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Current time:0:00Total duration:15:27

Video transcript

where we left off in the last series of videos we had the Chinese central bank Chinese central central bank that was trying to make sure that the Wan does not appreciate too much so the way they did that is that they bought up all of the XX dollars using one that they printed so what they do is they print one I'll do the one in I'll do it in this blue color so they print one they print one print one and then they use that printed one to buy dollars in the open market and what that does is it props up the demand for dollars and keeps the price of wan down so then they get dollars so they print one and they buy they buy dollars they buy dollars and as we saw they have to keep doing this in order to keep the the the one in order to keep it deflated or in order to keep the dollar inflated and this is so that they can maintain that they're a favorable balance of trade but as they do this they're just building the stockpile of dollar reserves so they are just building this stockpile of dollar reserves and as we mentioned in the last video they're not just keeping a big vault of dollar bills there they're going to use it to buy assets and they're going to buy liquid and safe assets and the main asset they're going to buy is US Treasury bills so then they take these dollars they take these dollars and they buy US Treasury bills and let me draw some of the other actors here because they can buy it from two separate people there is the United States government so there is the u.s Treasury they are going to issue Treasury bills when they essentially just need to borrow money and then there's other people that have already bought Treasury bills so let me draw them over here so then there are other people there are other people who own Treasury bills so this is someone who owns a Treasury bill right over here wearing a hat a little bit of hair and a mustache so this is someone who owns a Treasury bill so and just to give a review when the US government wants to borrow money people hand the US government money so they hand the US government money I'll draw it as a dollar bill right over there they hand the US Treasury money and then the US Treasury gives them an IOU it gives them an IOU this IOU is what a Treasury bill is I owe you and what it entitles the holder of this piece of paper it allows them to get interest from the Treasury depending on what type of Treasury bill or bond it will be it'll be over a certain period of time I have a whole video on this especially the ones where I talk about the yield curve and then at some future date the US Treasury is going to pay them a larger amount of money than they put back in so this is just this right here is a Treasury Treasury Treasury bond or Bill T Bill if it's a shorter duration Treasury bond if it's a longer duration so this is a Treasury this is a Treasury bond it is a low loan to the US Treasury now the Chinese central bank they have all these excess dollars they can buy Treasuries from either two sources when the US Treasury itself needs to raise funds it will really put these IOUs for auction it will sell them to whoever is willing to take them for the least interest so let me put it this way so what they can do is they can give the money directly to the US Treasury when the US Treasury puts Treasury bills or Treasury bonds up for auction so it can give the money directly to the US Treasury and then the US Treasury will give them one of these IOUs u.s. Treasury will give them one of these IOUs or it could buy it from someone who already has it out in the open market or they can go and just go in the open market this is a very deep very very liquid open market or they can give these people right over here money and then they would transfer the IOU over to this central bank so what is happening at the central bank what is essentially happening here it's essentially happening is the Chinese central bank printing money to buy dollars that will then essentially land to the US Treasury so when this whole you know it looks kind of convoluted they're doing all this but the essence of what is happening here is that the Chinese government you have the Chinese central bank Chinese central bank central bank lending lending to US US government and it might be buying other assets but the Treasury bonds and bills are really the main form of liquid acid they might be buying so what is it what how does this affect the United States other than the fact that instead of owing other investors these this these IOUs it now owes it to the Chinese but what is the net effect of having this player out here having this very significant player out there that is fairly aggressively willing to pay for US government IOUs US Treasuries what is the effect of that well we saw in the yield curve video that the more people willing to give you a loan the lower the interest rates are going to be and I can show you a very simple example of that if I'm looking to borrow and this is not no longer I'm not talking about nations I'm just talking about Sal now let's say that I'm I'm over here I'm over here and I'm looking to borrow ten dollars so I want to I want to borrow I want to borrow ten dollars and I say hey who's willing to give me the best deal on ten dollars and I'm gonna pay you back next week so you might come along you might come along and say you might come along and say I'll lend it to you for ten percent interest over a week so you can pay me I'll do it and you can pay me you can pay me $11 $11 next week so this would essentially be 10 percent interest over the week you give me ten dollars now and if I agree to you then I'll give you $11 in a week that would be ten percent interest but then let's say I don't know Mary comes along and she says oh I can do better than mr. orange guy over there this is Mary I can do better than mr. orange guy over there I can you can pay me I'll lend you $10 and you can pay you can pay me ten dollars and fifty ten dollars and fifty so notice what happened both of these people have $10 to lend they're looking to get some return on their $10 if he was the only player here I'd have to go to him and say okay I'm gonna pay 10% interest then she says no no I also have $10 and gee I would be happy with just a 5% return fifty cents off for my ten dollars in one week that's a good return so right now look at this person but the more people that are the more money that's available to borrow the more competitive this side of the equation is going to be and you lower the interest rate I can get you can imagine even if a third person who says no no no wait I've got $10 I've got $10 let me draw this third person who says I have $10 and you know what it's gonna just gonna be sitting in my bank account doing nothing unless I lend it to you you can pay me you can pay me I don't know ten dollars and 25 cents next week and then I'm gonna go to this person so the larger the number of people willing to lend to me the lower my interest rate will be or another way you could say think of it the larger the supply of money larger supply supply of money to be lent to be lent that leads to lower lower you could view different ways you could view it as lower borrowing costs lower borrowing costs lower borrowing cost which is another way of just saying lower interest lower interest or you could even view it as cheaper money it costs less to borrow the money the cost of borrowing money is the interest lower interest now what does that do what does having lower interest so this is just a small example with me trying to borrow $10 the more people there are the more competitive that is the better interest rate I'll have so you just take that same notion to kind of a macro level the US government is constantly borrowing money the more people out there willing to give it money willing to buy the US government's io u--'s the lower the interest rate will be so the net effect of having this major buyer this major buyer of user of US Treasuries is that having them out there accumulating all of these dollars taking them all out of the foreign exchange markets and then using them to buy Treasuries it lowers the interest rate for Treasuries so the Chinese so the net effect is US interest US Treasury has lower lower borrowing costs borrowing costs lower interest so what does that mean so let's make it very clear so the Chinese Chinese Chinese buy Treasuries buy Treasuries which are essentially loans to the US government then the US has lower borrowing costs US has lower interest or borrowing cost and I'm talking about the government right now borrowing cost and now this has several interesting side effects this means that it's easier easier for the government for the government to finance deficits to finance - finance deficits they don't have to pay as much as on an interest to finance deficits so that means that they can spend more they can give out more payments to two US citizens or they could lower taxes either one the both of those would lead to deficit so it's easier so that they so that the government can either government can spend more spend more or they don't have to raise taxes or they could they could lower taxes because they don't have to spend as much in interest now the other interesting thing that the US the Treasury borrowing costs go down that means that the interest rate on everything goes down this is the benchmark this is one of the benchmark interest rates especially and you should watch the video a little on the yield curve if you want to understand more about it and I know some of you are saying wait doesn't the Federal Reserve set interest rates the Federal Reserve only sets overnight very short-term if you're gonna borrow money overnight in your bank and that's what the Federal Reserve sets if people if the US government is borrowing money over at five or ten years or 20 years that is set by the market that is set by a market mechanism very similar to what I showed just over here so this is dependent on more capital being there to be borrowed so this is so ten-year and 15 year and 20 year debt for the US becomes cheaper but this makes all debt in the US cheaper this makes all debt all debt in u.s. in u.s. cheaper and there's two ways you can think about why this piece happens one is just on a very superficial level people say hey you know someone like General Electric a General Electric is only a little bit more risky than the US government if the US government only has to pay three percent on its ten-year on debt that it has to pay back in ten year maybe General Electric should only have to pay well 30 point three percent more than that so that's one you use the US government as a baseline and then depending on people's risk they pay a little higher spread another way to think about it another way to think about it is up here the Chinese government is just pouring dollars either directly to the US government or into into the actual into the actual US Treasury market so this guy right now he's has more dollars he's not going to use the Treasuries he thinks Treasuries are too expensive which means that their interest is too low so he's gonna take these dollars he got from the Chinese and he's gonna lend it to someone else that dollar is still there he'll lend it to General Electric or maybe he's a he's a credit card company he'll lend it to the consumer so in general all debt all debt in US gets cheaper now what's the net effect of all of these points what's the net effect of this all debt in the u.s. becomes cheaper there's just more dollars for loan in the US more dollars that people can borrow the government is spending more or the government will lower taxes what is the net effect of all of this well people will either have more money in their pockets because they've gotten a government job or they've maybe gotten some type of entitlement payment or they're gonna have more money in their pockets because they're paying lower taxes or they're gonna have more money in their pockets because it's easier for them to put more debt on their credit card or to refinance their mortgage so all of these all of these all of these lead to more cash more cash in American pockets now that's not that's obviously not an unambiguously good thing because not this is all financed with debt it's not just solid debt-free cash so more cash financed in American pockets essentially financed with debt financed financed with debt and this debt as you can see it's either occurring at the credit card level it could be occurring even at the corporate debt level it could or it's occurring indirectly at the government level but it all of this is being enabled by the fact that China is willing to buy Treasuries which means that China is really just willing to lend to the US so what's happening China is lending China is artificially keeping its currency low and it's doing that by buying dollars taking those dollars and invest and essentially lending them to the United States and that eventually ends up in the hands of you're not American people and companies and even the government and what are they going to do well they're gonna buy cheap Chinese products that are artifact artificially cheap because the currency is lower so then they will buy by Chinese and artificially inexpensive and obviously you know they do have lower labor costs and all of that but it's even lower to an American than it would be if the currency were allowed to freely float by Chinese products so the net effect of this entire this entire scenario that I've been describing over the last few videos is that the Chinese are essentially lending money to the Americans to then go ahead and buy more Chinese products