Tim Duy: A Return to a Nasty External Dynamic?, by Tim Duy: At the moment, the economic dynamic is exceedingly complicated. An understatement, I fear. The crosscurrents in the data and the markets are treacherous, and I suspect will have……

A treat. Talking facts. Ps can we have more of this?

No reason to worry about the T yield curve: it finally shows what the real markets (not politically motivated CBs) are prepared to pay. And obviously the market tells us that there is a significant risk that present policy will bring forth future inflation. Pretty normal at last.

The USD interveners have no incentive to keep US interest rates down (by itself that observation merits clarification and further analysis though) perhaps they never had or in the past thwy were happy to play the yield curve along with doing their national duty. It may be worth our while to find out why the interveners bought linger term paper in the past, because it really does not make sense (assuming Twofish was right that there are a lot of people with US finance degrees now in policy making circles in Beijing)

Of course if the market starts to believe that USD FX is too low and bond yields are too high, we should (may) get either a reaction in the USD or in long term yields or both. For China that would make a difference: a higher USD is problem, lower USTP yields?higher bond prices are merely a missed opportunity. So, in fact, not buying bonds may mean contributing to a US rise when normal international investors start liking USD bonds, which usually is accompanied by an upward movement in the currency. Confusing?

Ended up one and a half handbags today.

You do a wonderful job tracking flow of funds between governments and the private sector all over the world. This flow is very complicated.

I am disturbed by one simplification you use. You say “First, the US trade deficit is about half as big as it was in 2008 – or early 2008. The amount the US needs to borrow from the world has gone way down.”

I object to the conclusion that the size of the trade deficit controls the amount the U.S. needs to borrow from the rest of the world. I think the amount the U.S. does borrow from the rest of the world is controlled solely by the amount of Treasury bills sold and the share of them purchased by U.S. citizens. I insist that the Net Worth in the U.S. is large enough to absorb all the Treasury bills. Thus the U.S. does not have to borrow anything from the rest of the world. The fact that foreigners purchase a large share of U.S. treasury bills is their choice. The fact that they have a large number of dollars with which to purchase Treasury bills is due to the U.S. trade deficit AND to swaps they make between their currency and U.S. dollars. The impact of this flow on interest paid for Treasury bills and the value of the U.S. dollar is a very important issue which you do a good job explaining. But the amount of Treasury bills sold depends upon U.S. needs, not the trade deficit.

The trade deficit does deposit dollars in the hands of foreigners. Those dollars are a claim on U.S. resources. But those dollars can be used to buy U.S. corporations, U.S. farm land, U.S. skyscrapers, U.S. private homes. etc. Once those dollars are transferred overseas, the U.S. loses control of what U.S. asset they will be exchanged for.

Perhaps I am nit-picking. The trade deficit provides foreigners with dollars which are a claim on U.S. assets. My only point is that those dollars do not have to be converted into Treasury bills. If they are used to purchase something else of value in the U.S., the obligation of the U.S. to exchange those dollars for U.S. assets is ended. If the U.S. did not run a fiscal deficit, no net new U.S. Treasury bills would need to be issued each year (we would still have to issue new debt to pay for old debt that matures).

Instead of saying that the amount the U.S. needs to borrow from the rest of the world, I would prefer the statement that “net payment to foreigners each year has gone way down”.

The U.S. pays for the trade deficit only once – when the U.S. purchaser of imports sends money back to the producer of the goods imported..

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c) Third, the rise in central bank reserves isn’t translating into a rise in demand for longer-term US bonds. Central banks are just buying short-term bills.
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The structural issue here is that the US, for various reasons (regulatory capture, neoliberalism in high places, etc.) is basically replacing busted private debt with public debt — trying to monetize the problem, instead of wiping out the debt altogether (Roubini has said this a thousand times better than I can).

Rising rates mean the BRICs, the EU, and core East Asia have decided they aren’t going to fall for this con game — the US will have to pay an “American premium” to hire foreign money. In short — more stagnation for the US.

There is a bizarre theory circulating in high Washington circles, expressed today by Sebastian Mallaby in the Post, that China is concerned that the huge dollar reserves it holds will lose value. The reason this is bizarre is that the dollar already plunged in value over the years 2002-2008 and China just kept buying more dollars.

The euro went from being worth just over 80 cents at the dollar peak in 2002 to over $1.60 at its trough early last year. Through this whole slide, China just kept buying up more dollars. Does anyone think that China’s leaders did not notice the plunge in the value of the dollar? This is not exactly secret information.

Obviously, China’s central bank was fully aware that the dollar was losing value but was willing to buy dollars anyhow in order to preserve its export market in the United States. That is the reason that it continues to buy dollars even though its leaders know that they will lose money on the deal. The economy can easily afford the loss, contrary to the bizarre calculations Mallaby uses in his column.

If it seems strange that elite Washington types can push economic views that are far removed from reality, remember, these people could not see an $8 trillion housing bubble.

http://www.prospect.org/csnc/blogs/beat_the_press_archive?month=05&year=2009&base_name=psssst_dont_tell_sebastian_mal

PS. Brad it would be interesting to have a look at the collateral damage to other trading relationships as a result of the currency manipulations.