Signs even Europe may be moving away from the US Dollar
French President Macron calls for Europe to diminish employment of the US Dollar. Global de-dollarization will trigger predictable consequences.
Last year DC attempted to employ the US dollar as a weapon in a failed effort to harm Russia, essentially freezing Russia’s access to $630 billion in national savings. The outcome is Russia’s economic and financial condition remains sound but the US dollar is now likely headed for serious trouble. We are witnessing a dramatic acceleration in worldwide “de-dollarization” as faith in the US dollar fails among numerous nations including China, India, Brazil and of course Russia which are acting to diminish their employment of US dollars for international trade and reserve holdings. Even Europe may now be looking to put space between their financial activity and the current world reserve currency. As discussed in this Zero Hedge article following a recent meeting with China’s President Xi Jinping French President Macron communicated such intent.
So the question is, should the American people be concerned? To address this question let’s take a look at financial history including an earlier inflection point in US dollar credibility, and the consequences.
The 1944 Bretton Woods agreement established a gold backed US dollar, at $35/troy ounce, as the world’s reserve currency with many currencies pegged to the US dollar and thus gold. Subsequently US dollars were conjured out of thin air in large quantities absent a complimentary expansion of gold holding (surprise, surprise) until confidence in the US dollar failed and nations, France in particular, began demanding shipments of gold in exchange for their US dollar holdings. Thus paper dollars flooded back into the US while physical gold was shipped out. Inevitably the gold backed dollar charade ended in 1971 when President Nixon “temporarily” halted payment in gold thereby defaulting on the US dollar backing promise and rendering the US dollar fiat (an IOU nothing).
Despite Nixon’s ludicrous assurance that the dollar’s value would remain stable the following decade was characterized by bouts of rapid and profoundly damaging dollar price inflation. Those who held wealth in financial paper suffered massive loses. During the latter part of the 1970’s bonds came to be known as “certificates of confiscation” as bond holders watched their wealth vaporize in inflation adjusted terms, and in nominal terms if forced to sell bonds at prices far below the purchase price due to soaring interest rates (higher rates necessarily translate to lower existing bond prices). Stock holders where profoundly damaged as well. Superficial examination of the S&P 500 index through the 1970’s suggests the index trended sideways during the decade before launching into a massive bull market in the early 1980’s. However the reality, after adjusting for inflation, is evidenced in the following graph (note, log scale):
Stockholders were in fact devastated following DC’s gold default. Investors holding the S&P 500, or similar diversified large corporation equity holdings, experienced a secular peak in 1968 after which their wealth collapsed by almost 70% over the subsequent 14 years! Adjusted for inflation wealth held in stocks didn’t advance convincingly beyond the 1968 peak until 1995, 27 years later!! However stockholders STILL weren’t back to even because by 1995 they faced taxation on a 300% phantom inflationary gain.
As noted periods of serious or severe price inflation are massively damaging to wealth held in financial paper. Bond holdings, including “safe” US Treasuries, are obviously a disaster but don’t let anyone convince you that general stock holdings will protect you from inflation (equity in resource companies might).
What should we expect at this point and why?
An overwhelmingly popular academic conception holds that high inflation is driven by an “overheated economy”. This was the view invariably proffered, in conjunction with a macroeconomic model supporting the view, when I was a graduate student. However during and subsequent to graduate school I came to understand many popular academic notions regarding aggregate outcomes (macro theory) were little, or nothing, more than convoluted nonsense supported by clever but fantastical conceptual models. On the other hand microeconomic theory generally offers robust insights consistent with actual human actions and outcomes. I post on this Substack in large part to offer you an alternative view which arguably reflects reality rather than perpetuating entrenched academic conventions evidencing a history of predictive failure. The “overheated economy” causing high prices notion is a case in point.
While many lesser factors are in play at all times a systemic increase in prices, as opposed to price increases in a particular market, is self evidently due to a general decline in the value of the currency in question. Inverting the usual money price representation the “price” of the currency in goods and services terms is falling. Instead of the usual $/GS (goods and services) think GS/$. So what causes the price of the currency to fall in goods and services terms; in other words, general price inflation? As with ANY asset, supply an demand! Many, or perhaps even most, people who are not academic economists understand as much. Not infrequently they identify money “printing” as the root cause of price inflation. Congratulations to them for their insight, but we must take a critical addition step and consider the balance of the matter, that being demand for the currency. When we consider fiat currency, meaning currency which isn’t backed by a promise of anything, we must understand that demand for the currency only holds to the extent confidence holds. Fiat currency is backed by nothing more than confidence. As confidence fails demand falls and prices of goods and services rise in money terms. Confidence in fiat is largely analogous to demand for fiat. Thus when US dollar gold backing defaulted in 1971 confidence crashed and a decade of profoundly damaging price inflation followed, as we would expect.
Expanding rejection of the US dollar around the globe due to loss of dollar credibility (i.e. confidence) is likely to trigger another decade or more of serious, and possibly severe, price inflation. Furthermore just about every developing economic issue will need to be met with accelerating dollar debasement to avoid deflationary collapse as we head into a period of secular financial decline. Four decades of monetary distortion of financial markets will be wrung from the system since interest rates have now been pushed to the zero bound, extreme financial leverage pervading the system will otherwise implode, unprecedented debt levels (government, corporate and private) burdening balance sheets will foster widespread failures absent accelerating currency debasement and the momentum of massive Federal Reserve balance sheet expansion (fiat money conjuring, or “printing”) which has already transpired, to the tune of an almost tenfold increase since 2008, will defy attempts at cessation or even meaningful slowdown.
The US will clearly head into the inevitable resolution of financial distortions decades in the making in much worse condition than those preceding the 1970’s. While ultimate magnitude and timing of such events are only knowable in hindsight we should expect this collapse to be extreme relative to past secular financial collapses and there is a likelihood the event is being triggered as we speak by rapidly developing global rejection of the US dollar due to DC’s recent geopolitical actions.
Physical assets offer refuge, particularly liquid physical assets (i.e. precious metals), for those who act in a timely fashion.
Wishing every innocent soul peace and wellbeing.
Cruising Economist
Tim McGraw offers a worthy message and beautifully edited video with “Humble and Kind”.
Hi Cruising, attempts at de-dollarization by the BRICs nations, and others such as Saudi and, possibly (?) Europe, would, as you state, result in substantially higher inflation in the U.S. Likely hyperinflation... Our debt loan is massive per https://i.ibb.co/0ZrhcfG/a123334.jpg . Could we therefore have hyperinflation resulting in a dialectical synthesis of the introduction of central bank digital currencies (which are close to being ready to unleash onto the public), which will then result in the greatest loss of individual freedom in human history?
Dear Cruising Economist, you started out with several posts a couple months back, and now it seems a holiday. I hope that we will see you come back. So I will ask a few questions too stimulate a new post.
There is much to learn about economic trends. You said economics entails understanding how human beings make choices. This must be the Micro-economic trends. It seems to rest on the idea of a market that is the consolidation of millions of individual rational choices. I wonder if that isn't a myth?
Giant hedge funds and bank holdings move such massive chunks of capital, that it can't help but alter the market. That might have been a side-effect in the past. But by now it is the only motivation for shifting capital. Manipulate the market, and always profit by that movement. The rest of humanity tries to ride on your back, or outguess you. But they make NO Independent Decisions. That is a polite way to say it. We stick with the myth of meritocracy. These guys make the largest returns because the are the wisest managers.
Other so well know it, that the richest man is the biggest gangster. Let me ask about Black Rock and Larry Fink. Is it true that his Assets Under Management recently went from $ 7 Trillion to $ 10 Trillion? If he buys your stock you're screwed, because then if you do not do exactly as he demands, he dumps your portfolio, and your company tanks overnight.
Let me list some points where I have questions:
1. You said the money supply has gone up by a factor of 10 since 2008. Certainly that is an unknown territory.
2. America has weaponized the dollar, such that it is no longer an international currency. It can't be spent in certain parts of the world, (or it is increasingly difficult.) Although certain world leaders are so in bed with the USA that they may not worry about the dollar as a weapon.
3. There may be an "Overheated Economy". I don't know what that means, so please give more detail.
4. When there is a systemic increase in prices, as opposed to price increases in a particular market - Isn't that difficult to determine? For instance if diesel fuel goes up, that affects every product that must be transported (all of them). Supply chains are so intertwined.
5. We know countries outside the west are trading in their own currencies, or in the Chinese Yuan, maybe 30% of world trade. That is concerning.
6. Fiat currency is backed by nothing more than confidence. But there is one more factor. It is that for some needs, there might be no alternatives. Let Me Ask About that. Is it true that there are many institutions that need liquidity and they must trade massive amount of capital daily? Banks, Hedge Funds, Investment brokers, Insurance funds, Pension funds, and Corporate entities needing to smooth out their cash flow. I'll give one example to illustrate the scope of it.
7. A while back I was trying to figure it out. I used US figures from 2015, when GDP was $ 18.2 T. Market value of domestic corporations was $ 29 T minus 25% in land yields $ 21.7 T in the USA, for investment in "means of production" in 2015. So what were the alternative (virtual) investments? ( I hope you can follow it, it is really very easy, and my margin of error can be huge and still make my point.)
$51 T Stocks out of world $ 111 T. $ 50 T Bonds, out of a world $ 128 T, and derivatives were at $ 1000 T. But all the $ 1000 T is not at risk. There may be various ways to calculate it, some say 10 times GDP, or $ 182 T. (Please check me out on this assumption.) So $ 283 T invested in the virtual economy, and $21.7 invested in the real economy???? I am asking:
Why Is There 13 Times More Capital In The Financial Economy Than In The Real Economy?
Is that what you call "duh"? Of course, there are 13 times more profits in the virtual economy than there is in the real economy, of value added! The real economy might be only the money laundering leg of corporate gangsterism. So if that giant market mechanism of world trading is really necessary, and there is no alternative even close to it; Will The US Dollar Fall? Regardless of how much of world trade is exchanged for Yuan. THAT IS MY QUESTION.
8. The other thing to consider; is there really that much market movement? How do you calculate the daily market turnover? I have heard of skimming, or "Ripple Trading", where banks of computers make 1,000's of trades per minute. All the major banks and funds engage with it. If these movements, (perhaps holding a position for one minute), are counted in daily turnover, then such a statistic is highly suspect.
Thank you for looking into, these, my doubts. Please make one or more new posts to focus in on these matters. I would have more questions, but I think it's enough for now.
And thanks for your consideration.
.