foreign capital into us declines

Private Investors Abroad
Cut their Investments in U.S.


By Eduardo Porter
The New York Times
Tuesday, October 19, 2004


http://www.nytimes.com/2004/10/19/business/worldbusiness/19dollar.html
?ex=1099219293&ei=1&en=787550cf64944fa5


The flow of foreign capital contracted in August as
private investors lost some of their appetite for
American stocks and bonds, underscoring the
United States' increasing dependence on financing
from central banks in Asia.


The Treasury Department reported yesterday that
net monthly capital flows from the rest of the world
fell for the sixth time this year, declining to $59
billion from $63 billion in July.


Private investment from abroad fell by nearly half --
to $37.4 billion in August from $72.9 billion the month
before. Investors appear to be concerned over cooling
growth and a rising American trade deficit.


The only reason that the contraction was not more
pronounced was that official financing, mainly from
Asian central banks, jumped to nearly $23 billion in
August from just over $6 billion in July.


Washington has demanded that China end a policy
of buying dollars to reduce the value of its currency,
the yuan, and make its exports more competitive in
American markets. But the new data accentuated
how dependent the United States has become on
purchases of dollar securities by the Chinese and
other Asian governments with links to the dollar.


"Foreign central banks saved the dollar from disaster,"
said Ashraf Laidi, chief currency analyst of the MG
Financial Group. "The stability of the bond market is
at the mercy of Asian purchases of U.S. Treasuries."


Net foreign purchases of United States Treasury
bonds fell 35 percent, to roughly $14.5 billion, an
11-month low. Foreign governments left a particularly
large footprint in this market, stepping up their net
purchases to about $19 billion even as private investors
sold about $4.5 billion worth.


Holdings of Treasury bonds by Japan, where the
central bank has also been intervening to keep the
value of its currency from rising, increased by $26
billion in August, to $722 billion. Chinese official
holdings rose more than $5 billion, to $172 billion.


The decline in foreign investment seems to have
unsettled some investors in the bond and currency
markets, who have been on tenterhooks as the
American trade deficit has soared to nearly 6
percent of the nation's economic output, requiring
foreign investment to finance it.


Through the first quarter of the year, financial flows
into the United States exceeded the trade deficit by
well over 50 percent. Last month they barely covered
the $54.2 billion deficit.


As private capital flows declined, the American
financial balance has been poised precariously. As
private financing dwindled, most of this coverage has
been provided by foreign government finance.


"If all we have funding our current account imbalance
is the good graces of foreign central banks, we are
on increasingly thin ice," said Stephen S. Roach, the
chief economist at Morgan Stanley. Of Washington's
call for China to stop interfering in currency markets,
he cautioned, "That could come back and bite us."


Not all economists are that worried about the growing
shortfall in the current account, the broadest measure
of trade, pointing out that it is sustainable as long as
Asians continue on a path of export-led growth that
requires cheap currencies against the dollar.


Many economists stress, however, that this symbiotic
balance between Asian and American economies will
eventually come to an end.


Jeffrey Frankel, an economics professor at Harvard
University, said: "The Asians are going to go on
buying Treasury securities for a while, preventing the
dollar from depreciating and helping keep U.S. interest
rates low, which is a good thing. But not forever."


Morris Goldstein of the Institute for International
Economics remarked, "This can be a story for one
year or two years, not for 10 years."


If the United States were to temper its appetite for
foreign money, the Chinese and Japanese could
curtail their purchases of American securities
without causing financial havoc. The dollar could
then drift lower against Asian currencies, benefiting
American exporters and manufacturers that
compete with Asian imports.


But this would require Americans to increase their
rate of savings. Household savings have plummeted
to only 1.5 percent of personal income, from 11
percent 20 years ago. With the federal government
running a budget deficit of 3.5 percent of the nation's
output, the public sector hardly contributes to
savings.


A disorderly situation would occur if foreign money
dried up suddenly when the United States still
needed it. Then, the adjustment in American savings
might happen involuntarily. Interest rates would rise
sharply, and the dollar could fall abruptly. This could
induce a sharp economic contraction, even stagflation.


"The longer we wait," Mr. Goldstein said, "the more
likely we'll have the adjustment anyway. But the
adjustment will be more chaotic and sharper."