Tuesday, February 22, 2005

An Economic canary in the Mine?

Over a third of the US debt is owned by foreigners, especially China and Japan. The Trade deficit is higher than it has ever been before, and is being financed by China and Japan buying our debt. As a result the dollar has been falling against the Euro. The following Reuters report is somewhat scary.

By Mark McSherry

NEW YORK (Reuters) - U.S. stocks sank on Tuesday as oil prices jumped above $51 a barrel and the dollar slid on concerns that other central banks would follow South Korea (news - web sites)'s lead in diversifying reserves out of U.S. assets.

The Bush administrations wild spending spree that is rapidly building the federal debt simply makes us a lot more vulnerable. If more central banks start diversifying reserves out of U.S. assets (that means selling US bonds and buying other nations bonds) then the dollar will fall further, faster than it already is, until our Federal Reserve raises interest rates to shut off the inflation caused by higher priced imported goods. A sharp increase in interest rates will dampen the American economy.

Were the fed not to raise interest rates, inflation would build rapidly and the economy would be damaged by that. The fed considers itself the protector against inflation, so that is highly unlikely.

A further drop in the dollar will also increase the price of oil, also dampening the American economy.

The canary is wobbly, so it may be time to hold your breathe.

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