Yesterday Brad Setser wrote, Should the US worry about the drop in foreign demand for US long-term assets?. He pulls a graph from the Treasury that tracks long-term capital inflows to the US.
Mr. Setser’s concern however, is for a stronger dollar, arguing that “the US needs to be able to rely at least in part on net exports for growth”. At the end of that article he does question, as has frequently been done here, what will the cross country financing paradigm look like after things settle down.
Moreover, the current account deficit is going down not up, largely because of the fall in oil prices. That — together with the world economy’s broad-based weakness — seems to mitigate against a near-term dollar crisis. No one right now wants to see their currency appreciate. Not when exports are falling across the board.
At the same time, it is risky to finance a large external deficit with short-term debt. Even for the US. If the US deficit starts to head back up again — as, for example, the effect of the recent fall in oil prices wears off and a large fiscal stimulus in the US stimulates the world economy — without a shift in the composition of inflows, there would be cause for concern.
That just highlights a bigger issue, one that I don’t think has been settled: How will the world’s remaining current account deficits be financed in the post-crisis world? Right now, they are in some sense being financed by the unwinding of all the pre-crisis bets. And by running down existing stocks of foreign assets. But that process cannot last forever …