Those with doubts about the sustainability of the current US expansion (the doom and gloom caucus according to some) have long argued that there were two different scenarios that might give rise to a potentially nasty economic slowdown.

One scenario centers on what Tom Palley calls foreign flight.    Nouriel and I put forward a variant of that argument back in 2005.    We argued that there was a meaningful risk that neither private investors nor central banks would be willing to finance an expanding US current account deficit.   Without the needed influx of funds, the US economy would slow, perhaps sharply.    Interest rates – market ones – would rise.   They would rise to the point where the US got the inflows it needed but the process would be messy.  

Another scenario centers on what Palley called consumer burnout.   The US consumer would no longer be willing (or perhaps no longer be able) to borrow to spend, so stagnant real wages would imply stagnant growth in consumption …  

I think it is fair to state that the first scenario hasn’t materialized.    The TIC data shows that foreigners bought over $1000 billion in US debt and equities over the past 12  months.    The April and May inflows were a little on the weak side.  $75b a month sounds like a lot, but it is only a $900b annual pace.   But even $900b is a lot more demand for US debt than I would have expected a few years ago. 

Nouriel’s current recession story (and DeLong’s worries/ Krugman's concerns) hinge on consumer burnout.   Combined with inflationary pressures that keep the Fed from cutting and thus keep long-term rates higher than they have been and housing weaker than it has been … 

Which brings me to oil.

I certainly didn’t anticipate it at the time, but in retrospect, high oil prices seem to have played a big role in warding off foreign flight.    Oil companies are not the only folks out there budgeting for $25 a barrel oil.  Most oil exporting-countries are too.  Which means that they are building up their external assets like mad.  (Continues)