Foreigners cut Treasury stakes; rates could rise

Posted: February 17th, 2010 by Militant Libertarian

by Martin Crutsinger and Bernard Condon, AP

WASHINGTON (AP) — A record drop in foreign holdings of U.S. Treasury bills in December sent a reminder that the government might have to pay higher interest rates on its debt to continue to attract investors.

China reduced its stake and lost the position it’s held for more than a year as the largest foreign holder of Treasury debt. Japan retook the top spot as it boosted its Treasury holdings.

The Treasury Department said foreign holdings of U.S. Treasury bills fell by a record $53 billion in December. That topped the previous record drop of $44.5 billion in April 2009.

Private analysts, though, were split over the significance of the decline. Some doubted that the drop in foreign holdings of short-term Treasuries signified growing unease about holding U.S. debt. They noted that net purchases of longer-term Treasury debt rose in December by $70 billion.

But other economists saw the decline as a warning signal. They fear that foreigners, especially the Chinese, have begun to worry about record-high U.S. budget deficits and are looking to diversify their holdings.

A sustained drop in foreign demand for dollar-denominated assets could lead to higher U.S. interest rates and falling stock prices. Those trends could threaten the U.S. recovery. But economists said they see no such evidence yet.

The Treasury report showed that China reduced its holdings of Treasury securities by $34.2 billion in December.

Alan Meltzer, an economics professor at Carnegie Mellon University, said China’s shift should be a wake-up call for Washington.

“The Chinese are worried that we have unsustainable debt levels, and we do not have a policy for dealing with it,” Meltzer said.

He said the Chinese worry that confidence in the U.S. government’s ability to repay its debt could erode. That would cause the value of Treasurys and the dollar to fall — and lead to losses on Beijing’s’ U.S. debt holdings.

The Obama administration on Feb. 1 released a budget plan that projects the deficit for this year will total a record $1.56 trillion. That would surpass last year’s record of $1.4 trillion deficit.

The recession helped drive up the deficits. Tax revenue fell as the economy slowed. And spending undertaken to support the economy and stabilize the financial system worsened the budget gaps.

The administration has pledged to address the budget gaps. President Barack Obama has said he will appoint a commission to recommend ways to trim future deficits. But China and others have expressed doubts about the commitment of the United States to reduce the red ink.

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