05.31.2009 0

Special Report: The Gathering Storm over the Dollar Bears No Quarter

  • On: 06/19/2009 09:58:04
  • In: Monetary Policy
  • By Robert Romano

    At the end of the day, the U.S. dollar, and assets denominated in dollars, may not be worth the paper they’re printed on as storm clouds gather over the nation’s future prosperity. And the world is taking ominous note.

    At the recent BRIC summit in Yekaterinburg, the U.S. requested to be an observer, and was refused. In the lead-up to the conference, signals from both Russia and China indicated both are seeking alternatives to the dollar’s status as the world’s reserve currency, as explained in a recent backgrounder from Americans for Limited Government.

    Proclamations from central banks and heads of state concerning the safety of dollar assets are occurring almost daily. And even when such a statement is in favor of the dollar, such as Japanese Finance Minister Kaoru Yosano’s recent declaration, it is hardly believable. He said, “We have complete trust in the fact that the U.S. views its strong-dollar policy as fundamental. So our trust in U.S. Treasuries is absolutely unshakable.” Why? Because, he said, “We have complete faith in U.S. economic and fiscal policy.”

    That, of course, is a scary thought. Is he talking about the same fiscal policy that now projects a $1.85 trillion budget deficit, spit out a $787 billion “stimulus” with no money in the bank to back it, just approved a $108 billion expansion of the IMF, and now proposes a trillion-dollar health care plan—all this year alone? The same monetary policy where the Federal Reserve is printing fiat greenbacks to purchase more than $300 billion of U.S. treasuries to finance the debt? The same entitlement policy that has produced more than $104 trillion in unfunded liabilities to Medicare and Social Security?

    “The U.S. dollar’s position as the world’s reserve currency isn’t under threat,” Mr. Yosano trumpeted. It isn’t? Then what does he make of China and Russia beating the drums for the dollar to be replaced with Special Drawing Rights (SDR)-denominated bonds issued by the International Monetary Fund (IMF)? As ALG News has previously reported, the dollar is in danger.

    Somewhat curious is that Mr. Yosano’s statement was issued just days after two Japanese men were caught attempting to cross the Italian-Swiss border with what appeared to be $134.5 billion worth of U.S. treasuries. Although they have turned out to be apparent fakes, is it possible the statement was made to preempt suspicions that Japan was dumping its bonds on to the black market?

    If so, then the dollar may be in a more precarious position than officials like Mr. Yosano will care to admit. And even if Mr. Yosano’s statement had no connection to the Italian incident, they were still out of necessity because to date Japan remains overly exposed to dollar assets to the tune of $685.9 billion as of April. Certainly, they are in response to his counterparts in China and Russia who have overtly questioned the safety of the dollar.

    Now China and Russia have said they want the yuan and ruble added to the basket of currencies that constitute the SDR. Their proposed reforms also including adding gold, the Australian, and Canadian dollars. The effect? Diluting the impact of a fall in dollar assets upon the value of the SDR. In addition, both China and Russia have recently agreed to deal with each other in rubles.

    The fact is, whether Mr. Yosano will admit it or not, U.S. fiscal and economic policies are the reason why the dollar is in danger. And one would think that Mr. Yosano would have at least a modicum of knowledge on the subject since the same breed of bad fiscal policies in particular are why Moody’s downgraded Japan’s debt.

    For comparative purposes, Japan’s downgrade was in the face of its debt rising to 197 percent of GDP. And that’s a pittance when compared to the U.S. monetary miasma. Between the U.S. national debt of $11.4 trillion and the $104 trillion unfunded liabilities, plus the $8.6 trillion left to disburse in the U.S. financial rescue plan, U.S. taxpayers are technically on the hook for more than $124.03 trillion—or 869.5 percent of the 2008 GDP of $14.264 trillion.

    The fact is, if the dollar declines in value, the biggest losers are holders of U.S. assets, namely, countries like China, Japan, Saudi Arabia, and others. And that’s one reason why the rest of the world is so eager to stop playing Monopoly with U.S. money. Though, of course, to be politic, they are—at least verbally—hedging their bets at this point.

    Even the Russian Finance Minister Alexei Kudrin recently stated that “It’s too early to speak of an alternative” to the dollar. Russian President Vladimir Medvedev’s economic adviser Arkady Dvorkovich has said he views the transition away from the dollar as a gradual process: “It can’t happen fast, new reserve currencies emerge as economies of the countries issuing them gain strength… Least of all now we need shocks at the currency markets. Any additional shocks are bad during the crisis. No one wants to bring the dollar down.”

    And of course he would say that, not wanting to prompt a run on the dollar before they can dump all of their assets.

    So far, Russia is selling some of its $137 billion of treasuries to make room for its planned purchase of $10 billion of SDR-denominated bonds. China will be purchasing $50 billion of the IMF bonds, and Brazil $10 billion. Overall, international demand for U.S. assets slowed in April, and China again sold more treasuries in May along with South Korea and Taiwan, as reported by Bloomberg News. “Central banks are diversifying reserves to seek higher returns and reduce their links with the dollar,” says Bloom berg. Also of note from the same report, Kuwait ended its peg to the dollar on May 20th.

    Axel Merk writes that, “If, on the margin, countries increase their non-dollar holdings, odds are high it may have a negative impact on the dollar. Everybody hopes this adjustment process will be slow and gradual; with due respect, however, hope is not a strategy.” Indeed.

    Significantly, China’s holdings in U.S. treasuries dropped in April by $4.4 billion while it continued stockpiling precious metals. Its state-run aluminum corporation, Chinalco, was even willing to pay $19.5 billion for Chilean aluminum company, Rio Tinto, a deal which collapsed despite Chinese concessions offered.

    Really, they just desperately wanted to get rid of the $19.5 billion as quickly as possible, and in return for something valuable: resources. The fact is: foreign governments now know that in a post-dollar world, U.S. currency may not be worth the paper it is printed on. What will be worth something are tangible goods.

    And that’s what these nations see on the horizon—as the once might U.S., following Obamanomics to wrack and ruin, disappears into the Abyss.

    It won’t be pretty. Despite flat to declining demand, oil sits at about $71 a barrel after a steady increase, and gold is at about $930 an ounce. With low demand as is to be expected in a global recession, the escalating prices can only be attributed to monetary phenomena.

    Simply put, hedging against inflation is taking place in the markets. And since those and most other assets are sold in dollars, the inflation that most investors hedge against is dollar inflation.

    Taken together, the signs are ominous. With a run on dollar assets looming—which will cause massive dollar inflation as the worthless paper comes back home—the gathering storm will give no quarter. And somewhere in the distance—as a once-mighty economic power chooses discredited collectivism over individual initiative—echoes internationally the bitter refrain of the Kingston Trio: “I don’t give a damn about a greenback dollar.”

    Robert Romano is the Senior Editor of ALG News Bureau.

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