This page has been archived and commenting is disabled.
The Case for Depression: Dollar Collapse
The history of the dollar is one marked by a dominance unrivaled in history. Following the Bretton Woods Agreement of 1944, which established the dollar as the global reserve currency, Americans have enjoyed an era of unprecedented wealth and prominence.
The impressive growth in America could not have occurred without a stable dollar. Stable currencies are the unheralded but undeniable foundation of any vibrant economy. Stable currencies allow for longer term transactions and help instill confidence in the public, which is critical, since the value of any fiat currency is ultimately a function of public confidence.
That being said, there are several factors that lead me to believe the dollar is headed for a precipitous decline, and that this decline will exacerbate what I perceive currently as a Depression in our country.
The value of a currency is determined by a number of variables. In this article, I will focus on the dynamics of demand, supply, current account deficits, and aggregate government debt.
Demand for Dollars
The dollar has enjoyed a boost in demand and an exchange rate premium due to its privileged role as the world's reserve currency. As a function of this status, world trade is, for the most part, transacted in dollars. However, recent developments on the periphery have slowly undermined the dollar's dominant position in global trade.
World trade in dollars has been declining since the start of the decade. Recent currency swap agreements between countries, mostly involving China, have been used to bypass the dollar in global trade. Arrangements such as these threaten the dollar's role as global reserve currency, removing any support to the dollar's value such an arrangement provided. This decreased demand is clearly reflected by a falling percentage of foreign reserves held in dollars.
Further, in a low interest rate environment, the dollar has become the carry trade currency of choice. Investors have long been waiting for a powerful countertrend rally in the dollar, but as the example in the yen shows, prolonged weakness in carry trade currencies can and do occur. Also keep in mind that alternative assets, such as gold, become much more attractive in an environment where yields are essentially 0%.
Massive Supply
It's been well-documented that the Fed has embarked on a campaign of massive monetary stimulus. Unfortunately, it's hard to quantify the extent of money supply growth, since the government has stopped reporting M3 money supply figures.
The real problem brewing under the surface are accumulating bank reserves, which can be thought of as a proxy for risk aversion. Once these reserves are deployed, expect inflation to increase significantly. Sooner or later, banks will have to focus on their core business, which is lending to consumers. Here is a chart of the quickly accumulating bank reserves. Is there any question there will eventually be a flood of dollars hitting the system?
Current Account Deficits
Current account deficits are the quantifiable measure of a country's profligacy and overconsumption. Current account deficits are historically a short-term solution to a nation's underproductivity, which must eventually be settled through the balancing of capital and current accounts. As a nation continually funds consumption via debt, its currency naturally becomes less and less valuable as a medium of exchange.
Current account deficits as a percent of GDP in the U.S. have exploded to troubling levels, especially since President Nixon removed the last vestiges of our link to gold in 1971. Over the long run, the value of a currency is inversely correlated to the level of current account deficits. Persistent imbalances in current account deficits will weaken a currency without exception. The downward trend over the last decade in the dollar evidences the detrimental effect of long-term current account deficits. Notice how gold, as an alternative to the dollar, has risen in response to rising current account deficits.
U.S. Government Debt and the Treasury Market
Moving forward, the Treasury market will inordinately dictate major moves in the dollar. But before I explain why, I want to briefly overview the relationship between treasury debt, inflation, and the value of the dollar under the Maestro, Alan Greenspan.
The "great moderation" in the Greenspan years was facilitated by the recycling of dollars into our capital accounts- such as stocks, treasury debt, and agency debt. This meant that inflation was temporarily stifled as dollars were sterilized in debt instruments, while asset prices received a jolt from the attendant low interest rates. Furthermore, the tremendous demand for U.S. capital products proved to be supportive of the dollar. If there ever were a period of getting "something for nothing" in America, it was during this era of massively inflated asset prices, and moderate consumer price inflation.
Now what happens when our debt grows to a level that forces the government to become a major player in the bond market? Foreign actors will start unloading their treasury debt, especially on the long end of the yield curve, to an increasingly overburdened government. As demand for Treasuries falls, yields will rise, which makes the burdens of servicing debt greater.
Due to collapsing tax receipts and excessive stimulus measures to stave off the effects of this crisis, our budget deficit has exploded in 2009. This phenomenon is what forces our government to "monetize" debt.
The monumental and ever-increasing level of debt the government has directly taken on through its program of quantitative easing is troubling. The reason is simple: in an inflationary environment, the Fed will be inhibited from containing inflation by selling bonds in the open market, and thereby, soaking liquidity from the system. Due to the sheer size of our program of monetization, any move to sell treasury instruments will likely be met with panic from foreign investors. This is something to keep in mind moving forward.
Total Debt Including Unfunded Liabilities
And now we come to the elephant in the room: aggregate government debt, including unfunded liabilities. Decades of kicking the debt can down the road in Ponzi scheme entitlement programs, like Social Security, has created a behemoth of debt that is quite literally unpayable. Absent a growth miracle, and a bigger miracle of fiscal austerity by our government, there is no way we can fund these accruing liabilities through our dwindling tax base.
According to the Dallas Fed, current unfunded liabilities are about $100 trillion dollars. While a restructuring of entitlement programs is absolutely necessary, it is not politically viable. If recent government actions are any indication, our government will attempt to mask insolvency through the printing press.
Conclusion: Implications of a Weaker Dollar
A weaker dollar poses tremendous complications for Americans. For one, it makes imports more expensive, which is effectively inflation. Ultimately, this means a standard of living lower than what we have come to expect. If confidence in the dollar totally erodes, then things will really get ugly.
While we could possibly stave off an inflationary spiral if we enacted the correct policy right now, the reappointment of "Helicopter" Ben Bernanke all but destroyed any hopes of a stable currency. The inflationary spiral of the late 70's and early 80's was brought to a halt through the politically unpopular actions of Paul Volcker. It's counterintuitive, but central bankers that are denigrated politically are doing their job correctly. Celebrated central bankers like Ben Bernanke are succumbing to political pressure, making decisions based on expedience rather than prudence. The inherent deficiencies in our system virtually guarantee that long-term implications of massive debt will be ignored. Unfortunately, the "long-term" may finally be upon us, and a dollar collapse of shocking proportions is increasingly likely. This Depression is just getting started.
»
- advertisements -
First, Kill everyone.
Then select a medium toned man and a woman, with great looks, perfect symet...symmett....simet...are the same on both sides of the midline of the body, oodles of outgoing personality and equal amounts of introspection, superior charisma, extra large amounts of assets, physical and financial, high I.Q.s, genetically optimum immune systems, who won't practice birth control or abortion, and give them some high quality pornographic films starring the sexiest men and women alive.
All politicians, lawyers, car salesman, professional and amateur athletes, movie stars, bureaucrats, infomercial hucksters, born again christians, orthodontist jews, and jihadi muslims are excluded, with extreme prejudice. Add to this list your own particular exclusionary items.
And then stand back for about 13 years.
Problem solved.
Forgive me - are you Drax, or Stromberg?
sorry to tell you this but Social Security is not an entitlement program. it is my and my employers savings from working on a long long time, longer than 40 years.
Military pensions are entitlements, yes, but that's not the same as Social Security saviungs accounts.
See you on The mall someday. There will be another civil war if necessary. A promise.
A pension is an obligation that is owed to someone who performed their appointed duties for an agreed upon amount of time. People choose where to work based (in part) on pay and benefits. A pension is part of that calculation.
An employer (private, govt, military, etc) should be putting the money to fund that pension into some kind of trust account as the pension is accrued.
You should consider pensions to be a form of savings, done by an employer, for the benefit of an employee.
Great information. Thank you.
1. Some of the comments seem to presume that a collapse of the economy (production, jobs, GDP) cannot occur concurrent with the collapse of money- hyperinflation. This has happened in the Western world-stagflation of the 1970's, joblessness and hyperinflation of the Weimar (German) Republic that put wind in the sails of Adolph Hitler, and modern day (Neanderthal) Zimbabwe. Hyperinflation and the collapse of economic production are not mutually exclusive, even if this seems counterintuitive.
2. The rise of bank reserves might be the canary in the coal mine- that is tacit acknowledgement that bank assets (other peoples liabilities) are grossly overstated. The suits in the towers are telling you that they are fully aware that the assets the proclaim to the public as fertilizer, is in fact shit. These boys are rewarding themselves with fresh new blood from Timmy and Benny, while presenting the facade of "stability" in their otherwise worthless and high-risk balance sheets. It is highly possible that there is no money to lend and no one credit worthy enough to borrow (it).
3. By Greenspan and Bernanke dictating low interest rates, they have undermined the holding value of fiat money. No point in saving it since I am not paid to do it (today's saving are an act of desperation). This (lack of) opportunity cost has killed off domestic savings and destroyed domestic productive investment. The most absurd and risky expenditures occur when, say, a million dollars cost only $30,000 a year in interest. Unfortunately, often when the lender wants the principal back, the underlying assets are a fiction.
4. And it is possible for the U.S. dollar to collapse, while all (or most) other countries' currencies collapse also, if unabated printing of money (actually, clicking on a keyboard) continues by all governments throughout the world. Once every country no longer trusts the others medium of exchange, it is back to the barter system. This is where the gold bugs are right, for gold would be one unadulterated medium of exchange. No wonder India is buying gold with U.S. dollars.
Excellent points Kayman.
It is an accurate statement that America’s currency has been stable—a stable downward trend with a consistent skimming off of America’s prosperity by the financial class--a skimming that lately has transformed itself into wholesale stealing.
Ben is not “succumbing to political pressure,” IMO. He has been leader of the inflation pack since 2002. Ben studied “depression” because he knew that with the Fed, a depression would always be waiting in the wings. Chaos, conflicts of demand, boom-and-bust patterns are created by the Fed’s constant issue of new money, backed by nothing, that redirects finite resources away from consumers to a government and financial class that are intervening in the economy—while conferring upon themselves a portion of all the world’s wealth. People already are fleeing the currency into gold and silver and other assets, knowing the dollar is weak, in its terminal stage. .
America’s standard of living is stagnant and has been for the past 40 years, primarily because of an annual inflation tribute that perpetuates poverty amidst abundance, that concentrates the nation’s system of credit, i.e., its growth, into the manipulative hands of a few men.
America’s economic problems reflect the conflict between the desires of the marketplace of consumers and producers and the desires of central planners with a globalist agenda that are interfering in the markets, increasing the wealth of some at the expense of others, selling special privilege and monopoly, often rewarding the inefficient and punishing the efficient, issuing themselves printing-press dollars as collateral.
Now, Americans are peering into the face of Depression, into an economic upheaval induced by the General Market--that vast totality of billions of daily exchanges beyond any individual or agency to track or comprehend. It’s a cleanser. The General Market is re-asserting itself as the sovereign ruler of the world.
As usual, the Fed and government economists failed to see or couldn’t care less about the incalculable costs incurred by those who had to go without what they could have had without inflation. We can only imagine what Americans’ standard of living would have been if the government and its central planners had stayed out of the economy.
As author and investor Harry Browne said in the 70s, “In many ways, the government’s promise to increase the general welfare always results in decreased welfare; there’s no way the government can create something out of nothing.”
Said Browne, “It’s the government’s effect upon investments and productive energy that causes the catastrophes we call depression… In an unhampered market, investment and productivity are naturally driven to the projects that best serve consumers.”
And, after all, the purpose of all production is consumption. A man only produces or exchanges when he believes it will lead ultimately to something he wants.
"In an unhampered market, investment and productivity are naturally driven to the projects that best serve consumers.”
Yeah, like subprime MBS, option ARMs, credit default swaps and credit cards with 30% interest rates. If only we'd remove all regulations from financial service companies and gave them an unhampered market, they'd always act in the best interests of consumers.
“Subprime MBS, option ARMs, credit default swaps and credit cards with 30% interest rates”?
IMO, you’ve just described the fruits of the hamperers, of the money manipulators who work ‘neath the protected wing of a puppet government that they manipulate, a government that eliminates their competition and gives them exclusive rights to control and issue the money supply, to intervene in the General Market and thwart the balance of billions of individual desires with the totality of products and services available, thus misguiding resources from productive activity to government and themselves.
The hamperers are not the servants of the people; the hamperers do not aid and strengthen family life; the hamperers are the dictators of government policy. They are the regulators. They are the masters of America’s decayed production and distribution. They are the designers of depressions.
Ding ding ding! The normally astute Green Sharts neglects to trace the destructive mortgage/derivative products back to their nexus. The CRA good intentions was followed by the ACORN/Citi redlining suit was followed by the Cuomo multibillion subprime settlement announcement was followed by the Boston Fed study showing that subprime borrowers aren't risky was followed by quants making GIGO assumptions in their shite models was followed by asinine ratings agencies accomodating their paymasters. BOOM!!
"I don't know why (the Government) swallowed a fly"
I'm not absolving government of guilt. I agree that Fannie, Freddie and banks were subject to government pressure to get their percentage of loans up to low income and minority populations.
But I don't see how you get from the failures of government regulation (because they were captured) that caused Glass-Steagall to be overturned, limits on financial leverage to be eased and the credit default swap market and other derivatives to be largely unregulated to the idea that the financial services industry would act in the best interest of consumers if they weren't regulated. Some of the biggest peddlers of the worst subprime mortgage products (like New Century Financial) operated outside of bank regulators and were able to do things that a regulated bank couldn't get away with. The same goes for AIG's financial products division that found cracks between regulators in which to operate.
When people have the ability to employ leverage to make fantastic sums of money, they're generally not going to spend a lot of time worrying about blowing up the financial system if they're wrong. If they do, somebody else is going to step in and do it anyway.
Nothing can outrun the collapse in demand, not even the collapse in the dollar.
Collapse in demand is in the saddle, and rides humanity.
Ah...a man of few words who has a hammer big enough to hit the nail square on the head. Well said.
Demand, or lack of it, is at the heart of this collapse, that includes labor and raw materails, shipping, storage, everything that makes up the chain. The well is running dry...fast.
anynonmous,
Is that you George4Title...or Jonathan Lebed???
InflationUS HAHAHAHAHAHAHAHAHAHAHAHAHAHHAHAHAHAHAHHHHAAHAHAHAHAHAHAHAHAHHAAHAAAAAHHAHAHAHAHHHAHAHAAAAAA
This post is same old borscht one can find on conspiracy and in left wingnuts theories...;
I would expect more insight and less theorizing from ZH. Just pondering on dollar's demise is waste of time.
Here's a thought: America needs to bring back home all the jobs and reverse all the outsourcing done over the last decade. In order to achieve that, dollar needs to become worthless overseas. Is that good or bad? Is just a fact. But you will not have that crazy inflation here everybody's fearinga bout...;
This post is same old borscht one can find on conspiracy and in left wingnuts theories...;
I would expect more insight and less theorizing from ZH. Just pondering on dollar's demise is waste of time.
Here's a thought: America needs to bring back home all the jobs and reverse all the outsourcing done over the last decade. In order to achieve that, dollar needs to become worthless overseas. Is that good or bad? Is just a fact. But you will not have that crazy inflation here everybody's fearinga bout...;
http://www.youtube.com/watch?v=eZA0qNsf4m0&feature=
I don't see a real strong relationship between gold and U.S. current account deficits in that chart. Gold went down from 1995 to 2002 while the current account deficit exploded. Gold's recent strength has occurred as the current account deficit has declined by a modest amount. I'd guess a calculation using the data points in that chart wouldn't show much of a correlation between the two variables.
Also, that $100 trillion figure on the unfunded liabilities is higher than most estimates I've seen that put it at $45-$50 trillion (which is bad enough).
Are you familiar with the word manipulation?
Hi,
I enjoyed reading this article and your blog. I also write a few articles on the current Australian fianancial news on my blog . I would be humbled if you could link exchange with my blog. My blog is at www.australianstockwatch.com . You can email me at jeromejf at hotmail.com
Thanks
jeff
Relatively, we are still stronger than ROW. That may not be apparent now, but it will be evident down the road, perhaps soon. For all of our problems, Americans are still much more open about our problems than others. Europe has tremendous exposure to MBS and CDO's that has not been recognized to the extent here.
That's my issue with the idea that the dollar will collapse. As dismal as the U.S. outlook is, I don't know that it is worse than Japan or the U.K. or much of Europe; in fact, potentially all of Europe because as you mention their banks were much more leveraged than the U.S. banks and seem to be even more opaque if that's possible. The size of the U.K. and Ireland government bailouts of their banks dwarfs that of the U.S. relative to the sizes of the economies because their banks had a much larger percentage of their business outside the U.S.
And as the U.S. weakens it weakens the export oriented countries like China, South Korea, Japan and Germany.
again, the DXY does not reflect true value of the dollar.
It is a comparative metric between currencies
The US is bankrupt, end of story. There's no way around that
"Sooner or later, banks will have to focus on their core business, which is lending to consumers. Here is a chart of the quickly accumulating bank reserves. Is there any question there will eventually be a flood of dollars hitting the system?"
Uh, yeah, as long as the banks are trying to improve their capital ratios. Reserves can continue rising plenty. The mark to fantasy marks that the banks are currently using are masking the capital reserve problems that they have.
Furthermore, a depression is a deflationary environment, not an inflationary environment. In a depression, dollars become increasingly scarce and the prices of goods falls.
And in a deflationary environment debtors get screwed. Debt is poison in a deflationary spiral. Imagine Dubai forecasting oil at $200 three years out and higher even further out and then betting the ranch on that assumption. Oil then goes to $30 and stays stuck at $70--even though oil is denominated in crappy dollars--you get the picture.
On that note, the other shoe fell thursday; did anyone notice, or did that tree fall silently in the forest (a US non-media day)? Dubai Ports World reorganized and suspended its debt payments until May, which should affect underlying credit security for commercial real estate where ever they are located, ie worldwide. (read MBS). Now if they could also suspend oil deliveries, then the price might rise to the level they need, and clean coal, etc.(Not). We rather expect inflation which would return the US to production, but revaluation (deflation) would be the event which would frustrate the most people, as markets are want to do. Gold owners win either way?
Furthermore, a depression is a deflationary environment, not an inflationary environment.
Declining output and rising prices are impossible? So our currency can't collapse along with our economic output?
In a depression, dollars become increasingly scarce and the prices of goods falls.
You mean deflation.
Hyperinflation is simply monetary panic in the face of deflation. Financial and economic collapse as well as asset deflation are prerequities to hyperinflation.
declining output and rising prices is not impossible. the currency collapse is what causes it to happen. Argentina, Iceland, Zimbawae, Post war germnay, russia, indnesia. How many times does something have to happen before your willing to say it exists. (LOL)
Declining output and rising prices are impossible?
Yeah. Tell that to Gideon Gono, right?
I agree with you on that as well. If we're in a depression, given what remains on the bank's books and given that as David Koo notes a bank must reduce loans by $12.50 for every $1 of capital written off, how long will it be before banks are in position to resume lending to consumers? If we're in a depression, how long will it be before consumers are in a position to borrow? I'd think very optimistically that would be 5 years out and probably more likely it will be 10-15 years or more. I'd think a lot of those reserves pumped into the banking system are going to be soaked up by bad debts.
But then again I see that the guy who was apparently a big part of the brains behind Paulson's ABX trade of the century is very bearish on the dollar long term, so what do I know?
Green Sharts -- you make a very well thought out response and I certaintly agree with most of it. There are some natural deflationary forces that are intentionally hidden away from us though very shoddy accounting practicies. We must not forget that they are still there and will still remain a drag on bank activity for some time to come.
As for Pelligrini, his bet against the dollar is pretty much path dependent. My impression is that he's actually more anti-MBS than anti-dollar, but is willing to bet both-- as for now, he assumes that the Fed may well buy more crappy mortgage securities to infinity. If a dollar decline does indeed become a legitimate worry the Fed, and they pull in the reins on MBS purchasing-- for those who holds the latter will be trashed pretty hard. At least that's how I interpreted it.
"...so what do I know?"
Everybody's wrong about something. If the dollar is kaput, we - all of us - are in grave personal danger. I'm inclined to think it's not that bad and we will see the greenback catch a bid soon. That will not make gold bugs and bulltards happy, but that is how I see it.
Very good post. It is amazing to me how few get what is going on. Just go out and shop, get that credit card balance up at 20+% and keep buying "stuff" we don't need. I am 2/3 of the way through Atlas Shrugged by Ayn and it is amazing the parellels I see between what is going on today and what she wrote.
The dollar could not even hold its gains for 1/2 session. How can our leaders think this is good. It is all about being re-elected, not fixing the system.
Sad!
"amazing the parellels"
Ain't it though?
Enjoy the story of the 20th Century Motor Company.
It's our story.
Unfunded Liabilities: My business uses about $400/mo ($5,000/yr)in electricity, I plan on being in business for another 20 years. Are you saying I should just hang it up if I dont have $100k in cash somewhere set aside for these future vendor payments? No one runs their business that way, you should consider some basic business training.
"No one runs their business that way, you should consider some basic business training."
Obviously that is just not working out...DEBT IS NOT MONEY
You'll need cash flow to make those electicity payments. The U.S. in its current fiscal condition will not have the cash flow to make the entitlement payments. However you are correct in stating that the U.S. does not need to make a 100 trillion dollar credit entry to its balance sheet. The U.S. will use a combination of tax increases, benefit cuts and currency debasement to alleviate the crunch. It has already started the debasement process.
The Govt payments themselves create the reserve balances that are in turn available to buy the Treasury Securities; the govt is never revenue constrained There is no chance of insolvency with a sovereign/monopoly issuer of it's own currency.
In fact I have heard that Treasury is studying the elimination of Treasury securities and is going to use this years operations as proof that govt need not issue. They (Treasury and Fed) are on track to buy in as much govt debt as was issued this CY, a govt that buys in what it issues is like they never issued it in the first place. No net issuance this year and as far as I can tell, the only commodities that have increased in price over this time are chicken wings and gold, maybe each bid up by the same sort of intellectual mentality.
"Is there any question there will eventually be a flood of dollars hitting the system?"
er... yes. Banks are reluctant to loan those dollars. History teaches that risk aversion takes some 60 years to overcome. Do you have evidence to the contrary, or are you suggesting the flood is a longer term eventuality than must of us will witness.
I was about to question that same question.
Short of using real helicopters, us there any legal mechanism to get those dollars into broad circulation when consumers and businesses are already drowning in debt? Though IMO, Benny and Timmy are not above crime, I don't know how they could possibly do it on the scale required except in broad daylight, which would create panic before it was fully implemented.
I've heard others (Robert Prechter, Mish Shedlock) say that the Fed's attempt at monetization is like pushing on a string, and that ultimately, hyper-leveraged debt inflation must cause real deflation.
60 years.... Generation one lives through it. Generation two remembers the stories. Generation three sorta believes it but whatever. Generation four lives through it again....
Russian economist what's his name. Kondritieff cycle
there is some good news. We are learning one meal per day is all we really need when not working. Things and more things are passe so now we can HAVE A LIFE. As contractor, not working i am turning to gardening and making flower boxes.
Since i have food for 2 for two years, a fair size garden, shotgun,3 dogs and a thousand oz silver rounds. I am worried about the country, not myself. I owe less than 600.00 on my sears card.
Thanks to zerohedge i am well informed. Thank you!
BTW wepollock on utube is worth seeing.
THAT'S A BOLD COMMENT, BRAVO 7...
Atheism is a non-prophet organization.
A prophet is a creator acting as a "witness" "news deliverer".
BTW, love your userid.
We must keep in mind that Geithner & Co is doing exactly as Admin policy tell him to do....;-(
Don't think so.
He's doing what Lord Blankfein, Jamie, Bob Rubin, Hank Paulson--- just about anybody who is emphatically not 'in TheBamster's administration' is telling him to do to protect and greatly magnify their pelf.
It works like this: Jamie picks up the phone tells Timmay that they JPM would like to short the DXY on Monday at 10:15 Hong Kong time. Timmay makes an announcement that he and the Bamster support the dollar, they must support the dollar. This is a signal to Lord Blankfein that they theBamster doesn't give a fuck about our dollars and that it's safe to sell it short by buying up the GLD futures and options on the futures, and derivatives of options on the futures.
Then an hour or a half a parsec later they unwind that trade and make another 100,000,000.
It's easy to make money when you make the money.