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Insatiable Demand For US Debt, or Something Else?

Thursday, October 1, 2009, 12:28 PM

Recently the Fed reiterated that their $300 billion program of buying long-dated Treasury Bonds would end on schedule, meaning as soon as it hit $300 billion.  Well, that's been achieved, so according to recent Fed statements, the program is over.

This is a critical development, because the ability of the US government to continue to fund its massive deficits (at favorable rates) requires that each Treasury Auction be "well bid."  The Fed has been a major participant, and so we might reasonably wonder who will fill the Fed's shoes.

This is critical, because the US government continues to float weekly auctions of Treasuries in quantities that just a few short years ago would have been unthinkable.

Exhibit A:  Next week's schedule:

Monday (Oct 5), 10 year TIPS: $7 billion

Tuesday (Oct 6), 3-year notes: $39 billion

Wednesday (Oct 7), 10-year notes: $20 billion

Thursday (Oct 8), 30-year bonds: $12 billion

That's $78 billion dollars over the course of just four days.

While not record-breaking compared to the amounts offered (and snapped up) in early 2009, for perspective, $78 billion is equivalent to the entire yearly economic output of Bangladesh, a nation of some 160 million souls. Let's be honest, $78 billion is a lot of money, it really is, although I will understand these days if you've become numb to such staggeringly large numbers.  I know I have.

If we go to the Federal Reserve website, we can see that over the course of 28 weeks, the Federal Reserve has already accumulated slightly more than $300 billion in its Long-Term Treasury Purchase Program:

(Source)

So according to its recent statements, the Fed is all done buying long-dated Treasuries.  I say 'apparently' because the Federal Reserve website just announced its next raft of Long-Dated Treasury Purchases.

(Source

I am still baffled as to why the Fed is showing both that it has bought more than $300 billion in Treasuries and that it has scheduled more purchases.  I assume there's some sort of clever distinction that excludes some purchases (TIPS perhaps?) from the "official total" of the Long-Term Treasury Purchase Program. 

It's either that, or the Fed (as predicted here long ago) is going to continue buying Treasuries and other US paper assets in whatever amounts it wants, whenever it wants, regardless of previously announced targets.

In what is sure to be a coincidence, we might also observe that both of the newly announced Treasury purchases (above) happen to fall on Treasury Auction days. 

Moving along, I am wondering exactly how all the necessary US government borrowing will happen without the Federal Reserve's deep-pocketed assistance.  This is not a small matter - if the US government suffers a funding accident (a.k.a. an 'auction failure'), it would the financial equivalent of a 9.8 earthquake.

Consider that the primary sources of funds for extravagant Treasury purchases by China and Japan (et al.) in prior years were those countries' magnificent trade surpluses.  Somehow, despite a global collapse in trade (does minus 30%-40% count as a 'collapse'?), the past 12 months have seen the highest ever foreign purchases of US Treasuries in history.  And not just by a little bit, but by a lot.

(Source)

[Technical note:  Because 2008 was the last year of exceptional global trade, looking at the "prior 12 months" is mixing things up a little bit.  If we exclude 2008 purchases and instead annualize 2009 Treasury purchases, we find that 2009 is on track to fall some -10% short of 2008, indicating a recent slowdown in purchases.  But still an amount that is well beyond what we could rationalize on the basis of exports.]

Staying with the TIC data for a minute, what's even more interesting here are the buying patterns of the seven largest countries over the prior 12 months (through July of 2009):

(Source)

China and Japan have suffered major export collapses.  Both are engaged in internal stimulus programs that are extremely large, as a percent of their GDP.  How is it that they are now also engaged in Treasury purchases that are even higher than when their export markets were at peak?  Where does the money come from?

Even more interesting, the Caribbean Banking Centers are typically thought to be proxies for Hedge funds which happen to be located there for tax reasons.  We might guess that these funds represent the growing US dollar carry trade.

Next, I find it surprising that the oil exporters and Norway (another oil exporter) have stepped up their buying so vigorously this past year.  Given the collapse in oil prices, I would have guessed that the oil exporters would have slowed or even reversed their accumulations of Treasuries, but that's clearly not the case.  This buying is a bit of a mystery to me.

And the UK?  Who knows?  The UK banking center often acts as a "pass-through" for other entities, but the oil exporters are the usual suspects in that charade.  On whose behalf, then, would the UK be buying so many Treasuries?

Conclusion

The US government continues to have impressive borrowing needs, but the Federal Reserve has claimed to be done with its program of buying US government debt.

At the same time, the truly spectacular inflows of foreign dollars into US Treasury paper cannot logically continue forever, especially given the collapse in export markets.  There is even some mystery as to how they could have been as large as they've been.

Taken together, it would be logical to suspect that US Treasury paper and new debt issuances would come under some pressure, which we would detect as falling bond/note prices and rising yields.

However, that's not at all what we are currently seeing, as indicated by the 10-year note yielding a paltry 3.2% and recent auctions have had more than three buyers biding for each bond.  The question before us is, can we see anything that might cause this to change?

I would submit that the US lacks sufficient domestic savings and productive capacity to finance its fiscal deficits internally so I propose that there are only two paths forward.  Either foreigners continue to finance the US deficits, or the Fed will resort to even more printing to cover the shortfall.

Where will the foreigners get the money?  Alternatively, how will they react if the Fed simply prints up the difference?

As always, trust yourself.

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28 Comments

Lemonyellowschwin's picture
Lemonyellowschwin
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Re: Insatiable Demand For US Debt, or Something Else?

Chris,

Don't you suspect that at least some of the demand has come from the printing activities of foreign central banks?

I mean, this level of demand has exceeded expectations for quite some time now, hasn't it?

cmartenson's picture
cmartenson
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Re: Insatiable Demand For US Debt, or Something Else?

You said it not me!

Sealed 

...but that is certainly one conclusion that makes sense.

Fortunately, because we know about the QE programs in Japan and the UK we don't have to speculate about whether money is being printed, only whether it is flowing into US Treasuries.

But, money being thoroughly fungible, it's not a real stretch to imagine that UK money printed to buy UK Gilts would free up other monies in the system that could then flow into Treasuries.  Liquidity is truly a global phenomenon now.  Just line up an assortment of global stock and bond charts if you have doubts about that.

I have no idea where China is getting all the funds, and do not have even the slightest faith that anybody outside of the Chinese government really knows.  I tend to discount the public pronouncements of the Chinese government on these matters because there's no real way to verify them one way or another. 

Lemonyellowschwin's picture
Lemonyellowschwin
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Re: Insatiable Demand For US Debt, or Something Else?

It does seem that, despite the crash, there is more money around than ever before . . . .

I suppose this goes hand-in-hand with your excellent comments in "The Liquidity Flood" on September 22nd.

Also, I was intrigued by your comment to Davos today where you said "things are going to start getting interesting again."    The subject of an upcoming report or post perhaps?  :)  I'm excited to hear what you have in mind.

FireJack's picture
FireJack
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Re: Insatiable Demand For US Debt, or Something Else?

I find it disturbing that there are talks of housing prices/sales stabilizing etc. They really think that a skyrocketing housing bubble is going to come back and save the economy. Printing money until housing prices start rising again seems to be the agenda and I think most of us here can agree that will not end well.

Will all this money printing bring a sudden end or will it be a slow collapse. Can't help but notice the stock market is getting worse everyday.

scepticus's picture
scepticus
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Re: Insatiable Demand For US Debt, or Something Else?

The answer is insatiable demand for US debt. The chartalists have the answer why.

Long story short, its the tale of three sectors. Government, domestic private and foreign.

The government issues cash, reserves and bonds in its own currency. Clearly it must have done so otherwise there would be no base money. Cash, reserves and bonds are all liabilities of the CB, but consitute financial assets of the private sector. The private sector creates its own credit, as matching assets and liabilities which net to zero, so the only way it can be in surplus (i.e. have net saving or net positive financial assets) is if the government sector is in deficit. Therefore the government debt is equivalent to the net saving desire of the private sector.

Foreigners complicate matters, however the government debt will still be equivalent to the net domestic private sector surplus plus the net financial asset positions (via bond ownership and the trade deficit) of foreigners, which is some 28% I think of outstanding US debt.

The national debt is therefore exploding because private sector saving desire is going up fast (faster than foreigners are withdrawing). Any funds not lent out by banks become immediately the liability of the government as reserves, or perhaps bonds.

Other interesting observations are that taxes, bond sales and monetisation are all simply monetary tools to add and withdraw liquidity. They observe correctly that the government operating fiat money is not revenue constrained though it may impose arbitrary restrictions on itself. As long as private saving desire rises then ongoing funding of deficits is not going to be an issue, according to these accounting identities.

It's all explained in full here:

http://www.debtdeflation.com/blogs/2009/09/27/it%E2%80%99s-hard-being-a-...

okubow's picture
okubow
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Re: Insatiable Demand For US Debt, or Something Else?

You know Chris and fellow CMers, between high frequency trading, flash trading and this, I'm beginning to think this is all just a big sham.

Why do these guys keep lending us money? They know what we're going to do with it.

How can this be any good for anyone?

Seems like a commitment to mutual financial annihilation.

bullionaire's picture
bullionaire
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Re: Insatiable Demand For US Debt, or Something Else?

I really like Steve Keen, & I guess I'll have to read the piece by Mitchell on Chartalism a little closer, but there are some things that don't add up to me

Why would you buy US Treasuries denominated in US currency that are used to fund a massive & out of control deficit (& debt) where risk of either non-payment or devaluation is increasing as the prospects for a legitimate recovery dwindle (before even considering health care, social security, etc.)

Why wouldn't you demand a higher interest rate on those Treasuries to compensate for that additional risk?

and why, if every country is employing QE at the same time & roughly to the same degree, would QE change anything on a relative basis?  it seems like a juvenile game to avoid truly addressing the core problem & try to lay it off on your trading partners.

mpetits's blog on China Finance pointed out that the global trade imbalances that contributed to the crisis will ultimately be where the crisis plays out, where he postulates  "With consumption being the most valuable commodity, both trade surplus countries, with their consumption deficits, and trade deficit countries, with their consumption surpluses, will be maneuvering ferociously to access as much global consumption as they can. In that case expect a sharp and continuing rise in trade tensions. The G20’s best intentions won’t matter."

judging by the massive games being played, the fed is out of control, as is the US government & likely the globabl economy.  in that environment, i think the only thing that makes any sense is gold.  oversimplified perhaps, but I find keeping it simple, stupid, is often not a bad idea.

CM, great topic by the way.

Farmer Brown's picture
Farmer Brown
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Re: Insatiable Demand For US Debt, or Something Else?

Chris,

What about the significant drawdown in private sector credit?  Edward Alberts argues that that is where much of the government debt is being financed from:  

http://www.scribd.com/doc/20100686/09022009Edwards

I posted this before in one of the inflation/deflation threads and I highly recommend it.

The thrust of the argument is that private lending - be it in China, Japan, Europe and of course the USA has collapsed, so excess savings have no where to go but finance government debt.

So, just because US trade with China and Japan is down, does not mean there will be less dollars available in those countries to buy US debt.  It depends on whether the levels of other dollar-financed activities in those countries (i.e., private sector) stays the same or not.  Clearly they have not (Edwards proves this for the US, but think about it - nobody is increasing capacity right now, so there is neither demand nor supply for private sector credit almost anywhere).

Also, let's not forget the $ is the world reserve currency.  US trade is collapsed, but China and Japan receive US dollars from everywhere, not just the US.  

I wouldn't put anything past the Fed or the Treasury (or anything else residing within the "beltway"), but there seems to be the likelihood of an answer here that does not require the nefarious intervention of these players, at least for now.  It all depends on the math:  Is private sector credit down enough to compensate for the huge increase of government debt?  It's quite possible, especially since the private sector itself is so much bigger than the public sector.

jdownie's picture
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Re: Insatiable Demand For US Debt, or Something Else?

Chris, I think the answer is in your heading. 

The explosive issuance of USD denominated debt by the private sector during the so called 'boom'  years, (basically privately issued pieces of paper, backed by government tax incentives but entirely worthless (with thanks to; www.theonion.com/content/news/recession_plagued_nation_demands)), is now deflating down the inverted Ponzi debt pyramid to the only debt instruments still considered 'money' by the market, that is, government bonds and explictly government backed bonds. Just as you said in a previous post, the government has had to step in and become the mortgage market.

This private issuance has been on a global scale for many years, so it's not hard to imagine the demand for government bonds driving prices up, thus interest rates are falling. This is despite the now explosive issuance in government bonds, and not just by the US treasury, the Treasury here in Australia is engaging in record 'stimulus', read bond selling.

In fact, I don't think it's too much of a stretch of the imaginaton to think that by selling bonds the government is actually preventing their prices from rising, that is, interest rates from falling further. One of the most prominent features of the Great Depression was very low yields on government bonds, with wide spreads on corporate bonds and wildly fluctuating exchange rates. Sounds familiar?

Turnstile's picture
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Re: Insatiable Demand For US Debt, or Something Else?

It could very well be possible that the mysterious recievers of the Fed's $2.4 trillion were foreign central banks--and this is the implication I interpret Mr. Martenson might be hinting at; but we won't know that unless Bloomberg wins its FOIA or a Fed audit.

DavidLachman's picture
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Re: Insatiable Demand For US Debt, or Something Else?

Hi CM>   Is this different Foreign Central Bank money than what you explained in "the Shell Game" back in August when you wrote: "The Federal Reserve has effectively been monetizing US government debt by cleverly enabling foreign central banks to swap their Agency debt for Treasury debt."?

scepticus's picture
scepticus
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Re: Insatiable Demand For US Debt, or Something Else?

The government in any nation can buy up as much of the real economy as it likes. Assuming the private sector is going to give up the ghost and rush into government bobds, and that banks are simply going to hold reserves, which BTW are technically on loan to the government, then it almost forces the government to go out and buy up assets to balance its balance sheet.

And of course the funding will be there.

What the deficit hawks and rate hike scaremongerors don't get is that unless there is a recovery, rates won't rise. If there is a recovery, well there is not a problem is there, apart from inflation and ratehikes to control that. But that's a good problem to have, compared to a depression.

While rates stay low and the private sector won't borrow, the way fiat money is specified, it forces the government pretty much to simply step in and start buying and spending, otherwise the value of the fiat currency will collapse as a result to too many liabilities and too few assets.

The chartalists have a concept that the natural rate of interest is zero, basically when the government is leading spending, there will be excess bank reserves which ought to mean the overnight rate is zero since the banks can't clear them to borrowers.

In turn while rates remain at 0, public deficits of staggering size can be carried easily, like japan has done, regardless of their starting size. Repeat - it doesn't really matter what the existing national debt is when rates are zero.

Ladies and gentlemen, welcome to japan. In these times, worrying about what the monetary system should be is irrelevant, what we really need to look to is reconfiguring our democracies for an era where fiscal spending drives growth.

hpernar's picture
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Re: Insatiable Demand For US Debt, or Something Else?

I really do not see any mystery in this. FED can print godzillions of dollars whenever they want and buy umptillions of TBonds. FED can transfer bajillions of dollars to foreign national banks, so they too could buy squillions of dollars of TBonds. 

David Stockman's picture
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Re: Insatiable Demand For US Debt, or Something Else?

I know you all are missing it here. The truth is that the Fed is loaning money to the foreign central banks at a record pace, and as part of the deal, they - the foreign central banks are buying the US treasuries.  So...this just reafirms the article that Chris has posted.  It is a ponzi scheme. 

David Stockman's picture
David Stockman
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Re: Insatiable Demand For US Debt, or Something Else?

I know you all are missing it here. The truth is that the Fed is loaning money to the foreign central banks at a record pace, and as part of the deal, they - the foreign central banks are buying the US treasuries.  So...this just reafirms the article that Chris has posted.  It is a ponzi scheme. 

futuresman's picture
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Re: Insatiable Demand For US Debt, or Something Else?

Chris:

Perhaps you need to re-post the great analysis you posted a couple of week ago regarding the 'shell game'. From what I read, it goes a long way to explaining what is going on with foreign purchases and treasury rates. It was the best analysis I have seen on the subject.

joe jackson's picture
joe jackson
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Re: Insatiable Demand For US Debt, or Something Else?

Hi CM>   Is this different Foreign Central Bank money than what you explained in "the Shell Game" back in August when you wrote: "The Federal Reserve has effectively been monetizing US government debt by cleverly enabling foreign central banks to swap their Agency debt for Treasury debt."?

Per David lachman querry,  what if foreign central banks or whoever could swap Agency debt for something other than Treasury debt?

SingleSpeak's picture
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Re: Insatiable Demand For US Debt, or Something Else?

Thanks Chris for pulling back the curtain on the hijinx that never stops with the central banks. It makes one crazy knowing that when the whole mess plays out, we get to listen to, "Boy nobody saw this coming, I wonder what happened?"Yell

Erik T.'s picture
Erik T.
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My vote is "Something Else"...

No, there's no government manipulation in these markets. That's just paranoid conspiracy talk. The markets are all perfectly rational and efficient.

Oh, wait a minute...

Not that Chris didn't warn me about trying to trade a rigged market... But that was an expensive "something", whatever it was. When I saw the spike to 121 out of an established trading range, I added to my short, only to watch the long bond futures continue all the way up to almost 124, i.e. a yield figure lower than we've seen since May 20th.

Could it have something to do with clandestine monetization before the upcoming auctions? Naw, that's just conspiracy talk... Not!

Erik

Farmer Brown's picture
Farmer Brown
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Re: My vote is "Something Else"...

Erik,

The same trend is happening in markets throughout the world, even in pissant- countries like mine in Costa Rica.  I spent two hours with bankers this morning and the trend is the same:  private sector debt/credit markets are dead.  Practically the only borrowing going on is with government debt.  Imagine a scenario where ALL the money only has ONE place to go: government debt, because that is the scenario we are currently rapidly approaching.  Now, if someone can give me a good reason why TPTB would bother meddling with bonds issued by a no-name country, please let me know what that is.  CR government 10 year bond, in dollars mind you, currently trading at 5.7%!!!!  The only reason it's 1.7% higher than the US is because it's emerging country debt but come on, why do you think it's that low?  It's not because Goldman is HFT-ing Costa Rican bonds, LOL!   It's because money has NO PLACE ELSE TO GO!!!   It's the same throughout the world.  

The scary part is that the only reason to buy bonds right now is because the price is going up and there will be another sucker to sell them to later.  It's certainly not because of the "fundamentals" of miniscule returns.  Feels a lot like 2005-2006, when you bought a house because obviously it would go up and there would always be a sucker paying more to sell it to.  We all know how that ended. 

ErikTownsend wrote:

No, there's no government manipulation in these markets. That's just paranoid conspiracy talk. The markets are all perfectly rational and efficient.

Oh, wait a minute...

Not that Chris didn't warn me about trying to trade a rigged market... But that was an expensive "something", whatever it was. When I saw the spike to 121 out of an established trading range, I added to my short, only to watch the long bond futures continue all the way up to almost 124, i.e. a yield figure lower than we've seen since May 20th.

Could it have something to do with clandestine monetization before the upcoming auctions? Naw, that's just conspiracy talk... Not!

Erik

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Re: Insatiable Demand For US Debt, or Something Else?

Farmer Brown, is the Costa Rican government currently 'stimulating' the economy by issuing large numbers of bonds?

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Re: Insatiable Demand For US Debt, or Something Else?

Iain Parker comments at interest.co.nz from time to time.

He has pointed to this link http://www.imf.org/external/np/fin/tad/exporta.aspx?memberkey1=710&date1...

From that link

The SDR is an international reserve asset created by the IMF in 1969 to supplement to existing reserve assets. An SDR allocation is a distribution of SDRs to members by decision of the IMF. A "general" allocation requires a finding by the IMF that there is a global need to additional liquidity. Members and prescribed holders may use their SDR holdings to conduct transactions with the IMF.

New Zealand's allocation of SDR has gone from 141,322,000 as at July 31, 2009 to 804,497,747 as at August 31, 2009

This IMF link http://www.imf.org/external/np/exr/cs/news/2009/CSO79.htm talks about SDR allocation.

I've looked at the links. And my brain is suggesting this is important information. Any ideas on Carry Trade implications or USD implications?

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r
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Re: Insatiable Demand For US Debt, or Something Else?

Could the US be considered by other governments, and especially its creditors, "too big to fail"?  The US may still be able to command more debt as one of the world's first super-powers, with capability to destroy the world many times over, and currently the defacto world currency.  Thus, a spiral of lending and borrowing until the other governments realize this cannot go on forever and accept the consequences...

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Farmer Brown
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Re: Insatiable Demand For US Debt, or Something Else?

jdownie wrote:

Farmer Brown, is the Costa Rican government currently 'stimulating' the economy by issuing large numbers of bonds?

They've taken on more debt to meet obligations, and more debt for infrastructure, but that trend pre-dates last year's collapse.  My point is, our bonds are also at very low yields and the glaring reason why is because private sector options for investment have decreased astronomically.  

Jasenica's picture
Jasenica
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Re: Insatiable Demand For US Debt, or Something Else?

Lemonyellowschwin wrote:

Chris,

Don't you suspect that at least some of the demand has come from the printing activities of foreign central banks?

I mean, this level of demand has exceeded expectations for quite some time now, hasn't it?

If all major economies are printing money to fund debt, wouldn't this negate inflationary pressure?

raptor's picture
raptor
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Re: Insatiable Demand For US Debt, or Something Else?

The first poster said it right ;).. Think about it .. would it be very hard for the Central bankers to negotiate between themselves that everybody will print and they will buy each other toxic stuff.. Think also like Chinesse CB, hmm.. why dont  we print money just to buy US treasuries, we have to buy them anyway otherwise we lose our 1T already invested..

The only thing is how to make it so that it does not show up into the real economy... oops easy.. give % on bank reserves, so the bank stuck it with us when they get ty's to shore up thier balance sheets....

see win-win...

and ofcource they dont have full control, so some of it will spill up , right... commodities are up even that we still have demand destruction..

The question is how long they can do that...

May be until they are ready to introduce two-tier money system  SDR on top of $,euro,yen, pound and may be 10% gld or so..

problem solved, all around the world tax payers are stuck with paying the whole mess with future inflation, as long as they can intorduce the inflation slowly over time, everything goes the old way....

Eichmann's picture
Eichmann
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Re: Insatiable Demand For US Debt, or Something Else?

Long term China is in trouble, to continue to prop up the US deficit would bleed them dry. The only intelligent course of action for the Chinese is to quietly convert as much of their paper into hard assets. The US government is silent on this matter, not ignorant, but complicit in a plan to move Americans into a global currency. Gold and silver have value and will be taken from the population to aid in the creation of a new credit system. No more guns, no more freedom of press/speech, etc. Americans will become the property of the Federal government.

nyfiken's picture
nyfiken
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Re: Insatiable Demand For US Debt, or Something Else?

I'm confused.  It seems to me the demand for Treasury Notes / Bonds just is not there:

http://www.treasurydirect.gov/instit/annceresult/press/preanre/2009/R_20091007_1.pdf

Per the Treasury Auction Results pages (for example, the one linked here) a $60B Note was tendered, but not quite $20B was accepted.  Isn't this a disaster?  Same thing with the other Notes and Bonds.  Someone please explain why this is not headline news that even MSM cannot ignore.

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