Most Americans are unaware of recent dollar weakness. Even the professionals have shrugged off the fact that the dollar has lost about 10% of its value so far in 2017. That’s because this seems very normal, especially in light of the massive gains for the dollar the previous couple of years.
But the fact remains that the dollar has endured its weakest start to a new year in decades. And it wasn’t supposed to be this way. Most economists had predicted a strong dollar for 2017 under the Trump Presidency. It has been the opposite despite robust domestic economic growth and a roaring stock market. Of course there are multiple factors at work and a less-strong dollar is good for exports, multinationals, and the stock market at times. And, we know that President Trump’s plans for tax cuts, corporate repatriation, and infrastructure spending have all seemed slow in coming. Each of those would boost the dollar and so any delay has added to the potential for weakness. In addition, the fact that the Federal Reserve has been slower than expected in raising rates has also allowed the dollar to stay soft. These are the normal ebbs and flows of currency markets.
Beneath the surface movement, that can all be explained in great detail, however, is what can only be termed an active conspiracy to displace the dollar entirely from being the primary reserve currency of the world. There is no denying that such an effort exists although it is fair to question the likelihood of success. Because the implications are so extraordinarily serious, it is necessary to monitor this activity and we have done so for almost a decade.
Initially, the case against the dollar came from Vladimir Putin and separately from die-hard Islamists. Putin was frustrated that the United States was benefitting from the 2008 financial collapse that he felt we caused. That’s because in the panic, investors around the world rushed to safe-haven assets and bought U.S. Treasury bonds denominated in dollars. Historically, a nation that starts a financial crisis is punished with higher interest rates and a loss of economic clout. In 2008, however, American influence increased globally, at least economically. Now it should be noted that Russia had been pushing for a crisis at the time by dumping on Fannie Mae and Freddie Mac as the housing sector was cratering. They had even encouraged China to join them. And, that does eerily match a plan mentioned in the late 1990s by one of Putin’s buddies. This is a very intriguing plot and has been covered in the Blog at length and also in the book Secret Weapon.
Besides Putin, there were various Islamists who had been hoping for the collapse of western capitalism in order to demonstrate the superiority of Shariah finance. And, there were clear efforts toward that end as well culminating in an attempt to create a gold-backed dinar to displace the dollar. As in the case of Putin’s plot, these efforts have also failed, at least so far.
In 2013, however, the Chinese finally agreed with Putin that the dollar must go as a part of de-Americanizing the world. Since that time, Russia and China have worked together (along with allies Iran and Venezuela and the BRICS) to set up the infrastructure that would be needed to replace the dollar. The list of what you’d have to accomplish is pretty extensive. You’d need an alternative for many of the Western institutions such as the World Bank and IMF. And, you would want the IMF to begin to take your currency seriously. You’d also have to create alternatives to the financial plumbing that connects countries. You’d even want to create Internet connectivity that doesn’t rely on American control. Going through the list, it’s pretty clear that these have been systematically accomplished through great expense and effort. Finally, you would have to create a credible debt market that would attract foreign capital. That one is very delicate. But, we have seen China progress there also.
It is reasonable to question whether or not China/Russia could displace the dollar. It is no longer reasonable to question whether or not they desire the capability.
There are a few recent events that separately might not mean much individually but together, along with the dollar’s recent decline, bear watching.
First among these is the effort Russia is making to “speed up” in reducing dependence on the U.S. dollar and American payment systems as noted in an August 7, 2017 Reuters report:
“We will of course intensify work related to import substitution, reduction of dependence on U.S. payment systems, on the dollar as a settling currency and so on. It is becoming a vital need,” Ryabkov was quoted as saying.
While that’s a small statement, it carries big implications. This is aimed at offsetting sanctions we placed on Russia in 2014 and reducing or eliminating our ability to impose future sanctions.
Second, Venezuela has stated that they plan to no longer accept dollars as payment for oil exports. This is of course a very strange move for Venezuela considering the collapse of their currency and economy. It would only seem logical that they would seek to obtain any decent currency simply to shore up their domestic weakness. After all, where will they sell oil if they won’t accept dollars?
The main reason cited, according to a September 13, 2017 Wall Street Journal report, is a desire to get away from dollar control:
“To fight against the economic blockade there will be a basket of currencies to liberate us from the dollar,” Vice President Tareck El Aissami, who has been blacklisted by the U.S., said Friday.
Because Venezuela holds the world’s largest proven oil reserves (larger than Saudi Arabia), this is more than a symbolic move. They will likely receive Euros instead, a currency that is somewhat harder to spend in this hemisphere. Venezuela may think they can avoid some of the impact of sanctions by rejecting dollars. More likely, however, is that this is simply further proof that Venezuela has become a Russian client state. Putin has already sought control of Venezuelan oil assets including refineries they own in the United States. Treasury Secretary Mnuchin acknowledges that this has national security implications.
A third item of interest is the liquidation of dollar-based assets by other OPEC members. Granted, the major oil exporters are desperate for cash as oil prices have fallen from over $100 per barrel to around $50 in the past couple of years. Essentially that cuts oil revenues in half. So it should be of little surprise that exporters would have to dip into reserves and that means selling U.S. dollars in the form of Treasury bonds. The Saudis have been dramatic sellers of their currency reserves and they are not alone. This has led Russia Insider to conclude that the Petrodollar system (wherein oil is sold for dollars and the proceeds are reinvested into American Treasury debt) is in trouble:
“The U.S. PetroDollar system is in serious trouble as the Middle East’s largest oil producer continues to suffer as the low oil price devastates its financial bottom line. Saudi Arabia, the key player in the PetroDollar system, continues to liquidate its foreign exchange reserves as the current price of oil is not covering the cost to produce oil as well as finance its national budget . . .
Regardless… the PetroDollar system works when an oil exporting country has a “SURPLUS” to reinvest into U.S. Treasuries. And this is exactly what Saudi Arabia has done up until 2014, when it was forced to liquidate its foreign exchange reserves (mostly U.S. Treasuries) when the price of oil fell below $100.
So, as the price of oil continued to decline from the mid 2014 to the latter part of 2016, Saudi Arabia sold off 27% of its foreign exchange reserves. However, as the oil price recovered at the end of 2016 and into 2017, this wasn’t enough to curtail the continued selling of Saudi’s foreign exchange reserves. The Kingdom liquidated another $36 billion of its foreign exchange reserves in 2017…”
Along with this, it should be noted that Saudi Arabia is hoping to sell 5% of their Saudi Aramco holdings for as much as $100 billion. They need the cash. What if China agreed to buy the assets but required that oil no longer trade in dollars? This would be a massive shot in the oil wars.
A fourth item of interest is the fact that both Russia and China have been buying up lots of gold. We know that these nations have been pushing the BRICS to move away from dollars for some time. More recently, however, China and Russia have been working together to create an alternative to Western-led gold trading. Turkey has also been moving toward a gold standard. The nations of the world are clearly lining up on opposite sides along a gold vs. dollar dividing line. This is quite possibly a fissure that could launch World War 3. Only this would be an economic war rather than kinetic.
A fifth item of note is the fact that our national debt has now topped $20 trillion. Two years ago at this time it had just topped $18 trillion. Ten years ago, the debt was around $9 trillion. This is important because we are needing to raise about $1 trillion more each year in loans just to cover the debt. If foreigners are selling, who is buying? If interest rates rise, our cost of debt service will rise with it and make the debt expand even more rapidly. Passing $20 trillion brings a global consciousness to our debt situation and appears to strengthen the arguments of those who would depose the dollar.
A sixth issue is that China believes we are attacking them. When the book Unrestricted Warfare was written, the authors suggested that credit downgrades from American institutions such as Moody’s or S&P was basically a financial attack. Recently, Moody’s and then S&P downgraded China’s credit rating. While likely justified based on deteriorating credit quality, this will nonetheless be viewed as an act of financial warfare.
A seventh consideration is that China is building an alternative bond market, hoping to attract foreign capital. They expect massive foreign demand even as they are subtly encouraging less interest in American debt. And yes, it is a competition. The Chinese hope to double the size of their bond market over the next five years to over $18 trillion. They want their municipal debt to expand to $3 trillion, nearly the size of the $3.8 trillion U.S. municipal debt market.
An eighth issue is the rapidly emerging popularity of crypto currencies like Bitcoin. There is clearly a pent-up demand for alternatives to American dollars. Some in China are urging a Chinese launched alternative to Bitcoin to potentially emerge as an alternative reserve currency.
When you put all of this together, is there a surprise that the International Monetary Fund (IMF) is talking about moving their headquarters to Beijing (from Washington, DC)?
None of this is to suggest that Russia, China, or any other nation is in a position to unseat the dollar. It would be a risky gambit at this point. But I can state that the dollar’s position is clearly weaker than it was even a few years ago. In addition, the lineup of nations willing to consider a challenge to the dollar has expanded substantially.
Here’s the good news. A few smart moves to “Make America Great Again” could strengthen our economy to such a degree that we would clearly win any economic war. We need tax reform, regulatory reform, a crackdown on Intellectual Property theft, and an infrastructure package. It is really up to us as to whether or not we take the steps needed to win this global economic war.
