The Future for Fiat


by Alasdair Macleod, Schiff Gold:

The day of reckoning for unproductive credit is in sight.

With G7 national finances spiraling out of control, debt traps are being sprung on all of them, with the sole exception of Germany.

Malinvestments of the last fifty years are being exposed by the rise in interest rates, increases which are driven by a combination of declining faith in the value of major currencies and contracting bank credit. The rise in interest rates is becoming unstoppable.


Do not be surprised to see a US Government deficit exceeding $3 trillion this fiscal year, half of which will be interest payments. And in the run-up to a presidential election, there’s every sign of deficit spending increasing even further.

We now face America and her allies being dragged into another expensive conflict in the Middle East, likely to drive oil and natural gas prices higher; far higher if Iran becomes a target. With the Muslim world united against Western imperialism more than ever before, do not discount the closure of Hormuz, and even Suez, with unimaginable consequences for energy prices.

The era of interest rate suppression is over. G7 central banks are all deeply in negative equity, in other words technically bankrupt, a situation which can only be addressed by issuing yet more unproductive credit. These are the institutions tasked with ensuring the integrity of the entire system of bank credit.

This is not a good background for a dollar-based global credit system that is staring into the black hole of its own extinction.

The end for the dollar is nigh

There are a number of events coming together that suggest we are about to undergo a major upheaval in world economic, financial, and monetary affairs. It’s like one of those bush fires, which you fight in front of you, only to find that suddenly the flames are behind you as well, then on your right and your left. It becomes so hot that things are spontaneously combusting all around you and there is no escape. This is the condition currently faced by central bankers.

Just when interest rates have risen to a peak, they seem to be rising again. Surely, investors argue, the firefighting central banks must lower rates to save debtors, to save the banks, and to save themselves. But they do not control interest rates. They are being set by debt traps and over-leveraged banks trying to control lending risk. Accelerating demand for credit to pay higher interest rates is meeting a growing reluctance to lend. And to top it all, an alliance of Russia, the Saudis, and Iran are deploying control of the global oil supply, with the intention of forcing prices higher. Energy is the lifeblood of any economy. The last thing the West needs is another war in the Middle East. And now we look like having that as well.

The history of the dollar as the world’s reserve currency has been one of struggling from crisis to crisis on a worsening trend. Recent history saw the credit bubble of the nineties ending with the dot-com madness and its collapse, followed by what was commonly termed the Great Financial Crisis of 2008—2009. Given our current predicament, that description seems like mere hyperbole, because we now face an even greater crisis. Is it possible to kick the tin can down the road once again?

It seems unlikely, even allowing for the past experience of successful statist rescues from financial crises: somehow, the authorities have always been able to calm a crisis. But this time, the Global South, the nations standing to one side of all this but finding their currencies badly damaged by unfavorable comparisons with a failing dollar, a dollar forced into higher interest rates in a world that knows of nowhere else to go — this non-financial world is on the edge of abandoning American hegemony for a new model emerging from Asia.

The transition from the global status quo is bound to be a difficult affair. That the US Government is ensnared in a debt trap and is being forced to borrow exponentially increasing amounts just to pay the interest on its mountainous debt is not the fault of other nations. But many of them in turn are being forced to pay even higher interest rates, irrespective of their budgetary positions, and irrespective of their balance of trade. Yet their currencies continue to weaken even against a declining dollar.

The lesson for all of them is to not listen to the mathematical economists spouting Keynesian and monetary theories. The Russians with a trade surplus and a debt-to-GDP ratio of under 20% even when it is at war compare extremely well statistically with the US Government. If it wasn’t Russia, we would rate its financial condition highly. But the rouble still collapses, forcing Russia’s central bank to raise its short-term interest rate to 15%. The reason is simply that no one trusts roubles, but they still believe in the dollar as a safe haven.

However, there is every sign that the 52-year era of the purely fiat dollar is ending. Some foreign governments appear to be liquidating their US Treasury holdings to protect their own currencies. Japan, which is fighting to keep its yen from further collapse, has been selling recently, as has China (though for her there may be political reasons as well). The knock-on effects of the dollar’s debt trap are vividly apparent in weakness for the yen, yuan, rupee, and euro whose charts against the dollar are shown below. The effect of the dollar’s strength on lesser currencies is even worse.

Everyone assumes that the Fed must and will end this madness, not least because of the consequences for overindebted American businesses, the banks, and the Treasury itself. But what if the Fed is powerless, what if the situation is escalating beyond its control, and what if by reducing its funds rate the dollar would simply weaken pushing up consumer prices? And what if the Treasury finds funding the Government’s massive borrowing difficult even at higher interest rates?

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