I recently received an e-mail from a reader regarding the post, The Problem with Hoarding, or, Don?t Play a Game with Someone Who Can Change the Rules. Here it is:
Why pick the year 2020 for a max? I like the previous post about the US Dollar and the 5 stages of grieving
That previous post was the one that first got me hooked on Aleph. Google found it for me when I was searching for some answers on what the heck was going on in the world.
Let me clarify. By 2020, I don’t think the US Dollar will be the world’s reserve currency. It may happen sooner than that. As for the five stages of grieving, that applies to the intermediate-term, and maybe the short-term. It certainly sounds like the G-7 is entering the stage of bargaining. If they decide to do a currency intervention, I hope they remember The Four Rules of Currency Intervention. It would save them money, whatever money is nowadays.
We are getting close to an inflection point here.? The pips are beginning to squeak.? Be ready for an intervention; and be prepared for it not to work, unless they follow the four rules.
The volume of prudential reserves held by each E-D bank presumably is dictated by ?prudence? ? not by any legal requirement administered by a monetary authority. All prudential reserve banking systems have heretofore ?come a cropper?. Money creation by private profit institutions is not self-regulatory- the ?unseen hand? simply does not function in this area. Invariably the systems created too much money, speculation became rampant, inflation distorted and destroyed economic relationships, confidence that the banks could meet their convertibility obligations eroded, ?runs? on the banks caused mass banking failures, and entire economies were left in ruin.
If the Euro-Dollar system is not to repeat the tragic record of all previous prudential reserve banking systems two thins are necessary: (1) the U.S. dollar must remain acceptable as the world?s transactions currency (This requires that the chronic deficits in the U.S. balance of payments cease), and (2) the E-D system must be subjected to the restraints of controllable legal reserves and reserve ratios.
But the alternative is, at some point in time, a flight from the U.S. dollar and, therefore, the Euro-dollar. This will generate hyperinflation in terms of U.S. and Euro-dollars, and an international financial crisis of unprecedented proportions. If history is a guide it is obvious these requisite conditions will not be achieved.
We can help terminate the current account deficit by (1) the U.S. government drastically reducing its overseas military expenditures ? or by transferring most of the cost of maintaining bases and personnel to foreign governments; (2) revitalizing a large segment of U.S. industry so that it will be able to compete in foreign markets; (3) sharply reducing our dependence on foreign energy sources; and, (4) increasing the attractiveness of foreign long-term investment in the U.S.
With a chronically depreciating dollar foreigners will be much less inclined to invest in the U.S. on a creditor ship basis, thus pushing up interest rates. The rising cost and diminishing volume of imports will contribute to an increase in inflation, and the expectation of further inflation will also push up interest rates. This spells stagflation.
A weak currency is not a cause; rather it is a symptom of a weak, noncompetitive economy. In time, of course, a declining dollar will eliminate the deficit in our balance-of-trade. But the price exacted will be a sharp decline in imports, principally oil, and the purchase of foreign services, reflecting our relative poverty and inability to compete in the international economy. The fact that we are the world?s number one producer of smart bombs will not arrest that trend.
The real culprit seems to be the cost of our products relative to their quality. Inferior is not a good buy at any price. We are even getting a reputation for inferior products.
Analyst claim that the Chinese $1.43 (Sept07) U.S. FOREX reserves could buy Microsoft, Citibank, ExxonMobil Corp, General Motors and Ford. And worse, the combination of other major U.S. bilateral trade deficits exceed those of China. E.g., Japan had $915 (apr07) in U.S. FOREX reserves, Euro-zone $451, Russia $372.
The problem is that further depreciation of the dollar will not correct our foreign trade deficit. In fact, further depreciation will only make our stocks and real estate even cheaper and even more attractive as a safe haven in this dangerous would. We are now currently selling our birthright for a mess of pottage. We are becoming a financial hostage to the Pacific Rim, their plantation if you will.
If the trade deficits, even though reduced from present levels, will continue; the future course of the dollar will be down, unless the payments gap is filled by foreign investment.
No country has become and remained a world power if it is a world debtor and has a weak currency. From these unwanted events we can expect a vicious level of stagflation that will become an enduring feature of our economic landscape. And the United States will be forced into a high degree of economic isolation, operate under a command economy and perhaps into an increasingly totalitarian mold.