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How the Bond Markets React Last week, I wrote about the Chinese influence on the price of raw materials. The very fact that this nation is growing, not only economically but also in terms of financial savvy, is beginning to alarm more than one global economist.
The announcement last week of an ever broadening trade deficit will have an effect on the average American in the near future and many of us are unaware of just how. The trade deficit has grown over ten percent in the last year. While many of us are struggling under our own deficits, this implication of a record $447 billion increase has impacted the Gross Domestic Product. It acts like a tax on the country as we service a debt that now takes 5.7% of our total economic output to cover. What that means boys and girls is that we are a debtor nation and the consequences could be swift and devastating should our debt come due.
Without sounding like an alarmist, the Chinese could very well decide that their customer base at home has grown substantially and begin to sell their inexpensive products domestically. There is a growing wealth factor in this country as it enters the world marketplace with both feet firmly planted on the ground.
That would cause the dollar to fall and quickly. The ripple effects of such a change would increase the price tag for imported goods while forcing the lagging manufacturing industries to produce more for less. Not a likely scenario as the costs of raw materials bought with less valuable dollars would surely add to the spiraling problem.
On the world stage, our economic standing would plummet. No help from Greenspan could alter the course that would lie ahead. With 40% of our debt being held by overseas investors, the interest payments are lining the coffers of foreign countries. These countries are becoming increasingly concerned that we may have borrowed - with the help of the President's one true success during his tenure - ourselves into a corner with deficit spending.
There is another concern for those who carefully watch the events unfolding. Our income is falling as a nation. Income is anything earned including exports that are sold abroad. The distance between that line is closing, from $64 billion in the fourth quarter of last year to under $10 billion in the second quarter. Considering the continued "soft patch" that the economy seems to be mired in, this number is bound to fall even further. Once on the other side of the line, there is little that can be done if our Asian brethren become nervous about our newly achieved third world status.
This problem might have a bright side, but is seems to be based on some conceptual considerations. One is the strength of the dollar on the world stage. Some economists believe that it will never lose its luster. Secondly, a scenario with the United States importing all of our needs under a negative net income flow (fancy words for spending more, earning less) is not likely. Conceptualization found us in this predicament and the long term prospects of changing the future of this relationship appear dimmer each quarter.
The bond market reacted in kind as prices began to rise. This offers us another foreboding scenario. Should the yield fall below 3.80% on the Ten-year Treasury, and it could happen by the middle of next year, that would begin another possible wave of refinancings increasing the debt to income ratio further.
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