Geithner as Bond Salesman
Before Secretary of the Treasury Timothy Geithner headed to Beijing over the weekend, a senior Treasury Department official was quoted as saying that Geithner plans to press Beijing to take drastic measures to turn China’s economy into one that depends heavily on sales to domestic consumers and less on sales to the U.S. and other foreign markets. That means encouraging Beijing to offer more generous health-care, retirement, welfare, educational and other benefits in order to persuade the average Chinese citizen that spending now doesn’t mean starving later.
I sincerely hope that is not his message. If it is, he hasn’t been reading Beijing’s lips. Premier Wen has already said that he is worried about the U.S. assets that China holds. And the falling dollar is causing additional concerns. Zhou Xiaochuan, governor of the Chinese central bank, said in March that he wants the dollar replaced as the chief monetary unit for global finances with a currency derived from a basket of international currencies. Controversial views like this by senior Chinese government officials are seldom expressed publicly unless there is some consensus among a broader group of leaders.
In my view, Secretary Geithner has only one mission when he arrives in Beijing this week: to assure his largest investor about the prospects for the U.S. economy and to sell U.S. Treasury bonds. As any bond salesman will tell you, he’s got his work cut out for him. That’s because the prices of the products he is selling have been falling, and all indications are that they will continue to fall in the coming months.
The “elephant in the room” that no one seems to want to talk about is the massive $3.25 trillion of debt that the U.S. government must raise by September 30, 2009 – the end of the fiscal year. This is needed to fund a deficit that the Obama administration now estimates will total $1.84 trillion, up by 5 percent from its estimate in February and a deficit that represents an unprecedented 13 percent of the country’s GDP.
That is why long interest rates have been rising in recent weeks, and the prices of bonds–the products that Geithner wants to sell more of to the Chinese–have been falling. (Bond prices move inversely to interest rates. As interest rates go up, bond prices fall and vice versa.) The dollar is also falling, dropping to a four-month low against the euro. And the prospects are for more of the same.
So much so that Bill Gross, the co-chief investment officer of Pacific Investment Management Co. (PIMCO) who runs the world’s biggest bond fund and is one of the most respected investors in fixed income securities, is staying away from U.S. Treasury bonds. “The Treasury is issuing a lot of money,” he said. “The market is beginning to wonder who is going to be buying these bonds.”
The growing deficits and the rise in the overall level of government debt in the United States is creating another issue–the potential that the United States might lose its coveted AAA debt rating. Standard & Poor’s recently lowered its outlook on the U.K.’s AAA credit rating to “negative” from “stable” and said the nation faces a one-in-three chance of a rating cut as its debt approaches 100 percent of gross domestic product. At an unprecedented $6.36 trillion, U.S. marketable debt is about 45 percent of the country’s GDP, according to Bloomberg data.
While a downgrade is not “imminent,” according to Gross, he said that: “Both the U.K. and the U.S. have prospective deficits of 10 percent annually as far as the eye can see. At some point over the next several years,” the debt of each “may approach 100 percent of GDP, which is a level at which country downgrades tend to occur.”
To convince China to continue to help take up the $3.25 trillion of U.S. Treasury securities that need to be sold in the coming months, Geithner needs to convince the Chinese leaders that the prices of U.S. treasuries will not keep falling and that the Obama administration has a strong dollar policy and will reduce deficits. No easy task given recent trends and the broad and expensive social and environmental programs being pushed by his boss.
If Geithner’s message is instead that the Chinese should “shop not save,” and that the government must do more to encourage domestic consumption, his message will fall on deaf ears and he will be seen as talking down to his Chinese hosts. Given the recent economic performance of the United States, China’s leaders will not be anxious to hear such words of wisdom from the new Treasury Secretary.