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Could a Japanese U.S. Debt Selloff Trigger a Dollar Meltdown?


Mac Slavo

With the disaster in Japan being far from over, the question of how Japan will finance their reconstruction efforts has, for the most part, stayed out of focus. According to reports, the damage is estimated in excess of $300 billion, nearly four times higher than hurricane Katrina. This number will likely rise the longer the nuclear crisis remains unresolved. Karl Denninger of Market Ticker says there are several problems facing the Japanese:

(Video interview of Denninger on Fox Business follows excerpts and commentary)

The Tsunami did a tremendous amount of damage to the landscape and once they get that cleaned up they’re going to have to rebuild. And then you’ve got about 8 gigawatts of electrical generation that’s been taken offline and there’s no hope of restoring that anytime in the near future.

So, the capital flows that have gone into Japan from exports are going to turn into capital flows going the other direction because Japan has to buy the materials that it needs in order to rebuild its society.

The main issue in terms of rebuilding is one of funding. While the US may send foreign aid to help get Japan back on its feet, such measures are not very popular due to our already troubled debt levels and spending problems, so any support we provide will be limited. Japan can’t depend on international aid of any significance either, because, well, no one else gives like the US. Private donations may help people on the ground with food, clothing and shelter, but those are a drop in the bucket compared to what is necessary.

Considering that Japan is the third largest economy in the world, they will be left to come up with the money themselves.

Karl Denninger says that how Japan will come up with the money is “an open question.”

How they’re going to manage to do that without either printing more money, which at some point will cause problems over there, or selling some of their Treasuries is an open question.

Japan owns about 20% of all US debt. It’s safe to say that Japan’s regular purchases of US Treasuries are about to come to a screeching halt, or at least, be reduced significantly. This fact alone means someone is going to need to step in to buy up that excess debt. We can all guess, fairly accurately, who will end up with those new issues.

But even if the Federal Reserve were to buy up the new debt that Japan won’t, there is the question of how Japan is going to fund the $300 billion plus in recovery efforts. And given that there is no end in sight, we may be talking about double that amount – no one really knows.

So, the question is, will Japan need to sell off some of its US debt in order to pay for recovery and reconstruction efforts? And if so, could that be the black swan that could trigger the domino effect that will lead to a US debt sell off, and ultimately, a currency collapse? Until a month ago this was nowhere on the radar. Now, we have every reason to be concerned about this possible black swan event. Karl Denninger weighs in:

The obvious thing to do is to sell some of those holdings. The danger for the United States is not tomorrow, it’s a few months out. Right now, they’re still trying to clean up the mess. But once they actually start actively rebuilding they’re going to have to have a way to finance this.

And that’s where the danger comes from, because if Japan was to start unloading Treasuries, it would be reasonable to assume that the Chinese, who hold an even larger amount, would look at that activity and say ‘well, if we don’t sell now we lose even more. Maybe we want to be selling some ourselves.’ And, that puts quite an interesting squeeze into our budget picture for the United States.

In January, Treasury Secretary Tim Geithner confirmed that we are literally on the brink of a catastrophic debt collapse resulting from a need for money and raising of our debt ceiling. So, it is clear that we’re already in serious trouble as it is. If Japan were to stop buying our treasuries and actually start selling their existing US debt holdings, it could potentially accelerate the already destructive path on which we find ourselves.

As we’ve suggested previously, all it will take is for buyers and holders of US debt to say ‘no more’ and the jig is up. Mainly, we’re talking about China, and if they pull the plug on all of the credit they have thus far extended, then we could literally be talking ‘lights out’.

This may be a low probability event, but so was an earthquake driven Tsunami wiping out the generators that powered the fuel rod cooling stations in Fukuskima.

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