Phorgy Phynance

Economy at risk from ‘non-ally’ bondholders

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I’m halfway through

Financial Armageddon: Protecting Your Future from Four Impending Catastrophes

and will give a review when I’m done. So far, it is awesome. I’m also a big fan of Panzner’s Financial Armageddon blog. This morning, he points to a very interesting article in the Times Online.

Walker Understands the Golden Rule

Here is the article:

US financial watchdog says economy at risk from ‘non-ally’ bondholders
Suzy Jagger and Gary Duncan

America’s leading public finance watchdog has sounded a warning that the US economy is vulnerable to hostile financial actions by nations that are not its “allies”.

David Walker, the US comptroller general, indicated that the huge holdings of American government debt by countries such as China, Saudi Arabia and Libya could leave a powerful financial weapon in the hands of countries that may be hostile to US corporate and diplomatic interests.

Mr Walker told The Times that foreign investors have more control over the US economy than Americans, leaving the country in a state that was “financially imprudent”.

He said: “More and more of our debt is held by foreign countries – some of which are our allies and some are not.”

Mr Walker, who heads the Government agency that is responsible for auditing the national accounts and is also the arm of Congress that scrutinis-es spending by the Administration, said that the US has been forced to rely on foreign investors more because Americans are saving so little.

According to US Treasury Department statistics, Japan is the biggest foreign holder of US Treasury bonds, with almost $623 billion (£310 billion) of US government debt as of December last year. Mainland China is the second biggest investor, with about $397 billion, and oil exporters, which include Iran and Saudi Arabia, had $110 billion.

The UK, while the biggest foreign investor in US equities, is the fourth-biggest holder of US Treasuries.

While Mr Walker referred to Britain as “the best ally the US could hope for”, he told The Times that “anybody who looks at that list will see that some of the countries there are not traditional US allies. You will see that China, Korea and a number of Opec nations are there. Not all the countries on the list share the same economic, national and foreign polices as the US.”

The worry is that should any of these foreign nations choose to reduce their holdings significantly, it would trigger sharp falls in US government bond prices, driving up their yield, which would raise borrowing costs sharply for American consumers and companies. While most economists take the view that countries such as China are unlikely to reduce their US bond holdings because they would also suffer a fall in the value of their own investments, China could still be perceived as holding a powerful financial weapon.

Ian Shepherdson, an economist at High Frequency Economics, said: “The US has a symbiotic relationship with China. The US cannot afford for China to sell its US treasuries but, equally, China cannot afford to see the value [of its treasury bonds] slide. They are strategic enemies and are in a financially weird relationship. China’s holdings represent about a third of Chinese GDP.”

China has been buying US Treasury bonds faster than any other big country – it has increased its holdings sixfold in six years. Beijing has accumulated the bonds as a consquence of its extensive programme of intervention in the currency markets. To hold down the value of the yuan, China buys dollar assets and sells the yuan.

This month Mr Walker described the US as suffering from a “fiscal cancer’” because of the massive long-term healthcare liabilities that the nation faces. The financial burden caused by healthcare entitlements has increased from about $20 trillion to $50 trillion over the past six years, representing a $440,000 bill for every American household, he explained. He also added that in 2005 and 2006, Americans spent more money than they took home, the first such pattern since 1933.

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Written by Eric

July 24, 2007 at 8:28 am

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