In my opinion, the US Government needs to throw an additional US$2 trillion into its Financial System to resolve the current problems faced by its Financial Institutions. Even then, the resolution is dependent upon effective and efficient usage of the funds. It should be noted that this will be money lost by US Taxpayers because it is money thrown in to support Failing Banks and other financial institutions (insurance, etc.), which have already lost the money.
Can the US Government afford to throw another US$2 trillion at the Financial System on top of US$2 trillion in Economic Stimulus over the next two years, i.e. an additional US$ 4 trillion without any repercussions of a US Dollar Devaluation Crisis?
In my opinion, this is not possible. At the very least, the US Government will have to raise its Federal Reserve Interest Rate to a much, much higher level, if it intends to raise this amount of money.
It has been said that less than a week ago, the Federal Reserve raised US$10 billion (only 10 billion), at 2.47% p.a. interest rate, and the Treasury Note was oversubscribed by only 2 times. If this is true, then, there is no way for the US Government to raise US$ 1 trillion , much less, another US$ 4 trillion, without raising Federal Reserve (FOMC) Interest Rates to at least 4% or 5%.
It has been said that less than a week ago, the Federal Reserve raised US$10 billion (only 10 billion), at 2.47% p.a. interest rate, and the Treasury Note was oversubscribed by only 2 times. If this is true, then, there is no way for the US Government to raise US$ 1 trillion , much less, another US$ 4 trillion, without raising Federal Reserve (FOMC) Interest Rates to at least 4% or 5%.
As a reference, FOMC Rate was at 8% to 10% p.a. in the Depression / Great Recession of the 1970s.
In normal circumstances, Economic Recession will bottom out around the time Fed Interest Rate bottoms. This is Greenspanomics, i.e. the management of economy through interest rates, and it has worked for 20 years, under normal circumstances, where the Government has full control over Interet Rates, in a normal economic recession.
However, in a Severe Balance Sheet Recession, i.e. one where the Financial System is severely challenged, as is the case here, I cannot think of a situation where the US Government have been able to overcome the challenges of the free market forces successfully, and bring the economy back to live within a short period of 3 years.
It should be noted that when a country like Malaysia or Thailand experience a Severe Balance Sheet Recession as in the previous Asian Economic Crisis, they had a shoulder to rely on, i.e. Big Brother USA to buy their goods exported. However, when America catches a cold, everyone falls sick with it, and there is no shoulder for America to rely on. This is a significant difference between the economic management of the USA and the rest of the world.
It should be noted that when a country like Malaysia or Thailand experience a Severe Balance Sheet Recession as in the previous Asian Economic Crisis, they had a shoulder to rely on, i.e. Big Brother USA to buy their goods exported. However, when America catches a cold, everyone falls sick with it, and there is no shoulder for America to rely on. This is a significant difference between the economic management of the USA and the rest of the world.
In simple layman terms, think about this. If the world is so short of money, and yes, the world is really, very short of money right now, as bank lending has frozen for a year now, and doesn't look like it will return to the good old days any time soon, how can interest rates remain low? After all, interest rate is the price of money, and supply is low, while demand is high.
Answer? Governments can print money, thus, increasing the supply of money, even in excess of demand. However, this assumes that the printing of money will not affect the currency value.
In the case of USA, this assumption is false in the longer term. Why? Because currently, the US is still experiencing a trade deficit of US$34 billion a month, or US$400 billion a year. This means that the US Government needs the World Investors to buy US Dollars if it is going to continue to fund its Deficits, not only the Trade Deficit, but also the US Government Budget Deficit.
In the case of USA, this assumption is false in the longer term. Why? Because currently, the US is still experiencing a trade deficit of US$34 billion a month, or US$400 billion a year. This means that the US Government needs the World Investors to buy US Dollars if it is going to continue to fund its Deficits, not only the Trade Deficit, but also the US Government Budget Deficit.
Any Government Spending to stimulate the economy will translate into more imports because America has lost its Industrial Might. Manufacturing Sector constitutes less than 16% of US GDP today. This is the major difference between US of the Great Depression Era of 1929, and the US of Today 2009, i.e. 80 years later.
Today, the US has to buy most of what it consumes from the world, whilst in the 1930s, the US was selling to the World. US Government Spending will stimulate World Economy, possibly Japan and China, but at a very high price to US taxpayers. The US GDP Statistics will look good, but it will not create much jobs for Americans, for the money spent.
In order to sustain its Trade & Government Deficits, the US Government will have to borrow money from Non Americans, namely China and Japan, possibly to the tune of US$1 trillion, in addition to rolling over its existing Government Debt of US$14 trillion today.
Debt Rolling over means that when a debt is due for payment, new debt in the form of Treasury Bonds can be issued to pay for the debts that is maturing.
I am not questioning so much on the demand for US Government Bonds, but rather, the Interest Rate that will make it attractive for Non Americans to invest in such bonds. At 2.47% p.a., I believe that China can do better with its Foreign Reserves than to invest in US Government Bonds.
For example, China has loaned Russia about US$25 billion to build an Oil Supply Channel to China. This is strategic to China in securing its Oil Supply needs for the next 10 years. Also, China has invested another US$15 billion in Australian Mines, and US$10 billion in Brazillian Mines, to secure its strategic natural resources it will need in the next 10 years, as it builds its infrastructure and grows its economy.
So, why should China buy US Government Bonds at 2.47%p.a.? In addition, if I were the Governor of the People's Central Bank of China (PBOC), I would want to diversify the risks of holding the entire wealth of China in the form of US Government Bonds. Should there be a significant devaluation of US$, then, China's wealth will be diluted. In this case, wouldn't it be wiser to spread the investments around, in the form of British Pounds & Assets in UK, and Europe? Or continue with its policy for the last 5 years of investing heavily in Australian resources? China will need a lot of coal, uranium, steel, aluminium, even Gold from Australia, as it industrializes further.
Today, the US has to buy most of what it consumes from the world, whilst in the 1930s, the US was selling to the World. US Government Spending will stimulate World Economy, possibly Japan and China, but at a very high price to US taxpayers. The US GDP Statistics will look good, but it will not create much jobs for Americans, for the money spent.
In order to sustain its Trade & Government Deficits, the US Government will have to borrow money from Non Americans, namely China and Japan, possibly to the tune of US$1 trillion, in addition to rolling over its existing Government Debt of US$14 trillion today.
Debt Rolling over means that when a debt is due for payment, new debt in the form of Treasury Bonds can be issued to pay for the debts that is maturing.
I am not questioning so much on the demand for US Government Bonds, but rather, the Interest Rate that will make it attractive for Non Americans to invest in such bonds. At 2.47% p.a., I believe that China can do better with its Foreign Reserves than to invest in US Government Bonds.
For example, China has loaned Russia about US$25 billion to build an Oil Supply Channel to China. This is strategic to China in securing its Oil Supply needs for the next 10 years. Also, China has invested another US$15 billion in Australian Mines, and US$10 billion in Brazillian Mines, to secure its strategic natural resources it will need in the next 10 years, as it builds its infrastructure and grows its economy.
So, why should China buy US Government Bonds at 2.47%p.a.? In addition, if I were the Governor of the People's Central Bank of China (PBOC), I would want to diversify the risks of holding the entire wealth of China in the form of US Government Bonds. Should there be a significant devaluation of US$, then, China's wealth will be diluted. In this case, wouldn't it be wiser to spread the investments around, in the form of British Pounds & Assets in UK, and Europe? Or continue with its policy for the last 5 years of investing heavily in Australian resources? China will need a lot of coal, uranium, steel, aluminium, even Gold from Australia, as it industrializes further.
In my opinion, the US Government Bonds (Treasury Securities) is the latest bubble that has been created by the Federal Reserve, having brought its FOMC Interest Rate down to 0.25%.
Best wishes,
Ooi
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