China’s Vice Finance Minister Zhu Guangyao made a statement earlier this week about President Obama and Washington’s risk of a debt default due to the current partisan battle that I found a bit unsettling:
“As the world’s largest economy and the issuer of the major reserve currency in the world, it is important for the U.S. to maintain the creditworthiness of its Treasury bonds … “
MentalUnrest will cover almost any topic, but I never imagined digging into economic details here. At the same time, I think Guangyao’s statement only scratches the surface of an ugly truth about US debt, and deserves a deeper exploration. Here we go, if you’re ready…
Most people should know by now that US Treasury securities are used to finance the US deficit and roll over existing debts, but these bonds are also tightly coupled to the US Dollar’s status as the world’s reserve currency.
The US Dollar being the world’s reserve currency – a global honor once held by the British Pound Sterling – means that most countries around the world need American currency to buy goods.
The overwhelming majority of oil transactions are made in US Dollars. More than half of the world’s international trade is also conducted in US currency.
Those last two points are important. An example follows.
You’re India, and you want to buy oil from your friend, Saudi Arabia. Making that purchase means you first need to deposit your India Rupees in a US bank account and purchase US Dollars. Then, you purchase the oil with your new American currency. Saudi Arabia then parks the”petrol dollars” they received from you in US banks.
Aggregating those transactions around the world means the the US Dollar, and its banks, see plenty of action every day. Believe me, the banks aren’t even remotely complaining about this arrangement.
The US currency purchased or received by sovereign nations do not simply take the form of idle cash in reserve accounts waiting for an international trade deal. The Yankee loot is used to invest in the financial markets, inclusive of buying US Treasury debt securities.
The world needs US Dollars to buy stuff, and US banks see plenty of business because of the US Dollar’s reserve status.
Let’s take this understanding to a deeper level if the picture hasn’t become ugly yet.
The US can run a deficit each year with almost no care because it only needs to issue additional Treasury debt – aka “print money” – to pay for these budget shortfalls, and the world needs Treasury debt, or US Dollars, to buy stuff.
Placed another way, the world finances US tax cuts for the rich, US military adventures, as well as hundreds of American military bases across the globe because the world needs US dollars to buy stuff. Whether these countries like it or not.
(Laughing) Imagine how China must feel about buying US Dollars to finance America’s Asia Pivot, a strategy that includes surrounding China with American military assets.
We would have a global financial market meltdown that would make the 2008 crash look like a family barbecue should the US Dollar suddenly lose its reserve currency status. This status is so important to the US where some analysts argue that America’s additional motivation for invading Iraq arrived in the year 2000 after the late Saddam Hussein ditched the US Dollar and began to accept payment for oil in Euros. The deaths of tens of thousands of civilians would then be justified, as the oil-dollar theory goes.
Just sayin’…this could explain why France and Germany were so pissed with the US after the Iraq invasion.
In case you’re wondering, Iraq is back to selling its oil in US Dollars.
Perhaps Bush the Second wasn’t lying when he talked about fighting the War on Terror to protect our way of life.
As an investment and global currency for trade, the US Dollar has worked better for the world than using a currency like the Nigerian Naira because it’s widely assumed that the American political environment is sufficiently stable.
But what if America’s political stability, as evidenced by the country’s increasingly hostile partisan battles, evaporated?
I’m not suggesting that the world will dump the US Dollar tomorrow—the size of the current bond exposure would make the economic consequences of such a sudden move be catastrophic, as mentioned earlier.
However, what do you think is going through the minds of finance and treasury officials in countries that rely on the US Dollar for global commerce and investment, while the Party of No Brains and the Party of No Guts continue to squabble?
I imagine they’re accelerating current discussions among themselves about how to find a new currency and phase out the US Dollar someday.
And when that day happens, The US will no longer be able to print money.
The inability to print money will force America to make hard choices about which activities it will shut down or continue to support.
Also, the country will be forced to pay its enormous debts.
In other words, game over for the empire…
song currently stuck in my head: “play in the sunshine” – prince