The dollar is dead, only awaits burial

It is only fitting on a day where the price of gold hit a new, nominal high that I should discuss the last days of the US dollar as a “reserve currency”. An ounce of gold is what it is: the world’s oldest and most widely-accepted money. It can never increase (or decrease) in value. Instead, it is the pseudo-money, the paper “fiat currencies” which are currently all plunging steadily downward in value — with no currency able to keep up with the collapse of the US dollar.

Concurrent with the new nominal high for gold, the big ‘news’ of the day was a pair of news articles about global oil trade. One article out of London claims that a ‘secret’ agreement is being reached between Middle East oil-producers and the rising “BRIC” economies to work to exclude the US dollar in the future trade of crude oil — phasing it out steadily over a 9-year period.

The second major news item was a parallel story out of the Middle East, where the Gulf oil-producers denied that such a deal is being reached. Shakespeare had a famous quote which deftly deals with such denials: “[Thou] doth protest too much, methinks.”

For decades, Gulf oil producers have had their currencies “pegged” to the US dollar (a fixed exchange rate versus the dollar) as part of their massive oil-export business to the US. For many years, this was a mutually beneficial arrangement for the despots of these regimes. US military “muscle” kept their totalitarian regimes in power — and the US got cheap oil in return. However, as the US economy degenerated into a Ponzi-scheme economy (where total collapse is now only avoided through/by creating ever-larger asset-bubbles), the currency-peg of the Gulf regimes has become poisonous to their own economies — essentially forcing them to “import” US inflation (which the US government claims doesn’t exist). Years of double-digit inflation in these countries during the US’s housing-bubble, caused serious hardship on their generally poor populations, while the “easy money” of the Greenspan/Bernanke era led to their own, ugly asset-bubbles. This was followed by Wall Street’s ruthless take-down of the crude oil market in 2008 — part of its “scorched-earth policy” where it dragged the global economy down with it (to frighten the US government into giving in to its $10 trillion in “blackmail” demands).

Even before the Wall Street take-down, Gulf States were already starting to end their “pegs” (and thus their reliance) on the US dollar. Indeed, it is likely that crushing the crude oil market was in part vindictiveness by the Wall Street — punishing the Gulf countries for turning their backs on the US. Ultimately, between the double-digit inflation and the crushing economic blow of seeing crude oil dragged down to $30/barrel, Gulf oil-producers can hardly be faulted for ending what has become a totally one-sided relationship with the US dollar (and the US economy).

If this wasn’t sufficient, by itself, to provide the impetus for the secret deal (or “non-deal”) between Gulf oil-producers and their new, best customers, the US government has provided the final impetus itself — with its permanent near-zero interest rates.

After spending two years, insisting that it would never follow the example of Japan — the US has duplicated all the tried-and-failed policies of the Japanese government, led by permanently supplying “free money” to markets through its near-zero interest rates. As a result of this policy-of-failure, the US dollar is becoming the new “carry-trade” currency. For those who still aren’t familiar with this often-used term, it is really a very simple proposition. People with access to international currency markets find the nation with the lowest interest rates (the “free money”)  and borrow huge sums of that currency for nothing.

They then take this “free money” and either invest it in the “hottest” (i.e. highest-yielding) sectors or equity markets in other economies, or simply buy bonds from markets with much higher interest rates. Because it is a simple way for anyone with large cash-holdings to make easy profits, the “carry trade” with the Japanese yen quickly became a multi-trillion dollar gambit.

The consequence of the carry-trade is that the currency which provides “free money” is now dumped into global markets in unprecedented quantities. As happens with anything which is grossly over-supplied to a market, its price must fall. Thus, the US’s incompetent, two-party dictatorship is essentially forcing former economic “partners” like the Gulf States to drop their reliance on the dollar as a matter of economic survival — due to their essentially permanent, near-zero interest-rate policy.

With over $57tn in total public and private debt, each 1% interest in US interest rates, drains more than $500bn per year out of the US economy (roughly equal to a 5 per cent drop in GDP for each 1 per cent increase in interest rates).

Apart from the fact that the hopelessly insolvent US economy cannot afford to pay for even a 1 per cent increase in its interest rates, it can even less afford the ‘hits’ to its GDP which are implied by such interest rate increases.

Thus, much like Japan, the US is looking at a generation of a dormant economy (the cost of using all available capital to prop-up its “zombie banks”) along with near-zero interest rates as a best-case scenario. The less-optimistic (and more realistic) scenarios are that it fails to do as well as Japan did.

Instead, the more likely options are that the US either suffers a debt-implosion (like the former Soviet Union), or ignites hyperinflation — through the reckless money-printing required to avoid a debt-implosion. In all of these three scenarios it is nothing short of economic suicide to have holdings in US dollars, or to simply hold dollars as a currency “reserve”.

These economic realities mean that even if the recent rumour is false, that a deal to doom the dollar has already been reached, the economic fundamentals created by the US government not only makes such a transition certain, but make it imperative to conduct this transition as quickly as possible without creating more severe disruptions in the global economy. Gold (and silver) are the only forms of money which cannot be devalued. Thus, with 6 billion humans having a choice between holding rapidly-depreciating paper currencies or holding real “money”, the choice is clear. The new, nominal high on Wednesday for gold is not an ending, it is a beginning - while for the US dollar, the “obituary” is already written. All that is missing is the date of its death.

The writer is editor of bullionbullscanada.com. This is a condensed version of an article that appeared on www.bullionbullscanada.com. Republished with permission of the author.