From the first quarter, we had the Chinese and Russians expressing concern over the direction of the US fiscal position. This lead to the suggestion/advocation that a new world reserve currency be established. It also led to worries that China, Russia, and India would dump US Treasuries and US dollars.
In June, the Chinese actually did dump a total of $25.1 billion in Treasury holdings and saw their total US Treasury holdings fall to $776.4 billion. Both China and Japan shifted their mix of holding towards longer dated maturities as the US 10 year note rose to near 4%. This was when the US 2 year -US 10 year spread had reached a high of 276 pts. However, it was the net sales of securities by China that got everyone's attention.
Last fall, I was chairing the Marcus Evans CFO conference in Arizona. At that time, I got a chance to interview Steve Forbes on stage about his views on the economy and the financial crisis. Mr. Forbes expressed his strong views on the flat tax and cutting government spending. However, he also said something curious that I reported at the time, but didn't' really fully understand.
He said that the huge coming issuance of US government securities would be handled with very little problem. His reason? US citizens would increase their saving and increase their demand for bonds as they lost money in the housing and equity markets.
This has been the major, major shift in the structure of the US Treasury market that was unanticipated. From Q1, US households held $643.9 billion in Treasury debt and that is up from $256.6 billion in Q4 2008. Households bought an astounding 84% of new US Treasury issuances in Q1. The total holdings represent about 1% of US household assets.
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According to the WSJ, "Although that is the highest since 2001, Treasurys regularly made up 5% of assets in the 1950s, and as recently as 1995 they were 2.6% of assets. History suggests there is plenty of room for households to increase their holdings."
With the US current account shrinking, the US is less dependent on foreigners to fund its deficit as the trade red ink has slowed to below $10 a month ex oil. In the medium term, this is a strong positive for the US dollar as it means the United States is funding itself more domestically. The longer term issue is whether the United States continues down the fiscal path of becoming the Japanese where domestic savers fund a fiscal deficit that is above 180% of GDP.