Two Scorpions in a Bottle?

[admin]

As of the end of Sep. '06, the Japanese hold $639B in U.S. Treasury securities and the Chinese hold $342B.

http://www.treas.gov/tic/mfh.txt

If either or both lose confidence that they'll get their investment back in sound dollars, won't both liquidate ASAP?

The Chinese are under pressure to hold onto dollars as long as possible:  the Communist government does not need the labor unrest from newly unemployed folks who can no longer export goods to the U.S.  Thus, the Chinese will hold onto dollars as long as possible, keeping Chinese goods cheap.

The Japanese do not have that constraint.  While the Japanese value the U.S. as an export destination, they also have an aging population and have no desire to write-off $600B of savings.  That's why they're slowly liquidating their U.S. Treasury holdings.  However, if they sense that the value of their investments are going south in value more quickly, they'll liquidate sooner.

The Chinese will be watching the Japanese.  While the Chinese want a market for their exports, given their relatively small economy, can they really afford to see their $300B go south in value?  If not, they'll liquidate as soon as the Japanese do.

So, this could 'resolve' itself quickly, in my opinion, led by the Japanese with quick following by the Chinese, while both can get value while they can.

[CAwireman]

JG,

Again, it was great to shake hands with you at the meet up and talk to the contributor of all those great graphs and analysis.

So, if the either China/Japan or both begin liquidating, what does that look like? How do they liquidate? They sell the loans (correct?) and if so, who buys them?

Or, if I’m way off the mark, what’s likely to take place if either of both try to get the heck out of Dodge?

Hope the holidays were good to you and your family.

[CAwireman]

By the way, looks like the UK has already began to divest.
They’ve dropped from $207b to $95b in 12 months.

China has dropped about $30b while Japan has grown about $30b, during the same time frame.

“A billion here, a billion there pretty soon you’re talking about some real money”.

[Anonymous]

Great to meet you and your wife, cwm.  Thanks for the kind words.

I don't know what is going to happen, cwm. The Chinese/Japanese/Brits could liquidate simply by NOT 'rolling over' the proceeds from maturing Treasury investments. Then, the U.S. government would issue them dollars, which the C/J/B would attempt to exchange for RMN/yen/pounds, putting dollars into circulation and driving the exchange value of the dollar down. That makes imports more expensive (inflation) and the larger number of dollars in circulation also makes domestically-produced items more expensive (inflation).

Alternatively, the C/J/B could sell their Treasuries on the open market. Likely buyers would be Americans; otherwise, the purchasers would be subject to continued depreciation of their dollar-denominated investment:

http://research.stlouisfed.org/fred2/series/DEXNOUS?&cid=15

http://research.stlouisfed.org/fred2/series/DEXSIUS?&cid=15

http://research.stlouisfed.org/fred2/series/DTWEXB/105

These are risks, only, and are not iron-clad guarantees.  But, if a panic happens, things will get very ugly, very quickly.  Sudden liquidation by the C/J/B could mean a near doubling of dollar-denominated prices, overnight (M1 goes from $1.4T to $1.4T + $1.2T= $2.6T).  And, if the C/J/B start getting out, why wouldn't the remaining foreign holders get out, too?

Note:  on the foreign holders table, the dates increase from right to left; the Japanese have sold ~$34B over the last 12 mos., the Chinese have purchased ~$36B, and the Brits (really, sheikhs buying through their British banks) have bought ~$112B.

[powayseller]

The FCBs have a real dilemna. If they sell their Treasuries, or stop buying them, the value of their foreign exchange reserves plummets, plus they lose their main customer (the US). That is a risk they cannot take. It seems they are starting to diversify, ie move some of their newer dollar holdings into commodities and other currencies, or at least signalling that intent.

[Anonymous]

I agree with your statement, ps. The real question in my mind is, do the FCBs believe that they are going to lose their main customer (U.S.) anyway (given the slow down in personal consumption spending), so why not protect their foreign reserves?

[powayseller]

I’ve read that China is trying to spur domestic consumption and find other customers. I’m sure they are aware of our upcoming recession. THe 2000-2001 recession caused downturns in stock markets globally, as well as in commodities. China is preparing as best they can, I believe.

“In 2001, the imports into the U.S. fell by $79bil, or 6.3%…the U.S. current account deficit fell by only 4.1%..That reduction in U.S. demand for foreign products had a profound impact on the rest of the world. world merchandise exports shrank by 4% in value in 2001, the largest annual decrease since 1982. …

.. economic growth rates in 2001 slowed greatly in every region of the world except Africa. The slowdown in growth ranged from 24% in the transition countries to 91% in the newly industrialized Asian economies. Exports contracted in 11 out of their 16 largest economies and in all of the export-oriented Asian economies…..

Global commodity prices fell for almost 2/3 of the commodities in Table 9.7, with more than 1/3 suffering double digit declines…The stock markets were a disaster zone.”

Table 9.7 is World Bank data on commodity prices in 2000 and 2001. It shows timber -16%, rubber -13%, copper -13%, gold -3%, nickel -31%, silver -12%, zinc -21%, coconut oil -29%, crude brent oil -13.6%…only the price of grains and other food increased.
– The Dollar Crisis, Richard Duncan, p. 184 -187

So I think the Chinese know they will be hard hit this time,but how can they best prepare? Their politicians and bankers are extremely educated and have long term vision, so I trust they will make the best decision for their country.

[qcomer]

“Then, the U.S. government would issue them dollars, which the C/J/B would attempt to exchange for RMN/yen/pounds”

JG, only FED has authority to print or issue dollars, not the US govt. The FED buys US treasuries and pays for those paper receipts or treasuries by dollars it has in its stash or that it has printed. This is how dollars are added to the system and the concept of “inflating” the economy with more money comes from this. When FED liquidates these bond receipts, it returns the paper receipts and asks US govt to return the dollars it had borrowed from FED. US govt does so by raising taxes, cutting spending, etc and hence takes money out of the system and thus the concept of deflation. The last method is rarely used as FED instead uses borrowing rates to control monetary policy.

[North County Jim]

Their politicians and bankers are extremely educated and have long term vision, so I trust they will make the best decision for their country.

Yes, those extremely educated, visionary Chinese leaders. They’ll do the right thing.

[powayseller]

I hope it’s okay if I point out that Fed is not capitalized. Fed is short for Federal Reserve, so it’s not an acronym.

So the money supply is inflated when the Fed prints money and instructs the Treasury to auction more Treasuries? They must be working hand in hand. M3 is increasing 10% annually, so they are using money creation to control monetary policy. Yet, that part is not publicized or questioned at the Congressional hearings… the Senators barraged Bernanke with questions about interest rates but not a single one asked him about the other tool he uses to manage the monetary policy: money creation. No wonder we are all in the dark. “They” don’t want us to know.

Is there a list of how many Treasuries are bought by the Fed?

Why does Mish say we have deflation; deflation is a contraction of the money supply, yet M3 is growing.

[Nancy_s soothsayer]

Maybe because Mish thinks the one-trillion-dollars-and more ARMS holders are going to file bankruptcy. Poof – there goes that huge wealth destruction and evaporation of delusional “equity” contained in those so-called “investments” by FB’s. Soon after, banks won’t lend anymore. Credit contraction equals liquidity trapped. That equivalent dollar amount destroyed is bigger than FCB holdings that would be liquidated. Result, deflation. Great Depression, part 2.

Even if Fed Funds Rate equals zero (ZIRP like in Japan), banks won’t borrow money from the Fed because banks won’t turn around and lend the money to multitudes of Americans foreclosed with destroyed FICO scores. Catch-22 like.

Maybe Bernanke and his tag-team Treasury partner (Mr. Paulson?) are going to China to convince the Chinese to start buying “houses” instead of “treasuries”. Remember the Japanese buying Pebble Beach and other over-inflated real estate during the heyday of Japan bubble? We will have Chinese landlords if they listen to them. All the available vacant houses unloaded by flippers will be one-by-one bought out by Chinese citizens as new investment fad so that house prices will be propped up and retain their inflated values forever. Proceeds from house sales to the Chinese would in turn be used by Americans to go to Walmart again to buy Chinese-made whitie-tighties. Problems solved. No bubble crashing. Now, that’s a crazy idea.

Sorry, I’m just rambling here. Ignore if you must.

[powayseller]

My brother has said for years that China will one day own all our deeds of trust. Maybe they will… Will China want to own residential real estate? Isn’t commercial/industrial RE more desireable? Even better are big companies, toll roads, mineral rich land in Africa, Australia, Canada, the Middle East.

[Author]

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