Until 2007, the GSE had a function: to transfer a fraction of the property debt abroad.
For example, a small fraction of US real estate purchases was financed by foreign investors buying securitized debts from GSEs. Private securitization played the same role via MBS, RMBS, CDO amalgamating house, consumer credit, student loans … The transfer mechanisms outside the public debt were simpler: Treasury bills were enough. Foreign investors have financed the rise in real estate prices and the US fiscal deficits. They have helped to finance a property complex whose functions are complex in the US, the value of real estate assets offsetting the rise in income inequality, distribution of financial wealth while supporting consumption which it provides a stimulus and a base.
Since 2008, this formula of administering the coverage of the balance of payments deficit is poorly-in-point. To preserve the currency, the Treasury has substituted its deficits for other forms of assets purchased by foreigners. The Federal Reserve has purchased a minimum of 600 billion GSE trituration products to avoid collapse and a loss of confidence in the US government guarantee to their GSE. As a result, public and para-public debt have not only risen to dizzying levels for the sake of preserving the economy and the financial system, it has also played a role in protecting the dollar.
We understand better the eagerness of the USA saved in 2008-2009, their financial system at the cost of record budget and fiscal deficits. The Fed – whose balance sheet is highly degraded – had to buy several hundred dollars worth of GSE assets to avoid the collapse of the value of their bonds. Alongside the Treasury bill bubble, there is a money-creation bubble that creates a financial anomaly that is fraught with inflationary risks. The preservation of the American currency is also at the heart of the most negative effects of a leak in public and para-public debt.
Does the positive role of public financial deficits, and especially the federal deficit, ensure real protection for the US currency? Nothing is less sure.
The problem with this policy is that of the widening gap between financial coverage or net capital flows and the balance of payments deficit. The US trade deficit is the expression of a manufacturing sector that accounts for just over 10% of GDP.
The contraction of the economy cannot reduce this deficit and in times of crisis, the gap between net financial flow and balance of payments deficit widens as the trade deficit outweighs net capital flows. It is, therefore, the policy of fiscal deficits that have avoided the plummeting dollar since 2008 by reducing a gap that would have become gaping.
In the absence of real recovery, this policy is not without raising serious questions. The recovery is currently financed on credit by public expenditure: it maintains a level of national growth that contributes to keeping the trade deficit at a high level, and it is Treasury bill issuance that alone covers the US balance of payments deficit. This recovery has led to an increase in the public and para-public debt, which is unsustainable.
What would happen if the endogenous recovery of the economy delayed, the growth of the public debt should be revised downward? There would be an economic relapse. But then what would ensure the preservation of the value of the dollar. Financial hedging would no longer be provided by treasury bills, securitization products of GSEs and other types of financial investments.
It would then remain the interest rates whose recovery would be inevitable to maintain the net capital flows.
But that would not do without weighing on the whole of the economic activity. All rents for money should rise to the risk of disrupting a still-fragile financial system and a convalescent economy. Raising interest rates will only halt growth. But if growth is broken, will foreign capital still be tempted by the US financial market? Is not the dynamism of this growth that has hitherto attracted them. The safeguarding of the dollar cannot be assured in such a context. America does not stop facing its economic contradictions, expression denouncing the imbalances that turn against it.
And then, we must not forget that the positive role of the sale of treasury bills depends on the purchases of foreign public and private investors. But there is a slowdown in their support at the end of 2009, which is another problem for the value of $.
The sad thing is that the Obama administration’s only plan is to reset the American system as if the crisis were just an unfortunate parenthesis to liquidate at any price. And it does so with the instrument of the crisis: indebtedness, transferred from private to public with the same effects for the financial health of public actors (the over-indebtedness of the Federal State and the Fed) and the same uncertainties for a recovery financed artificially by public credit. It finds in the coverage of the balance of payments deficit a remedy which is a new evil. We do not leave a depression with the instruments of a counter-cyclical policy pushed to the paroxysm of their (in) effectiveness.