Rodney Johnson | Wednesday, October 30, 2013 >>
When I give presentations these days I get the chance to annoy audiences. I make them squirm a bit in their seats and cause them to shake their heads in disagreement. I don’t talk about politics or religion… those topics remain taboo. Instead I bring up the U.S. dollar.
More specifically, I talk about how the dollar will get stronger. In many circles, “them’s fightin’ words,” as the old saying goes.
Everyone in the world knows the U.S. is on the path to destruction because it’s ruining its currency and will lose its status as the world’s reserve.
Or will it?
And if it does, who cares?
I know, I know, the U.S. is printing money with abandon. Our government is borrowing money at a rate not seen outside of war. We have entitlement obligations with so many zeroes that they defy logic. And to top it all off, we abandoned our hard-money backing 40 years ago, which means our currency is no longer tethered to anything at all.
Certainly these circumstances mean that other countries will quit relying on the U.S. dollar as their reserve currency. They must. And when they do… what then?
And that’s where the fight starts.
Let’s assume that tomorrow the countries of the world claim they no longer see the U.S. dollar as the reserve currency. They point to our poor financial management and lack of a gold backing, then rightfully say the U.S. is simply just another country with internal political problems…. its currency is no better than that of any other country.
Will this lead to foreign central banks selling masses of U.S. dollars? Will companies suddenly shun the U.S. dollar in favor of a more reputable, better-managed currency from a large country or bloc? Will people rush to a currency backed by gold or silver… or maybe bitcoin? Okay, I threw in that last part just for laughs.
The thinking goes that when – not if, but when – the U.S. loses its status as the reserve currency, foreign central banks, private banks, private institutions and industrial companies will suddenly repudiate all dealings in the dollar and sell all of their U.S. Treasury bonds.
This doesn’t fly for several reasons.
For one, the U.S. is still the richest country on the planet and the largest economy in the world. We still buy and sell lots of stuff. Countries will end up with our currency through normal business transactions, just like they do today.
As for the loss of any backing by gold or silver, that was four decades ago. Any move in our currency that was going to be based on that has already happened.
Keep in mind this is not like when Britain, the last reserve currency, lost its status. There was a changing of the guard in the 1930s and again in the 1940s when world leaders and bankers specifically addressed the question of which country’s currency would be backed by gold.
It didn’t hurt that when WWII ended the U.S. was in possession of 80% of the world’s gold. There was a clear migration from one currency to another.
At this point there is no currency backed by a metal… everyone simply floats along, or is pegged to another currency that floats along (like China being pegged to the U.S.).
As for selling all of those U.S. Treasuries… who would do that? And what would they buy? Lower-yielding German bonds? How about almost “no-yield” Japanese government bonds? They could certainly buy Chinese bonds, but there aren’t that many of them, and the Chinese Yuan is pegged to the U.S. dollar anyway!
The deep markets of government-issued securities, those that have enough supply to provide liquidity and stability, are limited to just a few players. In this small group the U.S. is the highest yielding, the most liquid and has the most control over its currency.
And as far as a downgrade of U.S. debt is concerned, it doesn’t matter one bit. This was proven in 2011 when Standard & Poor’s downgraded us and since that time yields have dropped dramatically. Investors just don’t care as much about a rating as they do about getting their money back.
When it comes to the U.S., unfortunately we can print and ship any amount we want. This assures repayment, at least in nominal terms.
Those betting against the U.S. dollar have been frustrated for years now and will be equally frustrated in the years to come.
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