"In the CNBC debate, Schiff claimed the U.S. is acting like a subprime borrower using a teaser rate and will be unable to fund its deficits once short-term rates spike. Galbraith dismisses that scenario in the accompanying video, suggesting "for better or worse," the Fed controls short-term rates."
Tim Wood has done the empirical work on this question and it shows conclusively that the Fed follows, not leads the market.
"And foreigners, most notably China, have little choice but to own Treasuries and would be committing financial suicide if they dumped U.S. holdings en masse, he says."
The usual party line. I'm sure the Chinese regard their purchase of treasuries as a form of loss leader or vendor financing, i.e., any paper losses they suffer are simply the cost of doing business. What guys like Galbraith neglect to mention is that something like 60% of China's exports are generated by foreign firms that relocated operations to China. That's real plant and equipment the Chinese didn't have to buy, so I guess you could subtract that from their theoretical losses as well.
For all their posturing, I doubt the Chinese view their dollar holdings in the same way we would - as a profit/loss equation. Recall that at some point the RMB is going to trade freely on world markets. Far more important to have a large reserve of dollars to defend against a run on RMB than to lose sleep worrying what those dollars are actually worth.
ebear
