Moon of Alabama Brecht quote
June 11, 2008

The Dollar Abuse Leads To A Multipolar World

Since World War II the U.S. has abused the status of the dollar as the world currency to live beyond its means. It has forced others to finance its wars by exporting inflation. This was done after the Vietnam war and today the U.S. is trying to do it again and to let the world pay for its War on Iraq.

As a defensive measure against abuses like after Vietnam european countries established their common currency. Today, as the U.S. tries to repeat its old trick, the defense gets tested and it seems to be working fine.

After World War II and the decline of the British Empire the U.S. became the leading economic power of the world. The Bretton Woods agreement fixed world currencies to the U.S. dollar and the U.S. dollar to gold. But soon the U.S. economy declined relatively to the western European and the Japanese economies.

President Johnson decided not to increase taxes to pay for the Vietnam War and his Great Society program. Instead the Fed printed more dollars. The war led to an outflow of these dollars, high inflation and a deterioration of the U.S. balance of trade position. The peg of the dollar to gold at $35/once became untenable.

In 1971 Nixon broke the Bretton Woods agreement and took the dollar off the gold standard. The important international currencies went into free float and the dollar declined. The OPEC oil cartel, which sold its product in dollars, replied to this loss of revenue with hefty price increases. This 'oil shock' increased the already rampant inflation while the U.S. went into a recession.  Despite the high inflation the Fed reduced interest rates to revive the U.S. economy.

European and the Japanese economies depended on exports into a dollar denominated world market. With their currencies rising against the dollar their export products became more expensive. At the same time the higher inflation due to oil prices demanded an interest rate increase.

But with interest rates lower in the U.S. than in most European countries money flowed into their currencies and the dollar threatened to decline further. Their export economies were in danger of collapse. They had to follow the Fed and also decrease their interest rates. As a consequence stagflation set in on both sides of the Atlantic.

As an answer to this effective export of U.S. stagflation to their economies the European Community decided in 1975 to launch the European Currency Unit ECU. This was the birth of the Euro.

Paul Volker's harsh interest increases, lower demand for oil and increased supply of OPEC independent energy sources killed off inflation (and cost Carter a second term). Reagan's debt financed tax stimulus revived the U.S. economy.

President Bush decided not to increase taxes to pay for the War on Iraq and his other programs. Instead the Fed printed more dollars. The war led to an outflow of these dollars, high inflation and a deterioration of the U.S. balance of trade position.

The important international currencies were in free float and the dollar declined. The OPEC oil cartel, which sells its product in dollars, replied to this loss of revenue with hefty price increases. The 'oil shock' increased the already rampant inflation while the U.S. went into a recession. Despite the inflation the Fed reduced interest rates to revive the U.S. economy.

But one thing has changed between the 1970s and 2000: There is now an alternative to the dollar as world exchange medium.

Most of Europeans exports are no longer denominated in U.S. dollar but in euros. Many countries have diversified their reserves away from the dollar and into euros and yen. The dependence of world trade on the U.S. dollar has declined. At the same time U.S. dependency on imports has increased.

While the U.S. in the 1970s could effordless export its inflation and recession to Europe and Japan it is now meeting hard resistance.

Bernanke would like to lower interest rates further to get the U.S. out of the recession and to inflate away the nation's debt. But he can not do so because this time the Europeans will not follow him but will increase their interest rates and fight inflation.

As Wolfgang Münchau explained in the Financial Times:

By moving in the opposite direction from the Fed, the ECB is providing a much more appropriate domestic policy response than what would have been possible under a national currency regime. The ability to do this constitutes quite possibly one of the biggest economic benefits of the euro.   It has not only domestic but global implications. In particular, it limits the Fed’s own room for manoeuvre, something that would have been unthinkable only a few years ago. If the Europeans had followed the Americans again, the Fed would probably have been in a position to cut interest rates further. The dollar would not have fallen as much and Ben Bernanke, Fed chairman, would not have needed to revert to verbal intervention to prop up the dollar as he did last week. This suggests that in terms of global monetary policy, we are in the middle of a shift from a unipolar to a bipolar world.
...
As US inflation rises, more and more countries may unpeg from the dollar to avoid imported inflation. If this trend persisted, the US would risk losing its exorbitant privilege – the ability to live beyond its means thanks to a globally domineering currency.

The leading country of the world can not lead anymore. We may now also see the end of the Anglo-Saxon financial model:

Continental Europe should take the lead in devising new rules for financial markets because the Anglo-Saxon model of regulation has failed, Angela Merkel has told the Financial Times.
...
The chancellor praised the euro as having allowed the economy of the EU to partially decouple from the US, at least in the industrial goods area if not in financial markets, and reaffirmed her support for the independence of the European Central Bank.

The euro-countries are now able to withstand U.S. inflation export. But the devaluation of the dollar still exports U.S. inflation to those economies that are still pegged to the dollar. As less they are pegged and more independent they are from the dollar, the better is their control over imported inflation.

The Gulf States, pegged to the U.S. dollar, now all have between 15 and 25% inflation. China is using drastic measures, increasing mandatory bank reserves to 17.5%, to reign in double digit inflation. Smaller currencies with a dollar peg like the Ukraine's hryvnia are inflating at a 30% rate.

The U.S. is making these countries pay for its war on Iraq by exporting inflation to them. The euro model shows that alternatives are possible.

This success of the euro will reinforce the moves towards currency unions in Asia, South America and the Gulf region. The ASEAN+3 group is developing an Asian Currency Unit which replicates the ECU model. The Gulf countries are in talks of launching a common currency of their own by 2010. The Bank of the South is working on a similar model for Latin America.

The future world will be multipolar with five to six currency blocks which will have about equal weight. When those currency blocks are established, the U.S. dollar will have lost its special position. With that the U.S. will have lost its special place in the world and the luxury to let others pay for its wars and consumption.

Posted by b on June 11, 2008 at 17:48 UTC | Permalink

Comments

I've seen GCC dollar pegs justified as a way of stabilizing the currency bloc in the runup to monetary union, but I don't understand that - not any more. Unpegging now would drive a wedge between US & EU economic policy, very helpfully boosting the EU as a counterweight to the US in the region.

Bet the US can stop ACU cold with bureaucratic maneuvering in ADB and pressure on Japan.

Posted by: ...---... | Jun 11 2008 21:38 utc | 1

An interesting wrap-up, and not the first time someone has noticed that here we are,
24 years later, another cheerleader claiming he'd served in an Air Force war, in his
fading dodderage, another Iran-Contra brew-ha-ha, another oil embargo, and the screws
slowly turning, but you can't compare Nixon's Bretton Woods sinecure to Clinton's, as
initiating identical cascading pachinko effects on the stock market and price of oil.
It's just pure generational follow-the-leader. Same suits, same ties, different era.

Take 1984: "Tonight the American people deserve our thanks for 37 straight months of
economic growth, for sunrise firms and modernized industries creating 9 million new jobs in 3 years, interest rates cut in half, inflation falling over from 12 percent
in 1980 to under 4 today." Reagan's growth rate was 3.4% with a budget of well under
$1T. He cut the budget of 8 agencies out of 15 during his first term and the budget of 10 out of 15 during his second term, while increasing Defense spending by 35%.

2008? "Tonight the American people deserve our apology for negative job growth after
six years of anemic performance, for sunset manufacturing firms and outsourcing of
service industries, not even replacing jobs lost in 3 years, interest rates cut by
three-fourths, but then quintupled, (real) inflation rising from under 2.5% in 2000
to over 12% today, 5.4M Americans living in poverty, 4M Americans threatened
with eviction, adding to an 11% homeless population, a projected $5.6T budget
surplus at the start, mismanaged into a $2.4 T deficit, a $8.0 trillion meltdown,
the largest in human history." Bush's growth rate was a meager 2.4% with a budget
now approaching $3T. He grew the Federal bureaucracy bloat at a rate unprecedented
in US history, while increasing Defense spending until, itself, it's larger than
all other nations combined, the largest State-Corporate entity in human existence.

No, there simply is no comparison. Coincidence, familiar usual cast of characters,
but there's just nothing but ashes and dried blood on our tea leaves to read now.
Here, knock yourself out

And one more thing. Reagan saw microelectronics and the computer chip in his era.
Bush has nothing but kleptomania, growing the police state, oh, and wind mills!!

Posted by: Coink Kidink | Jun 12 2008 4:11 utc | 2

The thesis of decoupling is fantasy and it's weird how it is used to prop up a kind of neo-liberal left ideology in which the globe can be divided into regional laboratories of capitalist development. As if this or that capitalist "experiment" can tame the business cycle and export-led development can somehow transmogrify into self-secure sphere of capitalist accumulation. Weird utopianism.

And, b, your bourgeois-econ heroes Roubini and Roach aren't buying into the decoupling fantasy. Perhaps you should read them as well.

Posted by: slothrop | Jun 12 2008 15:35 utc | 3

shall I take the bait?


Oh well - there already is decoupling. U.S. gas prices have gone up by some 250% since 2001. German gas prices have gone up by some 50% in the same timeframe. You want to tell me that doesn't make a difference for the economy?

Exports for dollars are down in Europe since the start of the euro while total exports in all currencies are up. So there is less dependency on U.S. policies before and after the euro.

I never argued total decoupling. What I say above is that the U.S. can not any longer export its inflation to the euro area as it could in the 1970s. I still can and does so in full to the dollar pegged countries.

Posted by: b | Jun 12 2008 17:40 utc | 4

I don't care if you don't respond to my post. Really, I don't care.

Inflation is a global problem, fueled by fictitious-capital speculation and supply/demand crises. Once the investment bubble bursts, the result is deflation, and fictitious capital rushes to find another bubble to inflate, while "consumers" are left to pay the bill for the profligacies of the "investors." Even the Germans are doing it. No currency exchange reform will solve this essential crisis of the business cycle. We're all trapped in this collapsing shithouse.

Put another way: the crisis might best be understood by the problem of global capitalist class overaccumulation. Simply put, in an insidious effort to sustain grotesquely unequal distributions of the social product, workers are deprived of vastly improved welfare in order to assure an abundance of cheap labor. The illusion of any progress is paid for by workers using credit cards to "live beyond their means." Oh, how the people will pay for their indolence.

How your exchange policy reforms are going to solve this basic contradiction of accumulation is a mystery to me.

Posted by: slothrop | Jun 12 2008 19:15 utc | 5

Nice piece b, but Johnson done two things. He sprung for the Great Society and the unified budget. He payed for the war and great society using Social Security in a unified budget thus starting the cycle of spending SS moneys.

Nixon actually escalated the war after taking office. Thus the meme that the great society was a failure, it was actually undermined by the war and Nixon ideology and never really given a chance to work.

Some good info on the current situation is at www.elainemeinelsupkis.typad.com/money_matters. Her theory is that bankruptsy and falling home prices is keeping inflation from higher oil and food prices down enough to allow the fed to cut interest rates. Thus, no help for the average Joe.

www.exponentialimprovement.com has a article "The Oil Shock of the 70s" chronivcles through a 1970s timeline what Nixons breaking with Bretton Wood done.

Posted by: jdp | Jun 13 2008 1:07 utc | 6

slothrop@3,
On decoupling, Yes, the rest pf the world is decoupling from the USA dollar as well as the USA moralness-smugness and imperialistic take on where the planet stands fifty years after WWII ended & the unraveling of the Eurocentric bubble began.

Posted by: jony_b_cool | Jun 13 2008 1:43 utc | 7

What about the petro-dollar abuse??

The fix is in

Gasoline prices fixed. 11 Quebec companies and 13 individuals were charged today in a gas price fixing scheme. The Competition Bureau conducted a lengthy investigation into the allegations.

...

One of the companies will not be challenging (link to pdf on the page) the findings. In the meantime, the industry is claiming that these are "bad apples" in an otherwise competitive market.

Meanwhile, in the US, 62% of those polled believe that "unethical behaviour" is to blame for gas prices.

Posted by: Uncle $cam | Jun 13 2008 6:46 utc | 8

Inflation rate jumps by biggest amount in 6 months

The Labor Department reported Friday that consumer prices rose by 0.6 percent last month, the biggest one-month increase since last November, as gasoline costs surged by 5.7 percent. Food prices, which have also been rising sharply, were up 0.3 percent as the cost of beef and bakery products showed big gains.
...
So far this year, consumer prices are rising at an annual rate of 4 percent, compared with a 4.1 percent increase for all of 2007.
...
The combination of rising inflation and weak wage gains contributed to another drop in weekly earnings. After adjusting for inflation, weekly earnings for nonsupervisory workers were down 1.2 percent in May, compared to a year ago, the Labor Department said in a separate report.

Posted by: b | Jun 13 2008 16:25 utc | 9

Rereading the AP piece in 9 I do not understand how the ended up with second sentence.

"this year, consumer prices are rising at an annual rate of 4 percent" is false. Very false.

Posted by: b | Jun 13 2008 16:43 utc | 10

Rising oil (fossil fuel..) prices:

1) in dollars, as the dollar falls. Less in Euros, etc. But the relevant charts show less difference than one might expect - the difference is a perceived one as (e.g.) EU/other economies (or some sections of the population) are not as dependent on oil price as some in the US are - territorial organization, exburbs, gas mileage of cars, available alternative transport, make-do strategies, Gvmt. policy, tax, savings, etc. And the decoupling is real in part, my UBS banker just swore that was so ;)

2) Rising costs of production. Each year, it costs the oil cos. - independent or nationalized- more to garner one barrel of oil. Because much of the remaining oil is harder to extract; because investment in more complex techniques is needed; because developing new fields is an iffy business; because workers, and experts, are tough to recruit and have consequent demands; because in many places, a very high public relations and/or ‘danger’ premium must be paid (e.g. Nigeria, payment to ‘the people’ for community projects, and a closed and armed compound for the foreign ‘oil workers’ .. !); because producers don’t have a free hand and are dependent on geo-politics (e.g. Iraq)

3) Supply-demand, in econo 01 speak. Competition for scarce resources in the ‘free market’ world ups the price. One factor: oil producing countries use more themselves with economic devp. and export less. (Not KSA the US client state: but they can only do so much.)

4) Speculation. What role it plays is hard to say; basically, the finance community and investors are beginning to realize that money is worthless (if you can’t do much with it) and only the basics - energy, which includes food for people, as they will always demand it - have real worth.

5) other. (list not complete.)

Posted by: Tangerine | Jun 13 2008 17:53 utc | 11

Yahoo sux. Easier to get it from the horse's mouth. YOY is 4.2%, slower than the annualized monthly rate.

Posted by: ...---... | Jun 13 2008 23:45 utc | 12

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