The Buck

“Don’t confuse fiat dollar strength or weakness with the real problem – the reserve currency status of the dollar and the penchant for Congress to use the fiat dollar’s status to create naked liabilities.”

Last week, I gave a speech at the Cambridge House Symposium titled, “The Rise and Fall of the Reserve Currency Dollar.” In that speech I contended that the reserve currency status of the U.S.dollar was doomed. This preferential status has been abused by our elected leaders who havepushed the borrowing “face” of the U.S. at the expense of the rest of the world. For some countries this has been advantageous. China has been a major beneficiary of the U.S. consumers’ debt induced,fiat, reserve-dollar buying spree. In the meantime, of course, the “standard of greed” inthe West has accelerated with vast increases in the fiat money supply and vast amounts of debt tofinance the greed. All the while Central bankers in the West, particularly in Washington, led usdown the garden path (not the yellow brick road) of belief in the invulnerability of central bankingand the end of the annoying business cycle.

Post World War II the US has been the world’s greatest economic power. She has rebuilt the post-war world and saved civilization from 20th century tyrants. The dollar has for the past 60 years or so held its rightful position as the world’s reserve currency. However all that changed on August 15, 1971. President Richard Nixon decoupled gold from the dollar and allowed currency exchange rates to float. The notion sold to the public at the time was that central bankers would be able to control these relative currency prices and provide global currency and economic stability. The notion was that markets would efficiently price a country’s currency
based on global confidence in its leaders and their policies. Instead we have had a litany of 20th century economic disasters. I won’t list them here but the recent crisis speaks for itself.

In November 1990 Mr. Lew Lehrman published a seminal, must read article in the Wall Street Journal titled (The Curse of the Fiat Dollar). In that article, which captivated my attention, Mr. Lehrman prognosticated on two significant points,

“Managed exchange rates are exploited to subsidize exports and tax imports … just another Smoot Hawley.”
“Under floating exchange rates the US has suffered unprecedented financial instability for 60 years.”

Evidently few took his admonitions seriously. 20 years later we are confronted with a monumental schism in our economy and its money. It is no longer the Curse of the Fiat Dollar – today it has become the Curse of the Reserve Currency Dollar.

In April 2008 Professors Carmen Reinhart and Kenneth Rogoff published an NBER paper, (This Time Is Different: A Panoramic View of Eight centuries of Financial Crises). In this article the two professors traced the “march toward fiat currencies” as a human imperative. The ultimate debasement and demise of the silver and gold backing of currencies over 800 years and the subsequent economic catastrophe’s that followed reminds us that human nature and the assumption of power that creating money awards is the issue at that drives currency debasement. It is now and has always been driven thus. Recently Mr. Lehrman and John Mueller wrote again – this time on the Curse of the Reserve Currency Status of the Dollar. (see Go Forward To Gold: How To Lift The Reserve-Currency Curse, National Review, Dec 15, 2008).

They contend that:

‘There is now total dependence on currency-reserve financing to expand government spending for current consumption. It is much worse this time because Treasury bonds were joined in the mix by mortgage-backed securities issued by Fannie Mae and Freddie Mac and implicitly backed by the government.”

“This funneled inflation (and then deflation) into residential real estate at the very time when Congress was forcing Fannie and Freddie to lower the quality of their mortgage loans to promote homeownership."

“Though he almost certainly doesn't realize it yet, President Barack Obama will either set the dollar's reserve-currency status on the path to extinction or risk becoming the next victim.”

Today most people focus on the dollar’s daily rise or fall. This AM the dollar is strengthening. Once again whiffs of deflation (oil and gold falling) are in the air. Notables such as Robert Prechter contend, this AM, that we are headed into a massive deflation that will send the market, and with it, commodities of all sorts to lower levels. That scenario may obtain but be assured that even in that scenario the discovery of hard assets will continue to generate wealth.

By the way an examination of today’s’ currency chart from Kitco does suggest several issues. Volatility in exchange rates is fostered by floating rates controlled by central bankers who try to satisfy domestic objectives, (exports, jobs, etc.). Once again in spite of their entreaties that they will float the Yuan 5 % higher China continues to peg its currency to the fiat dollar. Second, we live in a world of “carry trade speculation” and the ultimate short coverings that result from senseless speculation in fiat currency interest rates. By tying the entire world’s currencies to a basket of real goods (gold, silver or commodities for example) and valuing each
country’s currency in terms of its hard commodity worth (gold or otherwise) amaging and excess speculation could be controlled.

The question, therefore, is not nearly whether the dollar will rise or fall in value. That is short run noise. It is instead whether the dollar can relinquish its role as the world’s sole reserve currency. Of course it must and it will stand down – it is simply a matter of time. That will mean that as global events dictate there will be less of a rush to the dollar as the safe haven in tough times for it will no longer be the world’s sole reserve currency. The real questions for the president and the Congress are as follows:

1) Specifically, how can we achieve “sound” money? 2) What asset or portfolio of assets should back the dollar or the dollar’s replacement? 3) How should / will the role of the world’s central bankers change in a new sound money regime?
4) How can we educate the public that creation of fiat money and with it its unmatched liabilities is truly the curse of the reserve dollar that is at the heart of this problem and others that have occurred in the twentieth century.

Please remember that every citizen must have a say in these issues. You all have the duty to have a say. In the final analysis it is your money.