Ron Paul

On May 15th, Rep. Ron Paul popped up on Morning Joe to perform his periodical “he may be onto something, but he’s scaring the hell out of me” commentary. Click here to see it.

Although the US market enjoyed a rise since Ron Paul’s commentary a month ago, the question still remains: is the dollar in danger of disappearing?

Current US Dollar Reserve Currency Status

Consider this chart courtesy of the IMF, which shows the percentage of global commerce that each currency represents (note that the Euro was created in 1999):

  • Most transactions globally are still overwhelmingly performed in US dollars–it’s currently the world’s reserve currency. If you travel to Europe or Asia, for example, you may get away with using dollars in some places to buy things instead of converting to another currency first and paying the conversion fee.
  • Since there’s still a strong market for US dollars, the cost to the US government to borrow money is relatively low. It’s also cheaper for the US to buy commodities such as oil since the US doesn’t have to convert to a different currency first.
  • Other countries–in particular, China and Japan–are even hoarding dollars to keep dollar demand high vs their own currencies, which encourages US dollar holders to buy their cheaper goods since the exchange rate works in the Dollar’s favor.

But notice something disturbing about this chart? The Euro is increasing its share while the Dollar is decreasing. Which leads one to ask…

What is the Future of the Dollar’s Reserve Status?

Many economists–including Alan Greenspan–say that it’s conceivable that the dollar will lose its reserve currency status by 2020 if other countries in Europe adopt the Euro or if the Dollar continues to decline in value. Which means international commerce will become more expensive to the US, which may cause a blow to our rich and well-positioned economy.

One of the biggest threats to the value of the dollar is inflation. Inflation rises when there are too many dollars chasing too few goods.

The US has been forced to print money in order to pay for bailouts since it’s unable to borrow enough to cover the cost. While this kept the US economy from hitting a brick wall in 2008 by preventing further banking collapses, printing extra money is known to encourage inflation and $1000 loaves of bread.

Inflation is usually managed by raising interest rates. But with folks on Main Street needing to borrow money to start businesses towards creating more jobs, the US can’t raise interest rates and make these loans more expensive to pay back.

Also, why would countries such as China continue to hoard the Dollar if US consumers aren’t buying Asian exports (because consumers are saving more)? This may cause the US to lose Asia’s support in keeping the US as a reserve currency if the Euro continues to increase its percentage of global commerce.

What’s Next?

In my mind, it’s no coincidence that higher car efficiency standards and green energy are key initiatives–perhaps to prepare the US to not be in a position to buy overseas commodities like oil made more even more expensive if the Dollar is no longer a reserve currency. (And note to investors: these may be areas of growth to invest in).

However, losing reserve currency status means the loss of worldwide strength and perks listed above. It’s like losing your American Express Platinum card and getting a Duane Reade card. No offense to Duane Reade, but their card can’t get you preferred treatment.

Also, US consumers seem to have the choice between higher interest rates (which may mean more expensive loans) or inflation in the next few years as the ramifications of the money printing settle in.

So what’s a US economist to do? Another solution has been floating about: The Amero.

Yikes! Stay tuned…

On May 15th 2009, Rep. Ron Paul appeared on Morning Joe on MSNBC. He really has a knack for scaring the hell out of people. However, he’s not always wrong.

Watch Rep. Paul discuss his views on the possibility that the dollar will crash:

Ron Paul isn’t the only person talking about the potential for the dollar to “crash”, or become worthless. It’s been an ongoing topic of discussion at least since the dollar was delinked from gold in 1971 by President Nixon, which devalued the dollar overseas.

With recent government spending increases and with the decline of US dominance relative to the past–both monetarily and from a leadership perspective–should people whose net worth is denominated in US dollars be concerned or is this just a way for the opposition to the current administration to gain supporters?

Let me reiterate that a collapse of the dollar would mean that the dollars you have in your wallet and in your bank accounts would be near if not completely worthless.

It would mean, for example, that you’d need $100 to buy a stick of gum instead of $1. Or even that the $50,000 you have saved in your bank account would only pay for one month of expenses instead of a year. Which is actually the case here in Manhattan already, but I digress…

The US economy is structured, developed, well-positioned and stable against political and social unrest as compared to economies that did experience a collapse in their currency (for example, Germany, Argentina and Zimbabwe). So it would take mishandling of major proportions to cause the dollar to become severely devalued or worthless.

However, it’s not a stretch once you’re aware of history and the facts that would lead to a collapse.

I’ll do my best in subsequent blog entries to track the condition of the US dollar plus signals that may point to declining confidence in the dollar overseas.

For example, are China and Russia surreptitiously converting their reserves to another currency? Is the stimulus money positioning our industrial production such that the US economy will be producing and selling enough goods to repay our debts?

Stay tuned…

Senator Paul is right in that the economy needs to deflate to a level that’s able to self-support without the goverment’s help, and that the government is spending too much (which will weaken the dollar, and leave our grandkids’ kids still holding the bill). And I agree to lowering overseas spending, and using that money to invest in infrastructure spending and other domestic needs.

But he wants to put a brick wall in front of a speeding car instead of an airbag.

His solution to our economic issues is to get rid of income taxes to spur spending, allow the economy to deflate without government intervention, and rely on the private sector to provide the funds to keep businesses afloat.

If we get rid of income taxes (and corporate taxes), how do we replace the crater in the federal budget that this will create? Reducing overseas spending will help. Yet overseas spending to some extent boosts our interests internationally and helps us either monetarily or politically.

But will reducing taxes spur spending? In particular, when there are people who don’t pay income taxes and won’t reap the benefits of getting rid of these taxes? Reducing income taxes by itself won’t necessarily spur spending because we have to also create an environment where individuals aren’t afraid to spend (for example, for fear of losing their job).

Plus, don’t forget that many people are losing their jobs and as a result, paying less income taxes already. Bloomberg is dealing with a $2B loss of income to New York City because fewer people (in particular, in finance) are paying income taxes–they’ve lost their jobs. Continue these job losses, and noone will be paying income taxes. And Senator Paul will get his wish.

Let the economy deflate without government intervention? He seems to be ok with double digit job losses–in particular, while he’s still employed as a Senator and getting a paycheck–but I don’t believe our psyches can survive that. Try convincing someone to spend when they’re frightened that they’ll lose their job. Which is leading to more job losses because businesses are losing income from sales revenue (which the economic bailout–not TARP, but AARP–is intended to replace until people spend again).

And private sector spending? Some in the US private sector have money (e.g., Buffet who invested in Goldman). But overseas folks have money too (Saudi/Citigroup, China/Morgan, Mexico/New York Times). What will it mean for the future of the US economy if we have a Bank of Dubai instead of Bank of America? Would we psychologically and monetarily recover? Can we say that we’re the most powerful country after potentially some serious international rebranding?

I don’t like the bailouts, but it’s lose/lose–a more contained mess than what Senator Paul is recommending. Plus, comparing deficit spending today to deficit spending in the past isn’t an apples to apples comparison.

As a side note–Dylan Ratigan gives me a splitting headache and I often wonder either what point is he trying to make or when will he let the guest speak. But he won me over at minute 7:20.

Once again, it’s not about giving Americans ipecac but rather Children’s Tylenol…now’s not a time to teach people a lesson even though we really deserve it after overspending and overinflating our economy to an unsustainable level. Do we want to give our grandkids a bill, or a country formerly known and branded as America?

Want more geeky observations? Please buy my book Three Little Securities!