America: bust or clever?

The UK Business Secretary, Vince Cable, has said that the most important thing in the world economy right now, more important than the euro crisis, is the failure of the USA to agree a borrowing limit. The only reason he is wrong is that it is so important it is inconceivable that they won't agree. Nevertheless they only have until 2nd August, a week today, before America can no longer legally pay its bills (it was unable economically to pay its bills some time ago).

The debt ceiling has been raised five times since 2008 and is now $14.3 trillion. Next year borrowings will be give or take 100% of GDP, getting on for that of Italy.The story goes that America has bought goods from China, which, not allowing its citizens to hold foreign currency, has taken the dollars off the exporters in return for local currency and the Chinese government has purchased US Treasury bills with the dollars. The US Treasury has filtered those dollars into the economy so people can buy more Chinese goods. The world's biggest Ponzi scheme. So, the story goes, the Chinese could destroy the US economy by selling out of it. Indeed there are stories of China switching some of its investment into euros.

Is it that bad?

Of the current T-bill issuance of $14.27 trillion, around $4.6 trillion is held by government departments, and $1.4 trillion is held by the Federal Reserve system (the various federal banks). So the amount of external borrowings is $8.2 trillion, around 57% of GDP which is high, but around European levels. Of the $8.2 trillion some $4.5 trillion is held by foreigners and of this the amount China holds is $1.15 trillion, some 8% of US debt. Japan holds $900 billion and, interestingly, the UK is the third largest holder at $333 billion. Oil exporters hold $221 billion.  

As Warren Buffet said, all this can go on for a long time but not forever. Would the Chinese sell out? I remember when working for a Swiss bank making a pitch for more business from a fabulously wealthy man and my boss saying 'don't worry, he needs us a lot more than we need him'. So it is with the Chinese: American nationalist fervour leading to a boycott of Chinese goods would leave them starving.

The American crisis will be resolved and the world will keep on turning. But, whatever you think about some people in the Republican Party, they are right to be taking this stand. Obama has embarked on costly wars (while he won the Nobel Peace Prize) and scarcely costed social reforms. As Buffet said, it can't go on for ever.