For some reason, foreign governments and foreign central banks continue to buy U.S. government debt. The Chinese and Japanese governments are by far the largest holders. The "leaders" of these countries are mostly Keynesians or some sort of off-shoot. You could also call them mercantilists. They are stupid to continue to fund Congress' spending spree. The Chinese and Japanese governments would be better off buying gold. Actually, they would be better off accumulating nothing and just allowing their economies to be free. Although the Chinese government has been more openly talking about buying gold, it is not anywhere near to the extent of U.S. government debt.
These foreign governments are basically subsidizing U.S. consumers. This is good for most U.S. residents, at least in the short-term. The bad part is that the foreign governments are helping to support a bad habit (spending by Congress). It is like a parent that keeps giving money to the irresponsible kid.
When foreign governments buy U.S. treasuries, it means that the Congress can keep running up the debt without having to worry about who will buy its bonds. If, for example, the Chinese government said "no more", or even worse, if it started selling U.S. debt, then other buyers would have to step in. It could be other foreign governments. It could be foreign citizens. It could be U.S. citizens. And of course, it could be the Federal Reserve.
In order to entice buyers, interest rates would go up. This means the federal government would have higher interest costs. This means that there will be even more deficit spending, unless Congress makes cuts to the budget (yeah right).
It is just hard to grasp how these foreign governments could be so stupid. They should easily see the writing on the wall. With QE2 in full force, the dollar has nowhere to go but down in the future. The Chinese and Japanese will get paid back in dollars that are worth less, while getting paid tiny amounts of interest. They are central planners and they don't understand economics.
The free ride in the U.S. is almost over. The politicians in DC will continue to spend like crazy until they are forced to cut back. The Chinese and Japanese politicians will continue to be stupid for a while longer and hold onto U.S. government debt. But the market will straighten things out eventually. There will be a day when rates will go up and the Fed will be forced to create new money to support the spending habits in Congress.
The ultimate day of reckoning will be when the Fed faces a complete destruction of the dollar. The Fed will have to stop the money flowing or else face hyperinflation. When the Fed stops the money flow in an attempt to save the dollar, then the politicians in DC will really be squirming. They will face angry voters. They will be forced to cut spending on a massive scale. They will face a similar circumstance as what many states are facing. It will just be on a much larger scale.