Goldman warns on inflation threat to dollar as reserve currency
bloomberg.com
bloomberg.com
The US spends more than 144 countries combined[1] on their military. The US protects the middle-east oil supply, the middle-east agrees to only sell oil in US dollars. Therefore, demand of USD remains consistent and strong.
Ask Iran and Venezuela how it's working out for them trying to skirt that arrangement.
[1] - https://www.nationalpriorities.org/blog/2019/07/18/us-spends...
USD's most credible rival as a global currency is the Euro, because no individual government is able to devalue it.
What do they do to "manipulate their currency"? Does quantitative easing qualify?
The headaches and downsides aren't worth it, and any "talks" are likely just game-theory pokes at the US.
To that end you keep stoking the fire, keep raising the question.
That's not to say one day, another country won't have the burden of being the world's reserve currency, but for at least the next 20-30 years it's very likely going to be the US.
The people who manage that money, assuming they are responsible, or remotely-qualified, have only one option; which, is going to be investing primarily in securities/assets backed by US dollars. Land, buildings, and stock are all assets because you can get money back for them. That money is only good if its spendable and can be extracted from the asset... which is my point.
/shrug I'm just a bit lost at what you're trying to say...
That may be a strategy of single person with a little money trying to not lose it long term. But it would be foolish for the really big investors. They don't do that. Wealthy people diversify in different asset classes, not just in US stocks/bonds.
Real world assets such as gold, stocks, art, land, buildings, private companies etc. are not in general "backed by US dollars". They can have value largely decoupled from the value of US dollar or its status as top world currency. Which is why those clever managers invest also in those assets.
If the US dollar totally fails it means the global economic system is in upheaval, and if that happens I'd rather have reserves of water, salt, seeds, and ammo...
Now that the US is basically self-sufficient in petroleum and seems to have entered an isolationist mood, I wouldn't count on its risking the loss of one of its aircraft carriers to re-open Gulf shipping lanes if Iran or some other actor decides to close them.
It's reasonable to assume that if the US becomes insular enough, and self-sufficient enough in energy, that such a thing could become true. Not a popular thought, but definitely a possibility.
If you believe that Russia or China's currencies will be a safe place to hold your wealth for 10+ years, then it will be a threat. Safe means "keep its value & is accessible".
If you do not believe that they will be safe, then there is no threat to the dollar.
The rationale is that people generally want to have their wealth in a safe place (currency, not necessarily a physical location).
Right now (and for the foreseeable future) there is no currency that can compete with the Dollar. However, Gold could displace it if people lose confidence in the Dollar's value (ability to safely store wealth).
Interest rates are so low because people controlling the FED decided the rates to be low. They did so, as the story goes, to stimulate the economy growth, to make banks more likely to lend and companies more likely to borrow money and use the money they have to buy things, hire people, increase production. Of course, the reality is more complicated and lot of that newly created money just pumps the stock market with little benefit to economy.
One indeed has to pay banks for storing money, whether in USD or EUR, that's why big wealth managers don't keep big wealth as money but invest in diverse assets. Storing some USD is no privilege, it is a necessary liability. USD is needed for transactions, not for storing wealth.
Bitcoin is spiking like mad right now. I trust gold more, but if you're willing to tolerate the BTC risk, it maybe more lucrative.
And I'm staying this as a notable BTC skeptic.
If I buy US dollars so I can go buy oil, and then the oil producers go and exchange those dollars in to other currencies, then the whole process is neutral for the greenback.
Similar trends with Xi's anti-corruption campaign in China.
I don't think the usd is going anywhere as the world reserve currency, but oil trade currency isn't the reason.
This is an interesting time because the US does NOT have the support of excess oil revenue to keep it in demand.
Prior to this year, the US society devolving into a third-world developing one was unthinkable.
When I ask my kid to do something he doesn't want, he pouts and jokingly says "Never ever".
What this pandemic has taught me is to never say never ever.
The US become isolationist, losing it's military supremacy in the next decade ? The rest of the world going it's own way and not caring enough about what the US thinks ? A world war with US against the RoW ?
Regardless of my opinion on whether or not such an event would be good (I don't particularly have one), I don't think it's likely.
Network effects.
Every marginal dollar spender, dollar acceptor, dollar lender, dollar borrower, dollar investor and dollar investment makes the dollar more attractive to use for all. That makes it more attractive to intermediate, which results in more services around U.S. dollars which keeps the flywheel going. As financial and trading and distribution relationships become more complicated, these advantages grow.
As FinTech velocity accelerates, the value of network effects will diminish. It’ll all be IP between fintech providers (mostly like SWIFT, but not quite).
Disclosure: I work in financial services and am familiar with this infrastructure.
Edit: @JumpCrisscross I am familiar with how TransferWise works under the hood. The underlying settlement system is the legacy slowly being replaced.
TransferWise is the window dressing. It is bolted onto an international credit and settlement system which is built on dollar settlement rails. The fact that it's turned every other currency into, in effect, a feature, underscores the point.
The underlying settlement system is basic supply and demand. I'm not entirely sure how they (you?) plan to create some system where every currency pair is in perfect harmony. It simply doesn't work that way.
And ready lenders and collateral and repos et cetera. Or maybe you don't, but a good fraction of the individuals you transact with, or with whom they transact, do.
The fundamental advantage of the U.S. dollar is in our consumption. That litters the world with dollars searching for a home, and seeds the cross-border financial infrastructure whose pervasiveness makes transacting in dollars so much more convenient for so many more people than in any other currency.
If you give it to a bank, you are now an equity investor (as Middle East central banks found out in the 80s). If you invest in a non-USD currency, you are exposed to that currency in size and you probably can't sell (as Commonwealth central banks found out in the 60/70s).
USTs are the only market where you can trade tens of billions easily. That is it. There are no alternatives. China and Russia have both tried to exit, and all they have managed to do is buy a few billion of gold. The ECB is trying to create an alternative but EU financial markets are microscopic because their banking system is so large/insolvent.
There are also economic reasons, the US is the largest economy in the world, almost all trade is priced in USD so exporters/importers will earn/sell in USD which will usually be key to other areas of central bank policy.
But yes, the main issue is quite fundamental: no other currency is large enough.
2) At a more formal setting where cashflow projections are made and international investors placated (and so on), having forecasts be conditional on both USD and euro is already commonplace, particularly if there's lots of intercontinental logistics implicitly baked in costs and revenues. Adding another currency to these types of calculations (also backed by econometric models, commodity price forecasts etc) would not add 50% complexity, it would pretty much double it. I can't imagine being responsible for a cashflow in four or five currencies at a scale in which exchange rate volatility matters.
This isn't to say there wouldn't be benefits, but surely there'd be costs.
“Gold warns about the end of QE in terms of effectiveness”
“Goldman warns about the rise of China”
It goes on and on. It’s all marketing, they have to say something.
The dollar has no risk, the demand for dollars is massive.
As is the supply of dollars. To say it has no risk is absurd; the dollar is created out of thin air by trading its future value.
It’s just human nature to fear these events.
The us economy is rock solid and is basically the only economy innovating at all. This doesn’t mean that wages aren’t stagnant or that wealth inequality isn’t a problem.
It is powerful, but not apparently healthy and experienced quite some scary events in recent years so "rock solid" is a very weird characterization. The U.S. capitalist system is inherently instable, it undergoes periodic crashes and extraction schemes that make people lose their property or get collectively more indebted. This makes people angry and willing to consider radical changes - see violence and rising popularity of socialism in U.S. It is hard to predict when it happens, but the outlook is not good. For economic/political stability, E.U. looks much better.
The US economy is strong, however its fiscal discipline is not. Federal debt to GDP ratio is at an all time high, and will only go higher. Abstract this graph out at current trends:
https://fred.stlouisfed.org/series/GFDEGDQ188S
Public debt growth is outpacing GDP growth, so its only a matter of time.
Do we anticipate that politicians will suddenly become conservative and start paying down debt? Unlikely. The pressure to keep the economy going and win elections is too strong. The power to create money (or artifically low interest rates) is a heroin addiction, impossible to wean your economy off of.
If you had to lock your wealth in over the next 10-25 years, you're not buying US government bonds. You're hiding out in gold, housing, and stocks. The dollar is not an asset you want to be part of.
In particular, I'm curious about the domestic political consequences: if financial assets are inflated to the point where you can only tap a 1% yield in retirement (versus the 3-4% today), what does the typical middle/upper middle class family do? What happens to newcomers in the FIRE movement? High housing costs can be escaped by moving to a LCOL area, but if/when the idea of a privately-funded retirement floats out of reach, how does the overall electorate respond?
In a way this has already started to happen in lower socio-economic strata: they decouple as best they can. This is why you see such a large correlation between the "unbanked" and those strata.
Currently, most individuals in those strata lack the education and information to learn how to decouple in more areas of their lives. The information part is slowly being addressed by the proliferation of the Net, and it is even slower now with social networks (which retard the growth of structured and systematic information sharing). The education part is even slower to change, but it is changing. It is now socially acceptable to openly discuss the value of college/university education, where that used to be unthinkable just a decade ago. That opens the door to alternatives.
The rational response is decoupling from norms in real estate, insurance (especially healthcare in the US), finance, and education, and establishing alternatives with like-minded people who determined they're simply too poor to participate in the "accepted" norms (the notion that those "mainstream" norms have priced themselves out of their markets is still heresy).
In a Japan-evocative ZIRP environment, being a millionaire per individual in a family is no longer sufficient, "lean" FIRE/normal-retirement plans would need to re-calibrate to deca-millionaire. If equities start yielding 1%, the SWR would drop to around 0.5%, and $10M USD would yield only about $50K per year, a huge chunk of which goes to those "mainstream" norms. At these kind of numbers, we're talking about people with both education and information, and they'll start to make and share decisions, and iterate solutions, in a different manner than previously-affected strata.
Hard to say what the iterative ramifications are of people switching to alternatives. A sharp bifurcation just like envisioned in dystopian cyberpunk scifi is arguably imaginable, with megacorps and an underground, and a financial no-man's-land in-between. So is a demographic implosion-based hyper-depression: children are simply flat-out impossible to afford at some point for the majority, and they respond appropriately; vast segments of our modern economic civilization utterly dependent upon an implicit constant population growth run into a sudden reversal. More positive outcomes are also possible. Co-ops, on-site recycling, permaculture, local currency, DIY medicine, automation, land trusts, etc., blended into what works for each group's idiosyncrasies, and decoupling from the mainstream mores and indebtedness expectations to yield a good enough solution for them. They're poor in mainstream capital, but readily acknowledge they'll statistically never acquire massive amounts of it anyways, and enrich themselves in other forms of capital through other means of exchange, and have accepted the trade-off.
Trump and the rest of the political establishment consider that a stock market crash can not be allowed to happen while they are in office. So they are 100% willing to just keep kicking the can harder and harder just to hold things together until November. It’s a cycle of short term thinking. If the smaller crises are not allowed to happen, then the big crisis that wipes out the whole economy eventually willl.
I’m curious to hear tomorrow how the Fed intends to address this.
... which is still up 6% from its 5-year low (January 2018), up 24% from its 10-year low (April 2014), and down 6% yoy.
>I’m curious to hear tomorrow how the Fed intends to address this.
What is there for the Fed to address? A weaker dollar, in and of itself, benefits US exports and reduces the trade deficit.
That leaves few options if dollar continues to weaken and inflation becomes concerning.
Still, this isn't the stagflation of the 1970s. While there may be underlying problems, the main issue is that Covid shut down parts of the economy, which also meant shutting down parts of employment. The trick really isn't to avoid inflation. The trick is to make it back to approximately normal without killing too many businesses and bankrupting too many families (while also not killing too many people). If inflation happens as a result, but we get back to a healthy economy, then we can worry about inflation. For the next one or two years, I don't think that inflation is the issue to focus on.
The British did it. The UK had a huge stock of foreign assets at the start of the 20th century. They had to be sold to pay for war, and that crushed the currency (they also had to do a huge amount of financial repression). The exchange rate in the mid-20s was $5, $2.50 after WW2, and is now closer to $1.
The Russians didn't have an Empire. The extent of their ambition was interfering repeatedly in the Balkans/Turkey for no reason, and (briefly) in Europe with the Prussian/Austrian war (and then having to dial back once Prussia gained in strength/Germany appeared/etc.)
The point about "debasing currency" is, however, nonsense and based on a misunderstanding of almost everything at play here. Perhaps most important: the US isn't an empire, having a large army doesn't mean you are an empire (if that were true, North Korea would be a world power), the role of the US is and has always been collaborative (this hasn't changed with Trump either, observing that Europe pays almost nothing into NATO seems quite fair).
Russia was the metropole of an empire not only under the czars but through the entire Soviet period.
> the US isn't an empire, having a large army doesn't mean you are an empire
The metropole dictating to peripheries does, whether the latter are formally independent or openly dependent territories does, and the US is a metropole which has many (and has had previously had more) of both kinds of peripheries.
An empire is a political unit that controls vast parts of the world and dictate their policies through military and economic means. This fits well on how the US operates. Unlike any other country, the US has military deployed practically in all continents and major oceans. The only difference between the US empire and the British empire is that the US likes to propagandize about the apparent freedom of their vassal states. In many part of the world, elections are only uphold if the elected support US policies (mainly through economic coercion), and when this doesn't happen the country is a target of coups, "regime change", or enters the "black list" of sanctions. For this reason, the US has several foreign spying and "regime changing" institutions, including the most famous CIA and NSA. All of this supported by mainstream US media, which has international reach and influence media in other countries. This is obvious with what happens at Venezuela, Iran, and Russia. More recently, China is entering the black list because it is increasingly seen as a threat to the US political hegemony.
What else would happen, and what would the interactions between these effects be? It seems like the boon for American exports would mediate the effect of the drop in the dollar.
Given that currently nobody can travel abroad, we don’t have to worry about travelers.
The real rub is debt and interest rates. When the dollar plummets, who wants to own dollar denominated debt? That in turn will cause interest rates to rise which will damage an already faltering economy.
It ain’t simple arithmetic.
If that scenario would play out (I think it's very unlikely right now, but probably inevitable long-term), the US would have a big issue as it's not exporting a lot, but importing basically everything. Hence, cost of living would go up (inflation) and standard of living would most likely decrease substantially.
One effect that would accelerate this is rising interest rates (to conquer inflation) meaning a significant drop in asset prices (since you now have to borrow at a higher rate).
HOWEVER, the effects of a rapid, uncontrolled fall would be quite disruptive, and a lot of people who had their savings in $$ would now have no savings, and that could be very bad, especially since most of those with their savings in currency would be small time investors, retirees, etc. who cannot afford an advisor to help them diversify.
It should be mentioned that many nations have, at various times in the past, intentionally devalued their own currencies. We have at various times in the past accused Japan, China, Germany, etc. of intentionally preventing their currency from appreciating. But, major swings in short periods of time can be painful.
Also there have been periods where it has been going down even though interest rates were low (e.g. after 2011).
I would much rather argue that the value of gold is loosely correlated with money supply over the long run.
The current short term surge in gold prices seems to be driven by fear and lack of other secure investment opportunities.
Combine that with the absolutely incompetent response to the pandemic and economic situation, whereas Europe has handled it well and managed to keep everyone on payrolls the US went down the massive unemployment and potential evictions route and is now squabbling over what’s the least amount of money we can give all these people. Even Wall St knows we need to give these people more money, the extra unemployment benefits have been keeping retail sales up, and keeping evictions down.
In the longer term the USD not being a reserve currency is probably good for everyone including the US.
I never got good answers. Maybe the PhDs did, but PhD committees draw from their own discipline.
So yes, if people don't move (less velocity) and if less money is available (lost job), then that will be deflationary. This effectively yields lower demand. At the same time, if less supply is available, that's inflationary.
Now, good luck at predicting how supply and demand will behave, especially if you add more money to the game.
For example, it could happen that if the crisis ends faster than anticipated, too much money has been injected into the economy and demand picks up much faster than projected. This would be highly inflationary, especially if you add a drop in supply simultaneously (more money chasing less goods).
On the other hand, it may happen that regardless of how much money you add, people are just not going to spend it, because they can't (low velocity). Then you might end up with deflation anyway, conclude that you should add even more money, and eventually end up in the scenario described above.
Too make it even more complex, you might end up with inflation in one class of goods and deflation in another at the same time. Looking at a broader picture by including not only consumer goods, you might for example inflate an already existing asset bubble (housing) even more, while simultaneously suffering from deflation in another area.
It's really really hard to judge what will happen. We're in the midst of a big experiment.
> and if less money is available (lost job)
that's less velocity. The employer keeps that money, and if it's because of less sales then it's because someone else kept their money. Right now velocity is dropping. The number of dollars stays the same in a lost job scenario.
It's less money available to the individual who has lost their job in this example. That may of course be caused by less velocity. Or it may be caused by a business closing down defaulting on their loans which actually shrinks overall money supply in the economy.
The resulting effect on prices is likely going to be the same anyway (in the short run).
It remains to be seen whether lower velocity will keep being the only deflationary driver over the long run. If businesses default en masse, then I think we will see real money supply deflation.
Both inflation and deflation are equally probable outcomes, if you look at it from a broad perspective and with limited data. If demand goes down, that's deflationary. If supply goes down, that's inflationary. Money printing is always inflationary, but so far, the US has been able to "print" without the money actually ending up causing inflation in consumer prices. It's also unclear whether this is going to change after the COVID crisis is over.
Where we already see massive inflation is in the stock market and in asset prices. So a "currency panic about deflation" is also a really narrow way to look at it.
Sorry if I managed to confuse you even more.
Inflation could help in some ways because the economy is over leveraged and inflation is a transfer from lenders to borrowers. I recently refinanced my mortgage and would really not want to be on the other side of that transaction.
On the other hand the government is spending money without even a thought of how to pay for anything, deficits are huge and the only reason it all works is because interest rates are low. Higher rates due to inflation could stop this.
Historically governments tend to choose inflation over deflation.
Interest rates rising due to inflation could stop the government from spending without constraint, but then again government is 35% of GDP(in the US), so perhaps consumer choice making a greater impact on an economy might be ok.
On the other hand, I'd say it's very likely that a continued low interest rate environment will drive the societal divide even further and won't be politically sustainable in the long run.
Exciting times we live in.
However, it seems to me that as long as US gov. is maintaining world dominance of US dollar and the US population is kept disorganized to prevent a major coherent political action, this can probably go on indefinitely.
I would like to know what has to happen for the US gov. to change its fiscal behaviour. Maybe the internal turmoil like we see these months is what eventually breaks the camel's neck. What do you think will happen then? Maybe we will see some extraordinary government actions reforming debt/currency or work/incorporation laws to start over? Or maybe the situation will be managed by spraying little money to the poor people to keep up? I can imagine with some helicopter money the current mess can go on for next 100 years...
When looking at history, debasing the currency has always produced inflation at a certain point, which then usually leads to the downfall of the predominant power structure. This then causes things to reset and start over eventually. It's highly likely it will be the same again.
Hypothetically, if China was to decide it wouldn't export anything to the US anymore tomorrow, we could see inflation pretty quickly. The same is true for the USD as the reserve currency. Hypothetically, if other nations were capable of organizing a viable alternative, that would be the end for the current fiscal behavior. Both are highly unlikely to occur anytime soon...
A major supply shock seems to be the biggest real risk in the short and medium term, as demand issues can easily be controlled with "Money printer go brrrr" again and again if you are in control of the planetary reserve currency, but supply issues cannot.
I don't think the aggregate statistics are going to really tell the full story. We will likely see significant inflation in some sectors, while at the same time seeing significant deflation in others.
The only way it would work is if we could somehow dramatically the improve the lives of say 100 million people. (Ignoring all the common objections and fallacies.)
The approach only works if we can use our work to stockpile durable goods.
(This comment will soon be flagged because it's "too political", but oh well.)
That's because if other countries aren't forced to purchase USD, there's a much smaller market for the US currency. This means the US's ability to print money without causing domestic inflation would be much more limited.
It would have to consume less and produce more.
[0]: https://www.swfinstitute.org/fund-rankings/central-bank
[1]: https://graphics.reuters.com/GLOBAL-CENTRALBANKS/010041ZQ4B7...
Historians point to that moment as when Americans gave up on the government.
Is the Department of State better or worse off than it was 4 years ago? Is US soft power stronger or weaker than it was 4 years ago?
The answer to all of these is pretty obvious, damning, and moving in the same direction.
Complete strawman, since you don't have an actual leg to stand on in defending this administration. Never did I say (nor would I) that Trump's "bad manners" had any affect.
This explains why the stock market is up so much too. It’s not that they are expecting profits- they are pricing in inflation.