from Follow the Money

Who is financing the US - A Quick Update

November 14, 2005

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What do China, Russia, Malaysia, Saudi Arabia and the other Persian gulf oil sheikdoms have in common?

Quite a lot, actually: 

  • All have significant current account surpluses.  China's surplus is all the more impressive because imports, rather than exports, oil.
  • All either peg to the dollar, maintain basket pegs that seem an awful lot like dollar pegs, or intervene heavily in the foreign exchange market.
  • And since the countries with the biggest current account surpluses more or less have to finance the US for the global balance of payments to work out - though finding the precise channels is a bit of a mystery.

And given the size of China's reserve increase, Russia's current account surplus (Russia's trade surplus topped $34 billion in the third quarter), and Saudi Arabia's current account surplus, these three countries are almost certainly constitute three of the four biggest financiers of the US.   Japan is the other.   But right now Japan's government isn't intervening in the foreign exchange market - while China, Russia and Saudi Arabia certainly are.

Kind of ironic when you think about ...  the United States biggest creditors do not exactly share the United States' political system - or necessarily share its foreign policy objectives.

In the third quarter, emerging Asian countries added a bit around $72 billion to their reserves.  But talking of emerging Asia is a bit misleading - China alone added just under $60 billion to its reserves.   China's q3 current account surplus was probably in the $30-35 billion range - so a portion of China's reserve accumulation came from net inflows of capital from the world.  Malaysia added $5.5 billion to its reserves, India another $4 billion.   I have not adjusted these numbers for valuation changes because the euro/ dollar was roughly flat in q3. 

Setting China aside, though, the really big current account surpluses were found in the oil exporting countries, not in Asia.  Russia's q3 trade surplus was nearly $35 billion; judging from that data point, the combined current account surplus of the major oil exporters probably came in at well over $100 billion in the third quarter.

For comparison, the United States' q3 current account deficit probably will come in at a bit over $200 billion.

Russia's reserves only went up $8 billion in the third quarter.  That though is somewhat misleading, as the Russians used much of the proceeds of their $30 billion plus trade surplus in the third quarter to pay down some of their external debt.

Saudi Arabia's formal reserves were flat.   But the Saudis seem to be using a very narrow definition of reserves; the foreign assets held by the Saudi Monetary Authority increased by about $15 billion in q3 - bank deposits abroad were up by $6.3 billion, while holdings of foreign securities increased by $8 billion.    

For the year, the foreign assets on the broad balance sheet of the Saudi Monetary Authority are up by around $40 billion.    That is a rather different story than the story told if you look either at the formal foreign exchange reserves of Saudi Arabia, or if you look in the US data, which, at least for the first half of the year, showed more or less no purchases of US securities by the major oil exporters ....

Saudi data is here (riyal should be converted to dollars at 3.75 riyal to the dollar), US data comes from the Treasury bulletin - but the TIC data tells a more extreme version of the same story for Treasuries.  

I suspect Saudi Arabia is typical of the gulf sheiks, though the precise breakdown between the increase in the foreign assets of the central bank, the increase in the foreign assets of the country's investment fund, the increase in the foreign assets of the country's private sector and the increase in the foreign assets of the country's ruling family will vary - overall, the Economist noted that foreign assets held by middle eastern central banks are up by around $70 billion this year, and this increase accounts for "less than 30% of their current-account surplus."
Some of the non-reserve assets purchased with these petrodollar are quite easy to see.  (link via the Big Picture). But most are not - indeed, most are bloody hard to track.  The Economist:
In the 1970s and early 1980s surplus petrodollars were largely deposited in banks in America or Europe. These banks then lent too many of them to oil-importing developing countries, sowing the seeds of Latin America's debt crisis. This time it is proving much harder to track the money, but much more seems to be going into foreign shares and bonds rather than into western banks. This may reflect a greater reluctance to hold deposits in foreign banks, because of the increase in official scrutiny after the terrorist attacks of September 11th 2001. Figures from the Bank for International Settlements (BIS) show that in 2002 and 2003 OPEC deposits with banks in the BIS reporting area actually fell. Since last year, they have increased, but only modestly. ....    Russian investment, whether in bank deposits, London property or football clubs, is relatively conspicuous. But even the experts at the IMF and the BIS are finding it hard to track Middle Eastern money, because a large chunk of the surplus is held not as official reserves, but as foreign investment by government oil stabilisation and investment funds and by national oil companies.  ..... One puzzle is that, according to data published by America's Treasury Department, OPEC members' holdings of American government securities fell from $67 billion in January this year to $54 billion in August. But Middle East purchases of American securities are probably being channelled through London. Mr Khan reckons that although the bulk of OPEC's surplus revenues has so far gone into dollar-denominated assets, those assets are increasingly held outside the United States. A big chunk is also going into hedge funds and offshore financial institutions, which are unregulated and so impossible to track.
All in all, though, there should be little doubt that this year's surge in oil prices has led to a shift in the composition of the world's creditor countries - and, one suspects, the United States' key creditors.

Update.  A bit more from Stephen Roach in today's GEF.

There was an interesting sidebar to this discussion -- the possibility that petro-dollars might play an increasingly important role in funding America's ever-widening current account deficit.  That could be an important twist in the global macro equation, especially since the world's three largest surplus savers -- Japan, Germany, and China -- are making efforts to boost internal demand.  Should those efforts bear fruit, the biggest current account surpluses would be shrinking at precisely the moment when the biggest deficit would be widening -- an outcome that could well put excruciating pressure on the dollar and real US interest rates.  With elevated oil prices triggering roughly a $300 billion revenue windfall for the Middle East oil producers, a recycling of those flows back into dollar-denominated assets would certainly ease America's current-account financing pressures.  One of the investors present at Lyford Cay who had a good read on Middle East equity flows noted that there was little interest in the US.  Another investor with a good read on the bond business suggested that there was no problem in attracting petro revenues into dollar-denominated fixed income instruments.  Many viewed this as yet another example of an elastic world rising to the occasion and dealing with tough issues -- in this case, an energy shock as well as a current account financing problem.

I would add that petro-dollars already are playing a big role in financing the US deficit, one way or another.  And if oil prices stop rising and oil state spending picks up, there may be fewer petrodollars to go around.  Note that this preference for US bonds does not show up in the US data -- or rather shows up as inflows from the UK into the the US fixed income market.

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