Hamish McRae: Don't panic, but if you want to play it safe, stick with the US, Germany or Britain

Economic Life: Tax cuts introduced originally by President Bush expire, and several spending cuts take place

Where is the safest haven now? The past few days have seen another wave of fear in the markets for all the obvious reasons. But whereas in previous bouts of panic there has been a surge of funds into the perceived safe havens of German, US and UK government securities, this time things feel a little different.

To view graphic click here

To take the crude marker of safe-haven status, the 10-year sovereign-bond yield, whereas German rates got down to about 1.2 per cent, US to 1.5 per cent and UK to 1.6 per cent, yesterday, the equivalent rates were 1.48 per cent, 1.65 per cent and 1.73 per cent.

You can explain the rise in German bond yields by the growing awareness that Germany will probably have to give some sort of guarantee for other countries' eurozone debt; that will undermine its own creditworthiness. And you can explain the shift in the UK position by the British economy's wobbly performance, which threatens to derail the Coalition's deficit-cutting programme. But the US?

The US has the largest deficit as a percentage of gross domestic product (GDP) of all the major economies, and of course by far the largest in absolute terms. It has been able to finance that because of the prime role of the dollar in international finance and because it has suited the world's saving nations, most notably China, to pile up US government assets, thereby holding down the value of their own currencies.

As a result, the US deficit reached a peak of 12.5 per cent of GDP, as you can see from the main graph

It has begun to make some reduction in the deficit, currently 8.1 per cent of GDP, but the overall debt is still piling up. It is now more than 100 per cent of GDP, having reached $15.7trn (£10.1trn).

President Obama inevitably gets some of the blame for it, for the debt was $10.6trn on President Bush's last day in office, but the reality is that things started to go wrong much earlier. As you can see from the top graph, the fiscal position was actually in surplus in 2000.

For the moment, everything is on hold until the election, but the next president will have to tackle it.

I have been looking at some calculations by Andrew Smithers of Smithers & Co as to how this might be done.

The issue is simple enough: the choice, as he puts it, is "between reducing the deficit too rapidly, not reducing it at all and finding the right balance in which the reduction is credible enough to hold inflationary expectations at bay without precipitating another recession".

Too fast and you get a recession; too slow and you also get a recession; for inflationary expectations will rise, interest rates will rise sharply and that will choke off demand.

But getting the balance right will be difficult. Mr Smithers takes the view that the best outcome would be a deficit-reduction that is credible but delayed until 2014 when the US current account improves. His argument is that the US should wait until the eurozone situation is clearer.

There is, however, a complication. Unless action is taken, fiscal policy tightens sharply at the end of this year.

A number of tax cuts introduced originally by President Bush expire and, in addition, several spending cuts automatically take place. This was the deal he did with Congress: you can have the tax cuts provided they are temporary.

You may think this is a nutty way to run a country's finances and you would be right. But the US has maintained sufficient, international confidence in its economy that it has been able to finance its deficit, notwithstanding the low level of personal savings.

These have recovered a little but remain lower than at any stage for the past 60 years, as shown in the next graph.

That leads to another phenomenon: personal savings are low, but companies are flush with cash. Indeed, profit margins are higher now than at any stage for the past 80 years, as you can see from the final graph.

Part of the correction of the fiscal deficit will probably be associated with a return of profit margins to more normal historical levels.

At any rate, the US will have to do something about fiscal policy next year and the chances of it treading this fine line between too sudden a tightening and too lackadaisical an approach seem a bit thin.

If that is right, how long can the US retain its safe-haven status? Well, we will have to see what happens in the election, and there is no point in adding to the growing pile of speculation about that.

The central point is the mathematics are the same whoever wins, and those maths require a tightening of fiscal policy.

This will also, I think, have to take place against a tightening of monetary policy too, for at some stage during the next couple of years the interest cycle will turn and the world will have to live with higher, long-term yields.

It is just possible we have passed the turning point. It is at least conceivable that long-bond yields for the major economies will never be as low as they were earlier this year.

My own feeling is that as everyone accepts that the present, long-bond yields are exceptional, some rise could be sustained without panic. In other words, it is quite plausible that the safe-haven status of Germany, the US and to a lesser extent the UK, can be more or less sustained for some while.

But I do worry that the US will mismanage its fiscal tightening programme — and the risks of that are not yet fully appreciated either by the US authorities or the rest of us.

Start your day with The Independent, sign up for daily news emails
ebooks
ebooksAn introduction to the ground rules of British democracy
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
SPONSORED FEATURES
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Mortgage Administrator

£20000 - £25000 per annum: Recruitment Genius: We are a vibrant and establishe...

Recruitment Genius: Payments Advisor

£15000 - £20000 per annum: Recruitment Genius: An experienced Repayments Advis...

Recruitment Genius: Investment Analyst

£25000 - £30000 per annum: Recruitment Genius: This leading provider of financ...

SThree: Trainee Recruitment Consultant

£20000 - £25000 per annum + competitive: SThree: Are you looking to take your ...

Day In a Page

Migrant crisis: UN official Philippe Douste-Blazy reveals the harrowing sights he encountered among refugees arriving on Lampedusa

‘Can we really just turn away?’

Dead bodies, men drowning, women miscarrying – a senior UN figure on the horrors he has witnessed among migrants arriving on Lampedusa, and urges politicians not to underestimate our caring nature
Nine of Syria and Iraq's 10 world heritage sites are in danger as Isis ravages centuries of history

Nine of Syria and Iraq's 10 world heritage sites are in danger...

... and not just because of Isis vandalism
Girl on a Plane: An exclusive extract of the novelisation inspired by the 1970 Palestinian fighters hijack

Girl on a Plane

An exclusive extract of the novelisation inspired by the 1970 Palestinian fighters hijack
Why Frederick Forsyth's spying days could spell disaster for today's journalists

Why Frederick Forsyth's spying days could spell disaster for today's journalists

The author of 'The Day of the Jackal' has revealed he spied for MI6 while a foreign correspondent
Markus Persson: If being that rich is so bad, why not just give it all away?

That's a bit rich

The billionaire inventor of computer game Minecraft says he is bored, lonely and isolated by his vast wealth. If it’s that bad, says Simon Kelner, why not just give it all away?
Euro 2016: Chris Coleman on course to end half a century of hurt for Wales

Coleman on course to end half a century of hurt for Wales

Wales last qualified for major tournament in 1958 but after several near misses the current crop can book place at Euro 2016 and end all the indifference
Rugby World Cup 2015: The tournament's forgotten XV

Forgotten XV of the rugby World Cup

Now the squads are out, Chris Hewett picks a side of stars who missed the cut
A groundbreaking study of 'Britain's Atlantis' long buried at the bottom of the North Sea could revolutionise how we see our prehistoric past

Britain's Atlantis

Scientific study beneath North Sea could revolutionise how we see the past
The Queen has 'done and said nothing that anybody will remember,' says Starkey

The Queen has 'done and said nothing that anybody will remember'

David Starkey's assessment
Oliver Sacks said his life has been 'an enormous privilege and adventure'

'An enormous privilege and adventure'

Oliver Sacks writing about his life
'Gibraltar is British, and it is going to stay British forever'

'Gibraltar is British, and it is going to stay British forever'

The Rock's Chief Minister hits back at Spanish government's 'lies'
Britain is still addicted to 'dirty coal'

Britain still addicted to 'dirty' coal

Biggest energy suppliers are more dependent on fossil fuel than a decade ago
Orthorexia nervosa: How becoming obsessed with healthy eating can lead to malnutrition

Orthorexia nervosa

How becoming obsessed with healthy eating can lead to malnutrition
Lady Chatterley is not obscene, says TV director

Lady Chatterley’s Lover

Director Jed Mercurio on why DH Lawrence's novel 'is not an obscene story'
Farmers in tropical forests are training ants to kill off bigger pests

Set a pest to catch a pest

Farmers in tropical forests are training ants to kill off bigger pests