From Dan Denning in St. Kilda:

--It's a strange old world. An auction of $44 billion worth of two-year U.S. Treasury notes went off without a hitch. Even the yield on ten-year U.S. notes fell as investors...did what? Expressed their preference for short-term U.S. debt rather than say, Greek debt or stocks in general. Both the S&P and the Dow were down.

--Why is that strange? Well, it's only strange if you describe the move as a "flight to safety." U.S. bonds are anything but safe, once you take a good hard look at the nation's balance sheet. But maybe they are relatively safe. That is, they are better than Greek or other sovereign bonds.

--But as we've said before, the rally in the U.S. dollar and in U.S. sovereign debt is driven more by a preference for short-term liquidity than anything else. You can tell this is true because for longer-dated bonds, demand is weak. No one wants to lend to the Nation State for 30 years anymore.

--"Longer-dated U.S. Treasuries fell on Monday as relatively soft demand in an auction of 30-year inflation-protected bonds added to uncertainty over the market's ability to absorb record new issuance this week," reports Chris Reese at Reuters. He writes that, "The 30-year Treasury inflation-protected securities sale marked a bit of a lacklustre start to this week's round of $126 billion of U.S. government debt issuance, producing yields that were well above expectations."

--"So what?" you say. "Who cares if the U.S. yield curve is getting steeper? What does it matter to Australia if global investors prefer short-term U.S. debt and not the longer term or inflation adjusted issues? Big deal!"

--Well, anything that brings us closer to sovereign debt crisis in the U.S. certainly IS a big deal. The next phase of that crisis is much steeper yields at the long end. That's the part of the market the Fed doesn't control (at least directly). For example, much steeper ten-year yields would be bad for the U.S. housing market. Thirty-year U.S. mortgage rates key off of the ten-year yield.

--What's bad for U.S. housing is bad for U.S. banks. And what's bad for U.S. banks is probably bad for a lot of banks, including Australian ones. But we've hoed this row before so we won't do it again.

--What about China, though? RBA governor Rick Battelino

--Battelino says, "It's hard to put a finger on exactly how much investment is going to take place, but I don't think it's unreasonable to expect mining investments to rise to 6 per cent of GDP over the next few years. That would be about twice as high as it got to in the previous boom. It's a very big boom."

--He reckons the boom could last into the 2020s. "Past booms do not seem to have lasted more than about 15 years before resource depletion or international or domestic developments acted to slow economic activity and bring the boom to an end." But fear not!

--"On this occasion, the growth potential of countries such as China and India suggests that the expansion and resource demand could continue for an extended period. Whether this eventuates, however, will depend on, at least to some extent, the economic management skills of the authorities in these countries, not to mention our own."

--But there are plenty of sceptics on the China story already. Our old friend Marc Faber told Bloomberg that, "It does not make sense for China to build more empty buildings and add to capacities in industries where you already have overcapacity. I think the Chinese economy will decelerate very substantially in 2010 and could even crash."

--And what would that mean for Australia and Aussie socks? Quite a lot, of course. Faber says that, "If the Chinese economy decelerates or crashes, what you have is a disastrous environment for industrial commodities."

--That couldn't be any clearer.

--But maybe we are overly pessimistic. We're hopping on a plane tomorrow and headed to the other side of the world to discuss these and other matters with some old friends who've been in the investment game for a long time. If they are more sanguine about things, then we'll be really worried.