With Treasury markets already nearing the brink, could a cyberattack push them over the edge?
A ransomware attack hit China’s biggest bank, the Industrial and Commercial Bank of China (ICBC) on Thursday, preventing it from settling some trades in U.S. Treasuries. News of the attack riled some participants in the Treasury market, with news stories citing as proof a spike in yields as the Treasury Department was auctioning $24 billion of 30-year bonds.
But the attack caused no lasting material harm and transactions were rerouted quickly. Despite ICBC’s size, the part of the bank that handles Treasuries only has about $23 billion in total assets, just a small portion of which would’ve even been available for purchasing new Treasuries last Thursday. That’s a drop in the bucket compared to the whole Treasury market.
The spike in bond yields that day was simply a function of supply and demand – the Treasury is trying to auction more bonds at low rates than people want to buy.
After borrowing $1.7 trillion last fiscal year, the government borrowed more than $500 billion in the month of October. It now expects total borrowing for the first half of this fiscal year to be $1.6 trillion, meaning the federal deficit is on track to double in a single year.
But while the Treasury increases borrowing at a breakneck pace, prospective buyers have less savings with which to buy its bonds, in part because inflation has decreased disposable incomes. The rise in demand coupled with a fall in supply means yields must increase.
But markets are also waking up to the reality that Treasuries aren’t truly a risk-free asset. Over the last three years, investors have relearned that default isn’t the only risk – there is also interest rate risk. And the tuition at life’s school of finance is steep: many Treasury bonds purchased in 2020 have now lost half their value because of the change in interest rates.
Moreover, Treasury bonds, like all fixed-income assets, have been shellacked by inflation during the Biden administration, which has caused the dollar to lose more than 17% of its value in a shockingly short time. In inflation-adjusted terms, Treasury bond holders have literally paid the government for the privilege of lending to it.
Even worse for Treasury markets, investors are realizing that default could come sooner rather than later. Continued runaway spending by the Biden administration has ensured that multitrillion-dollar deficits are not a one-time fluke from the pandemic, but a structural problem in federal finance.
The debt has exploded past $33.7 trillion with interest on the debt exceeding $1 trillion annually – and rising fast. The Biden administration is now in a vicious cycle in which the increased cost of servicing the debt is pushing the deficit up even more, adding further to the debt, which means more interest expense, and so on.
The spending and borrowing are also fueling inflation, which has pushed up interest rates, and that increases the cost of servicing the debt yet again. Eventually, the federal government will have to either default on its obligations or inflate them away, à la the Weimar Republic. Both options leave bond holders with trillions of dollars in losses.
It’s no surprise U.S. debt was downgraded earlier this year and that the outlook on U.S. debt was revised down, meaning another downgrade is increasingly likely.
With trillions of dollars in losses already on the books and the writing on the wall for long-term disaster, foreigners have been dumping their dollars and dollar-denominated assets, especially Treasuries. With the Biden administration politicizing the dollar and wielding it as a geopolitical weapon, countries are now less likely to use the dollar as a reserve or for international trade.
China is salivating at the prospect of the dollar losing its role as the cornerstone of the global financial system. America’s financial dominance has been a key to her military supremacy and China is lusting after both.
While the Biden administration directly dismantles the dollar’s dominance domestically, China might speed the process along with oblique methods such as cyber warfare. By striking at the heart of financial systems, state actors can exacerbate a perception of volatility and unreliability surrounding the dollar – a perception that quickly becomes reality like a self-fulfilling prophecy.
With Treasury markets already nearing the brink, could a cyberattack push them over the edge? Was ICBC the real target, or might state actors have been aiming for bigger game – the U.S. dollar?
Consider that a United States grappling with financial chaos is less likely to intervene or react decisively in international crises. That paralysis is particularly advantageous for China in regions like Taiwan, the Philippines, or Japan’s Senkaku Islands, where U.S. hard power has been a counterbalance to Chinese ambitions.
The notion that the U.S. might find itself financially incapacitated – to the point of being unable to project military power, like deploying its fleet across the Pacific – is a startling, yet not entirely improbable consequence of a sustained financial cyber warfare campaign coupled with unsustainable deficit spending.
Of course, it’s hard to beat something with nothing and the Chinese yuan has major problems of its own, such as a lack of transparency and China’s own massive debt.
But unsustainable U.S. deficit spending recalls the situation of the British pound in 1918. At the end of World War I, Britain emerged victorious but financially depleted, providing an opening for the U.S. dollar to replace the pound as the world’s leading currency.
China today is looking for a similar opening and the Biden administration’s financial depletion of the U.S. will make any cyber warfare from Chinese state actors more effective. Real warfare follows.