benefactors need more enticement than wretched assets, (the real return on USD debt held by foreigners post Bretton Woods has been ~.3%!!), to maintain their dollar peg? Will China view heady fixed capital investment and export growth as a source of stability if it means headline inflation at 20 some odd percent and presiding over a ballooning percentage of national wealth fetching negative real returns?

    Obviously you can toss around hypotheticals to beg a question, but 20% inflation in China doesn’t feel far fetched. Inflationary forces are clearly picking up a head of steam there (as it is the gulf and, to a lesser extent, globally), while central banks seem poised to act against the building disinflationary forces of the credit crunch, (the Fed aggressively, the Brits eventually, the Europeans reluctantly, and the Japanese through unsterilized intervention if the ¥ continues to go against them). Which doesn’t sound good. Depending on your answer above, and knowing how much asset markets appreciate a good bout of rapidly rising inflation, (and the only way central banks can deal with them), this could be the brick wall waiting for us around the corner.

    Exciting times though- even if, for my wallet’s sake, I’ll have to continue hoping that I’m wrong.

  • Posted by s

    Well said…

    Part of the answer to the China question is this growing investment in real assets, though the reserve accumulation in the $20+ billion/month range makes such “asset” buys a drop in the bucket! Or perhaps there is no alternative, which bolsters Goldman’s long dollar call.

    As an aside, the SOVs rescue of US banks could continue. it is interesting that in many circles the US mideast summit is being branded a meeting of the moderates: kind of anti-iranian axis building. This is kind of a strech, but the Iraq venture has shifted the balance of power and the Saudi’s etc would appear to need the US more than ever. Lift that umbrella and who knows? Bodes well for further investment should we need it.

    Who knows how the system recalibrates itself: as brad says, maybe it will not?

  • Posted by RebelEconomist

    s on 2007-11-29 09:34:42:

    I doubt that this scheme would help in the US, unless it has a Japan style bust that hugely raises the demand for base money. It works as follows:

    (1) the central bank buys debt (typically repo issued by a bank) for base money, to the point that the yield on repo falls below that on government bonds.
    (2) the bank which has borrowed this base money from the central bank uses it to buy the (now) higher yielding government bonds to capture positive carry
    (3) the seller of the government bonds is left holding the base money

    Unless the seller of the government bonds really, really wants base money, which is only likely in a slump, they will go out and spend the base money, and generate inflation. Moreover, since bank repo is unlikely to yield less than government debt, step 2 will probably require a maturity mismatch, which will present its own problems.

    I would be wary about drawing conclusions from Japan’s experience until its economy finally normalises, other than the fact that the solutions tried there are certainly not quick ones!

    My advice to the US would be to accept a slump deep enough to find the floor for asset prices, and then relax policy aggressively. Ultimately there is no free lunch; the mess has to be cleaned up. If the people who made the mess are not obliged to pay as much of the cost as possible, they, and quite possibly the previously prudent too, will simply make another mess, and the US will take another step on the road to Argentina.

  • Posted by Guest

    Written by s on 2007-11-29 09:34:42
    Written by RebelEconomist on 2007-11-30 04:57:54

    The Das article is mostly crap. The credit contraction is deflationary. The Fed will cut rates hard to temper the deflationary impact. There will be a ‘cleansing’ of the credit system, which is much needed, but without net inflation impact. The bank ‘carry’ trade on bonds is a factor in the resulting environment, but a much-overestimated factor, and it is only temporary. The Fed’s easing program will be followed by a subsequent tightening cycle.

    Gold is a joke. It won’t be a reliable inflation indicator this time around. Look to the bond market for a much more solid indicator of inflation premiums.

    The Fed will ease by 50 bp in December. They will cut subsequently as much as required to avoid a deflationary bust. The cycle will restart, US financial assets will become increasingly attractive, and the dollar will find a bottom and actually start to strengthen once this is more evident.

  • Posted by RebelEconomist

    Guest on 2007-11-30 07:03:57:

    If the Fed rate cuts are successful in rescuing assets at the expense of higher inflation now or afterwards, they will simply start another cycle, with an even bigger mess when the next downturn comes. The UK tried this in the 1960s and 70s, and ended up going cap in hand to the IMF, before Mrs Thatcher’s austerity and North Sea oil rescued us. Don’t go there!

  • Posted by Anonymous

    Warning Signs?

    Subprime read “deadbeat”

    Major Corporate leaders ousted
    Major leaders retire
    Heightened insider stock sales
    Little M&A activity
    Little IPO activity, many withdrawn
    Free fall in Equities stopped by unknown, unseen forces
    High Libor Spreads
    Dollar Devaluation
    Huge Drop in ABX index
    Govt. Intervention in free market contracts
    Large swath purchasing by foreigners of hard assets
    Tremendous volatility in markets
    Fed cuts despite high inflation
    Rush to quality and safe havens
    Inverted yield curve
    Credit Market Lock-up
    Desperate asset sales or stock issues to obtain cash or capital
    Loss of confidence
    Huge rise in price of commodities
    Consumer & Governmental Debt in multiples over GDP
    Runs on Banks and Fund managers
    Lack of any meaningful coverage of distresses on major networks
    Artificial Rallies in seriously diseased business sectors
    Expensive overseas wars without exit strategy
    Massive deficits without accountability
    Political Intrigue

    It all adds up, don’t let them deceive you that these aren’t real. There can’t be anymore kicking the can down the road. It’s time, there has never been a more perfect storm of correlating evils, take your own precautions.