Friday, March 6, 2009

Dr. Brad Setser on Sovereign Wealth, Sovereign Power and Foreign Official Agency Purchases

Here's an extract from Dr. Brad Setser's paper titled Sovereign Wealth and Sovereign Power. (the emphasis is mine)
For U.S. policymakers today, complacency is tempting because of comforting arguments that it is not in creditors’ interests to precipitate a crisis. One comforting argument is that it would take a decision by a major creditor to dump all dollar reserves to cause a run on the dollar — and that this sort of decision is so drastic as to be unlikely.
But history contradicts this argument. During the Suez crisis, both British chancellor Harold Macmillan and Prime Minister Anthony Eden were convinced that the U.S. government was behind the run on the pound. But the U.S. government actually reduced its sterling holdings by only four million pounds—or around $11 million dollars—between the end of September 1956 and the end of December, a fraction of the $450 million drain from September through November with which HM Treasury had to contend.43 The United States did not need to sell pounds to put pressure on Britain, just as Russia, China, or Saudi Arabia might not need to sell dollars to put pressure on the United States today. As W. Scott Lucas writes: "The Americans did not have to sabotage the pound to influence Britain ... they merely had to refuse to support it."
Contrary to what the comforting narrative might suggest, a country seeking to use its holdings of dollars to influence U.S. policy has options that fall short of the "nuclear option" of dumping large quantities of dollar reserves.
A creditor government could sell holdings of "risk" assets and purchase "safe" U.S. assets, creating instability in certain segments of the market. This could be done without triggering the appreciation of its own currency against the dollar or directly jeopardizing its exports.
- A creditor government could change how it intervenes in the currency market. A country, for example, could halt its accumulation of dollars without ending all intervention in the currency market if it sells all the dollars it buys in the market for other currencies.
– A creditor government could stop intervening in the currency market, halting its accumulation of foreign assets, whether in dollars or other currencies.
– A creditor government could halt its intervention and sell its existing stocks of dollars and dollar-denominated financial assets, the "nuclear option." If it held a large equity portfolio, this could include large stock sales.
In this essay at his blog Brad Setser says "And now even government-backed Agencies are too risky. " (He's discussing the Russian Federation's 2008 action to offload all holdings of Agencies, while accumulating increased volumes of Treasuries.)
There have also been other essays from Dr. Brad Setser, comparing the Fed's willingness to take a higher level of risk, to provide stability during the crisis; against the de-stabilizing influence exercized by foreign central banks, such as the People's Bank of China when they dumped Agencies during the crisis. (I'll try to provide more links to Brad's blog essays and excerpts as time permits)
While he doesn't explicitly state this in his latest essay, Dr. Brad Setser has been advocating increased Agency purchases from foreign central banks for some time now.
If foreign official creditors were excessively concerned about exercising influence on US policies; they could have done that by making conditions in return for continued lending to the US Agencies in 2008. Setser's data clearly shows they massively exited their Agency holdings, and exchanged them for Treasuries. Since there is no information about any conditions made by them that the US Government did not meet, the foreign official Agency debt sell off is an indication that foreign official creditors, in 2008, did not pursue the agenda postulated in Dr. Brad Setser's paper on Sovereign Wealth and Sovereign Power.
In September 2008, the Henry Paulson announcement of a conservatorship for the Agencies made it abundantly clear that though they are known, till date as "Government Sponsored Enterprises" or alternatively as "Agencies" of the US Government; in fact, they are private entities enjoying only a limited guarantee from the US Treasury. Clarification of the non-Governmental status of the Agencies, clearly, was the main cause of the foreign official sell-off in Agencies.
If foreign central banks were to buy Agencies now, that would in fact signal some nefarious intentions on their part, as long as you still accept the risk of foreign official creditors wanting to use their creditor status to influence US policies. So I see a discrepancy here between the recognition of that risk in Brad Setser's paper linked above; and his on going advocacy of a stabilizing influence from foreign official Agency purchases.

No comments:

Post a Comment