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OnlineInvestorsNews Volume M 9-5, May 27th, 2004www.jameswinston.com Our $1.5 Trillion Asian IOU - Good for Gold - Bad for the DollarBill Ridley Further to last week's report on our national debt situation, I mentioned that foreign bond purchases are mandatory in order to finance the deficit. If there are no foreign buyers, the house of cards which Greenspan et al have created will come tumbling down with very serious consequences. The nations' overspending has resulted in our total indebtedness rising from about $3 billion in the mid 1990's to around $500 billion today which represents 27% of the Gross Domestic Product. This is literally a growing concern and should be a prominent election platform but my guess is that it won't be mentioned much as taxes, Iraq, and the price of gasoline will be more top of mind for voters. Besides, this is a topic most politicians will want to avoid dissecting too closely. In as much as the funding of our debt is glossed over by politicians and the mass media, I'm sure it must be keeping Greenspan up at night as the necessity to keep foreigners buying U.S. Treasuries is of primary concern. Attracting foreign investment hasn't been a huge problem in the past because the U.S. is a large and dynamic economy. Most foreign investors will hold some U.S. assets to diversify their portfolios. Foreign central banks hold U.S. Treasury bonds for the same reason but they also have another strategic purpose. Even though the U.S. dollar has lost a lot of ground against other foreign currencies over the last two years, foreign central banks aren't selling like private foreign investors probably have. Quite the opposite, they have been buying more. And who are big buyers? None other then those countries who want to keep their home currencies from rising too quickly and thus impair trade with the U.S. - Japan comes to mind instantly. Also China is a big buyer as trade to the U.S. is a primary factor in why their economy is booming. In 2003 the top four Asian central banks bought $300 billion U.S. debt and were holding $1.5 trillion by end January 2004. Japan leads the pack with $741 billion, then China with $403 billion, followed by Taiwan with $207 billion, and South Korea at $157 billion. These amounts are double what the top four had just two years ago. Around mid March, rumors were surfacing that the Japanese would be cutting back on their foreign debt purchases. This sent gold to $412 and the U.S. dollar got whacked across the board. This is a tough call for Japan. Since they rely on foreign commodity imports to keep their country rolling, their costs have risen dramatically as copper and oil have shot up. To offset this, they can easily increase the value of the Yen but at the same time they don't want to hammer the U.S. dollar so they will continue to buy U.S. debt but maybe to a lesser degree. From 2002 to January 2004, the dollar dropped 22% against Japan's yen, falling 12% just in the four months from September 2003 to January 2004. Over that time frame, Japan had amassed $741 billion in dollar reserves of which $111 billion lost value as the greenback slid in value against the yen. This hasn't been well received by Japanese media who have been very critical of this seemingly foolish "investment." Eisuke Sakakibara, former Japan International Finance Vice Minister, told the Japan Times earlier this year that "We can't let this situation continue. We will not be able to maintain the same level of intervention for a few more years.... [We] will eventually have to think about how to exit from such a strategy." Japan now owns 14 per cent of America's entire publicly held debt. China on the other hand is a different situation. With the Federal election coming up both Democratic and Republican politicians have voiced their opposition that China's Yuan is valued too low against the U.S. dollar which currently sits at 8.3:1. Both parties have correctly observed that China's low currency valuation is aiding in the flood of imports to the U.S. which has helped balloon the trade deficit and created unemployment at home. But Business Week has warned that a revaluation of the Yuan could have other serious repercussions for the US. "With a stronger currency peg versus the dollar, China would purchase fewer bonds, as would Asian central banks if they were to cut back on currency market intervention. And further weakness in the Treasury market with a resulting bump higher in interest rates, could weigh on the long-gestating US recovery. In that regard, US lawmakers should be very careful what they wish for." No matter how you look at the U.S. foreign debt situation it doesn't look good for the dollar. If foreigners keep buying as debt continues to build, the dollar will continue its slide, albeit more slowly then if there are not enough buyers. Whatever scenario comes to pass, you better have your gold positions intact or you'll miss out on the next leg of gold's run. May 28, 2004 DISCLAIMER OnlineInvestorsNews is an independent electronic publication committed to providing our subscribers with factual information on selected publicly traded companies, politics, business, and economics. All companies are chosen on the basis of certain financial analysis, and other pertinent criteria with a view toward maximizing the upside potential for investors while minimizing the downside risk, whenever possible with the added aid of technical analysis. OnlineInvestorsNews and its editors do not accept compensation from public companies featured in this publication. All statements and expressions are the sole opinions of the editors and are subject to change without notice. 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