Friday, February 27, 2009
Total ‘marketable” Treasury issuance - if the marketable Treasuries that the Fed sold to finance its lender of last resort activities are counted as increase in the outstanding stock of marketable Treasuries — topped $1.6 trillion in 2008.
That implies, if the Pandey/Setser estimates for official purchases are right, that private investors snapped up more Treasuries than the world’s central banks. Central bank demand accounted for a far smaller share of total issuance than in the past few years. In 2007, for example, central bank purchases easily exceeded total issuance. The big increase in demand for Treasuries in 2008 came from private investors in the US. ...
Moreover, with global reserve growth slowing — total reserve growth was close to zero in q4, and it may not be all that much higher in q1 — central bank demand for Treasuries is likely to fall. Central bank purchases in the last part of 2008 were inflated by a shift out of Agencies, but that (presumably) won’t continue forever.
That implies, I think, that the ability of the US to finance large deficits at low rates depends far more than it has in the past on private investors willingness to buy Treasuries. That was in doubt a few weeks ago when the markets were focused on the risk of a Treasury bubble and the scale of the Treasury issuance associated with the stimulus and various bailouts. Now the market is more focused on the risks tied to a strong global downturn — and the remaining risks in the financial sector …
setser is here acknowledging that foreign central bank currency-management demand is drying up and will not likely be seen again very soon for so long as global trade is depressed. other countries are seeing trade surpluses collapse; we are seeing our trade deficit narrow. this means essentially counting on domestic demand for treasuries to avoid the federal reserve bank having to monetize treasury debt issuance. some straightforward but critical concepts:
A world with $1750 billion US fiscal deficit and a $500 billion US current account deficit only works if Americans are willing to buy an awful lot of Treasuries. The borrowing need of the US government is now far too big to be covered by the (much reduced) growth in the emerging world’s reserves. ...
The overarching assumption behind the stimulus is that a rise in US household savings (linked to the fall in US household wealth) will create a pool of domestic savings that will flow, given the ongoing contraction in private investment, into the Treasury market. The rise in private savings and fall in private investment will allow the US government to borrow more even as the US economy as whole borrows less from the rest of the world. The key to the Treasuries rally in 2008 was the surge in private demand, not the strengthening of official demand. My guess is that the Treasury market will be driven by developments in the US – not developments in China – in 2009.
... the math [of stimulus] only works if private investors snap up $1250 billion of Treasuries, or a little more than they bought in 2008.
and therein the difficulty. yesterday i linked to a financial times post commenting on the results of the analysis of bank of new york mellon.
... the US has no choice but to become increasingly dependent on the printing presses as debt financing from traditional dollar surplus-holding countries will fallback alongside the slowdown in the growth of their reserves. This becomes increasingly likely as domestic spending programmes take priority. Without the inflows, overdependence on quantitative easing runs the risk of tipping the economy from a deflationary to an inflationary environment very quickly.
This becomes all the more likely because the alternatives to QE are so few. BNYM highlights that according to the IMF, even if US savings rose to 8 per cent of GDP, that would only raise $830bn by 2010 - a fraction of the spending needs.
here the FT ignores another potential source of funding -- capital can be vomited out of other american capital markets, such as stocks, corporate debt, commercial paper and the rest. in other words, the treasury effect -- a crowding out of private investment. john mauldin discusses the concept with tech ticker. i don't agree with mauldin's conception of stimulus as "bogus" nor do i think tax cuts have much stimulative utility; but i do definitely agree that government, as it attempts to leverage itself to fill at least some of the widening output gap, will be soaking up capital from the private sector -- and not all of it will have been idle, the employment of which is after all the idea behind forced spending. the government is going to be creating opportunity for more and more private capital to flee the capital markets and stay under the government safety umbrella, where much of it will want to stay for the foreseeable future. in that way, these massive debt offerings constitute competition for private sector borrowers -- some of whom, particularly high-grade corporates, are themselves beneficiaries of flights to safety -- and will abet and further the private sector deleveraging they are meant to offset.
in any case, i suspect a combination of monetization and further fits of capital markets liquidation will combine to feed the treasury monster over the next couple of years. the hope, of course, has to be that the fed isn't further faced at some future point with monetizing already-outstanding foreign holdings in an international run on treasuries.