Strange Currencies: inside the currency wars

We need to prepare for the “unknown unknowns,” no matter how uncomfortable and disastrous they may be

A dollar for Benjamin Franklin's thoughts?
Ewan Watt
On 23 January 2012 17:50

As regimes collapsed in Tunisia, Yemen and Egypt during last year’s ‘Arab Spring’, a friend remarked that Ben Bernanke, the chairman of the U.S. Federal Reserve, had accomplished a greater record of ‘regime change’ than former U.S. President George W. Bush. Although certain intricacies obviously apply to each revolution, this assertion is not entirely without merit.

Through his zeal for ramping up the printing presses, Bernanke’s debasement of the dollar has seen global commodities soar resulting in severe civil unrest in the developing world where food and energy price fluctuations can incapacitate governments and, ultimately, lead to their collapse. The U.S. may be competing when it comes to selling a Ford over a Toyota, but it still possesses near monopolistic power when it comes to exporting inflation.

To James Rickards, author of ‘Currency Wars: The Making of the Next Global Crisis,’ this is another form of warfare. Currencies are just like missiles, another weapon in a state’s arsenal that can be quickly deployed to cause civil unrest or undermine the entire economic integrity of another state. As the world’s reserve currency, the dollar gives the U.S. the power to go nuclear and wreak economic havoc.  

But as Rickards notes, the combination of heavy debt and the Federal Reserve’s never ending desire to debase the currency in the name of “job creation” may result in the dollar’s primacy also becoming America’s Achilles heel. The U.S. is turning its weapons on itself.

Currency wars are nothing new. Currency War I was marked by the competitive devaluations amongst France, Germany, Britain and the United States after World War I. It also saw the beginning of the end of the gold standard. Currency War II was the end of Bretton Woods, floating exchange rates, competitive devaluations between the United States, Canada, Japan and Europe, and President Richard Nixon ending the gold exchange standard in the name of defending America against “international speculators.” Nauseous political pandering aside, the results could have been predicted. It was only until Ronald Reagan’s policies of pursuing a strong dollar that the United States would finally rein in inflation.

Currency War III’s theatre of conflict involves the United States, the European Union, China and, primarily, Brazil. Central to CWIII is the Federal Reserve’s repeated attempts to debase the dollar, the EU’s ongoing sovereign debt crisis, and the growing pressure on China from Washington to let the yuan appreciate. This political pressure is mounting by the day as more American find themselves out of work and the country’s industrial heartland continues to corrode.

The Federal Reserve’s attempt to stimulate employment through exports is an item of note. Debasing currencies to stimulate employment is a treacherous path. Manufacturing in Weimar Germany boomed. Brazil’s involvement in this theatre stems from their ongoing concerns pertaining to currency manipulation in China and the United States, thus impeding Brazilian exports, particularly manufacturing.

Rickards asserts that as more players arrive on the scene currency wars are only likely to become yet more opaque, especially when one considers the power of sovereign wealth funds, the reluctance of emerging markets to be beholden to the dollar, and, perhaps most importantly, the prospect of the International Monetary Fund issuing special drawing rights (SDRs) as a rival to the dollar. Thus it’s not a question of how the dollar will remain the world’s reserve currency, but when it will be replaced.

Rickards claims that the dollar’s current trajectory is simply “unsustainable and therefore the dollar will not be sustained.” In order to halt the dollar’s project plight, Rickards recommends a number of key policy measures ranging from a return to the gold standard and a massive reduction of the size and scope of the federal government.

But just when you think they sound like a Ron Paul press release, Rickards also recommends breaking up and limiting the activities of big banks, as well as banning derivates “except for standardized exchange-traded futures with daily margin and well-capitalized clearing houses.” As we witnessed during last year’s Dodd-Frank Bill, regulating derivatives was hard enough. Banning them completely? Good luck getting that through Congress.

But Rickards is adamant that unless radical policy measures are put in place, the dollar will soon join a “crowd of multiple reserve currencies, be subordinate to SDRs, be rejuvenated by gold or descend into chaos with both redemptive and terminal possibilities.” The possibilities are quite striking.

A collapse in the dollar would result in a ‘New Dollar,’ backed, in part, by seized gold deposited in the United States. It obviously could never happen here, right? If this seems farfetched it’s worth reading up on President Franklin Delano Roosevelt.

Time will tell whether he’s an economic Nostradamus. But then again, that’s not the point. Rather than planning for the unthinkable, bureaucracies constantly develop future planning scenarios to suit convenient outcomes conducive to their existing interests. It’s easier that way. We need to prepare for the “unknown unknowns,” no matter how uncomfortable and disastrous they may be. This is where Rickards’ work is invaluable. Policymakers, investors and the public at large should take note.

Ewan Watt is a Washington, D.C.-based public affairs consultant. The views expressed here are strictly his personal views. He can be followed on @ewancwatt

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