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2023
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We’re at War!
When I say that, I specifically mean a collapse in confidence in paper currencies around the world. It’s not just the death of the dollar or the demise of the euro. It’s a collapse of confidence in all paper currencies. Over the past century, monetary systems have changed about every 30–40 years on average. Before 1914, the global monetary system was based on the classical gold standard. Sure enough, 31 years after the end of the classical gold standard, in 1945, a new monetary system emerged at Bretton Woods. The dollar was officially designated the world’s leading reserve currency — a position that it still holds today, though that position is weakening. Under that system, the dollar was linked to gold at $35 per ounce. In 1971, Nixon ended the direct convertibility of the dollar to gold. For the first time, the monetary system had no gold backing. It would now be based on floating exchange rates, without a golden anchor. Today, the existing monetary system is over 50 years old, so the world is long overdue for a new monetary system. The unprecedented sanctions that the U.S. and its allies imposed on Russia following its invasion of Ukraine have only accelerated the move toward a new monetary system. The sanctions take many forms and affect many different areas of commerce and trade, but what they all have in common is the use of the U.S. dollar as the principal weapon. Nations around the world realize that as long as they are dependent on dollars for holding assets or purchasing global commodities, they will be under the thumb of those who control the dollar payments systems, which is basically the U.S. with some help from big European and Japanese banks. Nations also know that while Russia is the current target of sanctions, others could easily be next. If China turns up the pressure on Taiwan, for example, then it could soon be subject to dollar-based sanctions also. The only way to escape the sanctions is to escape the dollar. That largely explains the fairly rapid development of the new BRICS currency, which is set to be announced next month. If the severe anti-Russian sanctions imposed by the U.S. and its allies didn’t happen, it’s highly unlikely that this move would be taking place right now. That’s not to say that the anti-dollar trend is just a recent phenomenon. It isn’t. It’s been underway for years. It’s just that the sanctions have greatly accelerated the process. That doesn’t mean the dollar will lose its reserve status overnight. If you want to see where the dollar is ultimately heading, you should look to the U.K. pound sterling. Many observers assume the 1944 Bretton Woods conference was the moment the U.S. dollar replaced sterling as the world’s leading reserve currency. But that replacement of sterling by the dollar as the world’s leading reserve currency was a process that took 30 years, from 1914–1944. The 1944 Bretton Woods conference was merely recognition of a process of dollar reserve dominance that was decades in the making. As with the pound sterling, slippage in the dollar’s role as the leading global reserve currency is not necessarily something that will happen overnight. But the unprecedented dollar sanctions against Russia have hastened the process. And although the process will likely be relatively gradual, no investor should be surprised if it happens sooner rather than later. It’s like the quote from Ernest Hemingway’s 1926 novel The Sun Also Rises. One of the characters asks, “How did you go bankrupt?” “Two ways,” the other character said. “Gradually and then suddenly.” The dollar could lose its reserve status gradually — then suddenly. If you want to understand how we got here, you need to understand currency wars — what they are, why they’re fought and how they end. Below, I show you the answers. Read on. Currency Wars Currency wars are one of the most important dynamics in the global financial system today. What is a currency war, in a nutshell? It typically happens when there’s not enough growth in the world to go around for all the debt obligations. In other words, when growth is too low relative to debt burdens. That’s certainly the case today. When there’s enough growth to go around does the United States really care if some country somewhere around the world tries to cheapen its exchange rate a little bit to encourage a little foreign investment? Not really. It’s almost too small to bother with, in the scheme of things. But when there’s not enough growth to go around, all of a sudden it’s like a bunch of starving people fighting over the crumbs. No one wins and everyone loses. Currency wars don’t create growth; they just steal growth temporarily from trading partners until the trading partners steal it back with their own devaluations. At best, currency wars offer the sorry spectacle of countries stealing growth from trading partners. At worst, they degenerate into sequential bouts of inflation, recession, retaliation and actual violence as the scramble for resources leads to invasion and war. The current global currency war started in 2010. My book Currency Wars came out a little bit after that. One of the points that I made in the book is that the world is not always in an active currency war. Currency wars do not involve continuous fighting all the time. At certain times, there are intense battles, followed by lulls, followed by more intense battles. But when they’re in effect, they can last for a very long time. They can last for five, 10, 15, even 20 years. That means this currency could last for several more years. But it’s important to realize what phase of the currency wars you’re in. There have been three currency wars in the past one hundred years. Currency War I covered the period from 1921–1936. It really started with the Weimar hyperinflation. This was a period of successive currency devaluation. In 1921, Germany destroyed its currency. In 1925, France, Belgium and others did the same thing. What was going on at that time prior to World War I in 1914? For a long time before that, the world had been on what’s called the classical gold standard. If you had a balance of payments, your deficit, you paid for it in gold. If you had a balance of payment surplus, you acquired gold. Gold was the regulator of expansion or contraction of individual economies. You had to be productive, pursue your comparative advantage and have a good business environment to actually get some gold in the system — or at least avoid losing the gold you had. It was a very stable system that promoted enormous growth and low inflation. That system was torn up in 1914 because countries needed to print money to fight World War I. When World War I was over and the world entered the early 1920s, countries wanted to go back to the gold standard but they didn’t quite know how to do it. There was a conference in Genoa, Italy, in 1922 where the problem was discussed. The world started out before World War I with the parity. There was a certain amount of gold and a certain amount of paper money backed by gold. Then, the paper money supply was doubled. That left only two choices if countries wanted to go back to a gold standard. They could’ve doubled the price of gold — basically cut the value of their currency in half — or they could’ve cut the money supply in half. They could’ve done either one but they had to get to the parity either at the new level or the old level. The French said, “This is easy. We’re going to cut the value of the currency in half.” They did that. If you saw the Woody Allen movie Midnight in Paris, it shows U.S. expatriates living a very high lifestyle in France in the mid-1920s. That was true because of the hyperinflation of France. It wasn’t as bad as the Weimar hyperinflation in Germany, but it was pretty bad. If you had a modest amount of dollars, you could go to France and live like a king. The U.K. had the same decision to make but they made it differently than France did. There, instead of doubling the price of gold, they cut their money supply in half. They went back to the pre-World War I parity. That was a decision made by Winston Churchill, who was chancellor of Exchequer at that time. It was extremely deflationary. The point is when you’ve doubled the money supply, you might not like it but you did it and you have to own up to that and recognize that you’ve trashed your currency. Churchill felt duty-bound to live up to the old value. He cut the money supply in half and that threw the U.K. into a depression three years ahead of the rest of the world. While the rest of the world ran into the depression in 1929, in the U.K. it started in 1926. I mention that story because to go back to gold at a much higher price measured in sterling would have been the right way to do it. Choosing the wrong price was a contributor to the Great Depression. Economists today say, “We could never have a gold standard. Don’t you know that the gold standard caused the Great Depression?” I do know that — it was a contributor to the Great Depression, but it was not because of gold. It was because of the price. Churchill picked the wrong price and that was deflationary. The lesson of the 1920s is not that you can have a gold standard, but that a country needs to get the price right. They continued down that path until, finally, it was unbearable for the U.K., and they devalued in 1931. Soon after, the U.S. devalued in 1933. Then France and the U.K. devalued again in 1936. You had a period of successive currency devaluations and so-called “beggar thy neighbor” policies. The result was, of course, one of the worst depressions in world history. There were skyrocketing unemployment and crushed industrial production that created a long period of very weak to negative growth. Currency War I was not resolved until World War II and then, finally, at the Bretton Woods conference. That’s when the world was put on a new monetary standard. Currency War II raged from 1967–1987. The seminal event in the middle of this war was Nixon’s taking the U.S., and ultimately the world, off the gold standard on Aug. 15, 1971. He did this to create jobs and promote exports to help the U.S. economy. What actually happened instead? We had three recessions back to back, in 1974, 1979 and 1980. Our stock market crashed in 1974. Unemployment skyrocketed, inflation flew out of control between 1977 and 1981 (U.S. inflation in that five-year period was 50%) and the value of the dollar was cut in half. Again, the lesson of currency wars is that they don’t produce the results you expect, which are increased exports and jobs and some growth. What they produce is extreme deflation, extreme inflation, recession, depression or economic catastrophe. This brings us to Currency War III, which began in 2010. Notice I jumped over that whole period from 1985–2010, that 25-year period? What was going on then? That was the age of what we call “King Dollar” or the “strong dollar” policy. It was a period of very good growth, very good price stability and good economic performance around the world. It was not a gold standard system nor was it rules-based. The Fed did look at the price of gold as a thermometer to see how they were doing. Basically, what the United States said to the world is, “We’re not on a gold standard, we’re on a dollar standard. “We, the United States, agree to maintain the purchasing power of the dollar and, you, our trading partners, can link to the dollar or plan your economies around some peg to the dollar. That will give us a stable system.” That actually worked up until 2010 when the U.S. tore up the deal and basically declared Currency War III after the financial crisis. The historical precedents are sobering enough, but the dangers today are even greater, exponentially increased by the scale and complexity of financial linkages throughout the world. Here we are in 2023 and they’re still continuing. And with the looming gold-backed BRICS currency, they’re about to heat up.
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I’ve been studying monetary economics for about 50 years. All of my research has led me to one conclusion — we’re going to see the collapse of the international monetary system.
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