Bernard Hickey: Dash for cash leaves questions unanswered

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Governments around the world are gearing up to borrow and spend unprecedented amounts on infrastructure, tax cuts and social spending in Keynesian-style attempts to boost their flagging economies. But the question rarely asked so far is: who is going to pay for it all?

The immediate answer is someone else right now, and then taxpayers sometime later. But who else will lend the money right now and when will we have to pay it back?

The inevitable result is taxpayers now and in the future will have to pay for this extra spending, often many times over once interest payments are included. In the desperation to avoid a long and deep recession, policy makers are choosing to spend now and deal with the consequences later.

This may be the right thing to do, given the fallout from a deflationary depression and economic collapse would be much deeper and longer-term than the big rise in public indebtedness. But it is a debate that should be had.

It's worth teasing out just how this spending and borrowing will unfold and how it might affect interest rates and taxes. Let's start with the biggest economy and the heaviest borrower.

The United States is set to borrow well over US$2 trillion ($3.7 trillion) over the next two to three years, which will soak up much of the cash available on global credit markets for government borrowers, including New Zealand.

Don't say it loudly, but the US is hoping China and Japan will buy many of the bonds it plans to issue over the next couple of years.

These North Asian exporting powerhouses essentially lent America the money to go on a consumption binge from 2004-07. It made sense for China and Japan because Americans spent much of the money buying Chinese and Japanese exports.

This heavy buying of US dollars to buy US bonds also suppressed the value of the yen and yuan, again boosting their export earnings.

The assumption is that the Chinese and Japanese, who now hold more than half the US Treasury bonds in non-US government hands, will keep on buying. Many question this assumption, given the US dollar's drop against these currencies and the heavy spending by both the Chinese and Japanese governments to bolster their own economies.

The one saving grace for all these governments, including our own, is that private investors are desperate to get their hands on government bonds right now because they don't trust many other types of investments.

But at some stage that private investor appetite will dry up, particularly when bond yields start rising and prices start falling, as they inevitably will once the huge bond issues hit the market through 2009 and 2010.

This all has implications for New Zealand's new National Government and taxpayers in the longer term. The Government's debt-to-GDP ratio is set to double over the next decade under the weight of new bond issues.

There is a significant risk that the mere act of selling these bonds will put up longer-term interest rates in New Zealand, which are the ones many have relied on in the form of their fixed mortgage rates.

The decision this week by Standard and Poor's to put New Zealand's AA+ sovereign credit rating on review for possible downgrade is another warning sign that simply spending our way out of trouble is no easy option.

National may well face some tough decisions in 2010 and 2011 in the run-up to the next election about how to reduce its borrowing funding deficits to keep interest rates low and avoid credit rating downgrades. These could include big spending cuts or tax increases.

* Bernard Hickey is the managing editor of, a website for investors and borrowers wanting free and independent news and information about interest rates, banks, finance companies and the economy.

- Herald on Sunday

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