U.S. Capital Flows and the Dollar

March 15, 2010

According to Treasury Department data released today, net U.S. capital inflows contracted abruptly in January, a month that saw the dollar advance by 3.2% against the euro, 2.6% against the Swiss franc, and 1.1% relative to sterling.  Against commodity-sensitive currencies, the dollar appreciated 3.6% against the kiwi, 2.1% against the Canadian dollar and 1.6% against the Australian dollar.  The one significant dollar depreciation in January was a 3.0% loss against the yen.

Three definitions of aggregated net capital flows are calculated by the Treasury.  The table below compares January to period averages in the fourth quarter of 2009 and the calendar years 2007 through 2009.  Definition #1, the narrowest of them, counts only transactions involving long-term securities,  The middle definition adds in swaps and certain other long-term portfolio flows, and definition #3, the broadest measure, also embodies trades in short-term capital.  Figures are expressed in billions of U.S. dollars per month to enable comparisons between periods of different length.

USD bn January 4Q09 2009 2008 2007
Def’n 1 19.1 69.7 36.8 41.5 64.7
Def’n 2 0.9 57.3 20.2 25.0 45.1
Def’n 3 -33.4 20.0 -23.8 55.4 51.0


All classifications of assets saw foreigners less interested in U.S. securities in January than in December 2009.  Net buying of Treasury notes and bonds declined by $8.6 billion to $61.4 billion.  Net sales of agency bonds amounted to $5.0 billion after being zero the month before.  Net sales of corporate bonds widened more than threefold to $25.5 billion from $7.9 billion, and net buying of equities dropped $15.8 billion from $20.1 billion in December to $4.3 billion in January.  U.S. buying of foreign long-term securities were relatively stable, sliding from $18.9 billion in December to $17.0 billion in January.

Net capital inflows are needed to finance the chronic U.S. current account deficit.  Fourth-quarter current account figures due Thursday are likely to show a somewhat wider imbalance.  That report will from the Commerce Department will provide more comprehensive information on capital flows, for example with the inclusion of direct investment which Treasury’s so-called TIC data omit.  The advantage of TIC lies in its timeliness, since today’s report already captures what happened in January.  The disadvantage of the TIC, aside from incompleteness, is that more often than not the data do not appear to reflect what happened to the dollar.  Information that doesn’t explain past market behavior readily is not very helpful as a predictive tool.  The dollar remained well-bid after

The disconnection between dollar behavior and reported securities transactions is useful, however, in exposing one oversimplification that is often made by currency analysts, and that is the presumption that currencies rise automatically when interest rate spreads become more favorable.  The truth is that changes in currency values and interest rates, as well as flows of capital, are all determined simultaneously in the marketplace.  One should not look at a change in one of these variables and conclude that such means another variable will react in a prescribed way.  They adjust together in response to more fundamental economic developments.  Thus one finds numerous anomalies like the contrast between Fed policy in 1994-5, when the federal funds target doubled to 6.0% in the space of a year but the dollar in that period fell 12.3% against the mark and 8.1% against the yen.

Copyright Larry Greenberg 2010.  All rights reserved.  No secondary distribution without express permission.

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