Saturday, June 05, 2010

Treasury Securities ar ethe Risk Free Asset...For Now

On Ft.com, James Mackintosh, investment editor, explained in a May 27 2010 video how the dollar remains the world’s reserve currency despite the enormous US budget deficit. (1m 48sec)

But we can only print dollars to pay off our debt if countries take those dollars.  Can we fool all the countries all the time?

2 comments:

Aleks Schaefer said...

"Can we fool all the countries all the time?"

Professor Harris,

I'm curious to to understand what you mean when you pose this question.

Are you claiming that the U.S. faces a risk of defaulting on its debt, but it has fooled other countries into believing that it is solvent enough to honor its obligations?

If so, surely the U.S. is not like a household that has limits on the amount it can spend. Since the U.S. is sovereign in its own currency, can't the treasury could simply create money by issuing currency or writing checks on its account at the Fed since U.S. public debt is held in dollars?

Dr. Malcolm C. Harris, Sr. said...

Aleks,

When Texas secedes, it can issue its own sovereign debt!

As more and more of America's debt is held abroad, the U.S. government has less and less control of its ability to control it.

Yes, the Federal Reserve can "print" money. And as long as the dollar is the international reserve currency, the currency countries use in international transactions, printing money can pay off dollar denominated debt. But that printing leads to a depreciation of the currency in foreign exchange markets.

The real problem arises when foreign nationals and nations grow increasingly reluctant to accept dollars in transactions and lend us money in dollar denominated debt. Then the interest rates on our bonds will soar and we will have an increasingly difficult time borrowing. Printing dollars with abandon hastens that day.

The Chinese are already looking for an alternative reserve currency to the dollar. This was also a topic in the Seoul G-20 meetings.

Note: printing money to pay off debt and creating inflation is a de facto partial default.