The Impact of Global Capital Flows and Foreign Financing on US Mortgage and Treasury Interest Rates

Title: The Impact of Global Capital Flows and Foreign Financing on US Mortgage and Treasury Interest Rates

Date: 10/1/2007

Author(s): Ashok Bardhan and Dwight Jaffee

Executive Summary:

Almost 45 percent of U.S. Treasury securities and just under 20 percent of U.S. Agency securities (bonds and mortgage-backed securities (MBS)) are currently held by foreign investors. This paper addresses some key questions concerning these large foreign investments in U.S. Treasury and Agency securities: Are these investments sustainable? What is the likely impact on U.S. Treasury and mortgage interest rates if foreign investors begin to redeploy their investment resources? What could be the triggering or tipping points in China's diversification strategy? We trace the increase in foreign holdings of U.S. securities, analyze the different possible scenarios that could unfold and their potential impact on interest rates, evaluate the likelihood and possible timing of the changes in demand, and consider and speculate on the political economy of China's motivations and purchasing behavior.