Foreign Purchases of US Government Debt - Irrational ?

Perhaps someone can tell me if my logic is flawed.

America needs foreigners to purchase their Government Bonds.
Foreigners need a good rate of return in order to justify these purchases.
With interest rates and the dollar falling, this return is also falling.
We are now at a point where rates may be pushed BELOW inflation rendering it completely irrational for a foreigner to buy US govt debt.

I can only see 2 solutions.

  1. The Feb at some point MUST raise rates, so as to attract foreign purchases of their govt bonds.
  2. Their mint churns out dollars, inflating their way out of debt. This is not a pretty way of solving the problem, as it crushes confidence in the currency.

According to economics, the falling currency should help rebalance its trade deficit, with knock on (positive) consequences to its balance of payments and budgetary deficits. However, the (so-far) large depreciation of the dollar has had limited impact on their trade deficit, forcing logic to dictate that it will take a much larger depreciation to make any real impact. Thus making dollar assets even less attractive for foreigners. Ultimately, I see foreigners giving up on US debt and the dollar quicker than any of the other self-correcting mechanisms can rectify the problems.

Comments anyone ?


I wonder would America inflating its way out of its bad debts really work anyway ? I mean if the price of everything in dollars inflates, but wage increases don’t match this because of outsourcing/bad economy, then ordinary house owners are even in worse trouble… the size of their mortgage relative to their wages will not improve much.

It will work (eventually) - once you devalue the dollar (say 2x), you can give people high wages to pay for the now higher priced goods. The only thing which doesn’t nomially increase is their debts, which means they become relatively smaller vs both wages and the costs of other goods.

Of course, savers get shafted - but that’s pretty much the definition of inflation - robbing savers to reward borrowers.

That’s the $64,000 question.

Some commentators think the administration and the Fed will attempt to inflate an incomes bubble in order to inflate away the damage and debt of the housing bubble.

Here’s my theory:

Like it or not, the US are in Iraq. And whatever about supporting them going in orginally, China et al have to support them now that they’re in there. Leaving Iraq in a vacuum creates all sorts of hypothetical scenarios, and not too many of them are good for the security of oil supply.

The US leaving Iraq with their tail between their legs is political egg on their faces, but it could be economically (and therefore possibly politically) catastrophic for Communist China.

The US has the potential to severely cut back on oil consumption without a massive economic hit - smaller cars for a start can do the same job as SUV’s, i.e. get you to work.

China doesn’t have the same flexibility because their oil consumption is in industry - and it’s more difficult to replace a factory with a more fuel-effficient model!

I don’t doubt that America can create high inflation, I just wonder if they can create high wage inflation over a sufficiently large proportion of the workforce. Obviously the public sector would be easy enough. But their huge services sector… which would be sensitive to recession… and manufacturing which is already hard-pressed by outsourcing… I suppose time will tell…


what is the world going to sell and produce if the americans have no cash to buy their stuff!!