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Too much hoopla over foreigners' holdings of US debt



The news of "a record drop in foreign holdings of U.S. Treasury bills in December" is not necessarily as bad as people are trying to make it.

China can't necessarily harm the U.S. economy by dumping a ton of its holdings of US Treasuries. If China continues to generate a trade surplus with us, but decides to a) sell some of its Treasury holdings and b) devote more of its dollar surplus to the purchase of debt from other countries, this does not guarantee at all that the U.S. economy will suffer. The most likely outcome of such actions would be to increase China's purchases of U.S. goods and services.

This is the key thing to remember: when country A sells more stuff to us than we purchase from them, then it ends up with dollars that can only be spent, ultimately, on something here in the U.S. The dollars that we spend on foreign imports never really leave the U.S. banking system, they simply change hands. Dollars are always spent here. A country that has a trade surplus with us must spend its dollars on a) our bonds, b) our stocks, c) our real estate, or d) deposit those dollars in a US bank account. Dollars that figuratively travel overseas to buy foreign goods are always recycled back to the U.S. economy in some form or other.

If the rest of the world decides tomorrow that they are all fed up with financing our profligate spending ways, then there is really only one thing that will obviously have to happen: if all the countries that have trade surpluses with us decide to stop buying Treasuries, then they will have to spend the dollars they earn from selling things to the U.S. on something else here in the U.S., or deposit those dollars in a bank account here. A big decline in Treasury purchases on the part of the rest of the world would most likely mean, therefore, a big increase in U.S. exports of goods and services. Higher interest rates on our bonds would coincide with a big increase in our exports. Is that a bad thing? I don't know, because the answer is not obvious to me. (Though I still think that higher interest rates would be a good thing, because they would signal a stronger economy.)

There are other considerations as well. It's not obviously in China's interest to dump tens or hundreds of billions of Treasuires, because that might depress the dollar and thus destroy the value of the trillions of U.S. assets it already holds. China is really between a rock and a hard place on this issue.

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