Editor’s note: The following is a guest commentary from one of WND’s sponsors, Kevin DeMeritt, president of Lear Financial. If you would like to learn more about investing in precious metals, take advantage of the free information Lear Financial is making available to WND readers.
They are questions that don’t come with quick answers: Why is our debt exploding? Why is the dollar falling? How long can the debt and the dollar go on this way? Why does gold appear to have an inverse relationship with the dollar? Why is the fate of nations seemingly so inextricably tied to the decisions Washington makes? By no means are such issues easy to explain.
But this article will attempt to do so in simple and straightforward fashion. To frame these important questions, we first need to take a step back and look at the 1944 Bretton Woods Conference.
Bretton Woods remains the relatively obscure New Hampshire postal address of the prestigious Mount Washington Hotel, the chosen location for a monumental post-World War II economic conference attended by representatives of 45 nations. The conference was aimed at establishing a more stable world economic system following the war, but it was also where America, in essence, was crowned as the planet’s new superpower (succeeding England).
By way of perspective, from the 18th to the early 20th century, when the “sun never set on the British Empire,” the gold-backed pound was the dominant global currency, just as the dollar is today. The pound virtually fueled world trade. The currency was regarded “as good as gold” and, consequently, Britain easily maintained its gold reserve.
But by 1925, Britain was struggling to maintain its world leadership in the face of increased competition by other industrialized nations. As a result, the embattled pound was forced to come off its gold backing in 1931, and England’s golden age was effectively over. Two years later, Franklin Roosevelt banned private ownership of gold and announced a devaluation of 59 percent in the gold value of the dollar. America was having a monetary crisis of its own. Now, in essence, there could be a lot more dollars for the government to employ, albeit with far less backing. After the global depression, when the war was winding down, it was time to sort these world leadership and currency questions out at the Bretton Woods Conference.
The dollar is crowned king
When the Bretton Woods dust had settled, it was decided that the dollar would still remain backed, in part, by gold (pegged at $35 an ounce from 1934 to 1968), and other global currencies would be tied to the dollar in a fixed exchange rate system. Now the controversial Keynesian Doctrine (named after England’s representative and the “star” of Bretton Woods, John Maynard Keynes) of expansion through money and credit creation was off and running. This was all intended to lend stability to a war-weary international community, but, in doing so, it also elevated the dollar to world currency status, granting the U.S. enormous advantages.
For nearly three decades, Bretton Woods appeared to work well. That was ostensibly evident by the ensuing 27 years of spectacular capitalist growth and rising living standards (at least among the capitalist countries) of a kind never witnessed before or since.
But, just as the British and pound’s prestige began eroding in the early 20th century, the dollar – and the Bretton Woods agreement – came under mounting pressure in the late 1960s.
Ironically, it was the very success of Bretton Woods that initiated the crisis. Its success led to the growth of the global economy and the resulting need for international liquidity in the form of more U.S. dollars (the “world currency”). In other words, there was a burgeoning demand for far more dollars than could justifiably be printed and adequately backed by the amount of gold the U.S. held.
At the same time, America was struggling with an unaccustomed decline in economic power and prestige, straining under mounting inflation and the unprecedented shocks of oil-price hikes. What’s more, U.S. politicians felt increasingly handcuffed in the creation of foreign policy (war in Vietnam being one example) since they had to budget their offshore spending and the sending of boatloads of diluted dollars overseas. When these pressures grew overwhelming, President Nixon finally announced in a televised address on Aug. 15, 1971, that the U.S. was removing gold backing from the dollar altogether. It was a hard choice to make. Had he not done so, America would probably have been drained of its gold reserve to settle balance of payment problems.
The dollar and gold part company
But from that moment on, the dollar and gold went their separate ways. Now, without the healthy constraint of a gold backing, the dollar was set to spread like wildfire. And spread it did. The Fed now employed a pure fiat monetary system, meaning the U.S. government could create as many unbacked paper dollars as it wanted, simply by cranking up the printing presses.
And the world bought into it. In the 20 years before 1971 – the mostly Bretton Woods years – international reserves of the dollar increased by a manageable 55 percent. Since 1971 and the breaking up of Bretton Woods, however, global dollar reserves jumped by over 2000 percent! Amazingly, two-thirds of U.S. paper currency is now circulating in foreign countries. In fact, 90 percent of U.S. $100 bills aren’t even in the States – they’re abroad. Asian central banks now hold an estimated $1.5 trillion in dollar reserves.
There is an ominous correlation going on here. The more foreign countries sell to us, the more stuff we buy (instead of sell), the more dollars flow overseas, the deeper our debt grows (estimated at $1 million a minute), and the bigger a foreign nation’s reserve currency becomes. In truth, and logically enough, the collective foreign “surplus” of dollars is growing at virtually the same pace as our debt.
The consequence of too many dollars in Thailand
Richard Duncan, in his new book, “The Dollar Crisis,” describes what happens when this tidal wave of dollars strikes foreign shores and is then multiplied through lending:
“Take Thailand as an example. Beginning in 1986, loan growth expanded by 25 percent to 30 percent a year for the next 10 years. Had Thailand been a closed economy without a large balance of payments surplus, such rapid loan growth would have been impossible. The banks would have very quickly run out of deposits to lend, and the economy would have slowed down much sooner.
“In any event, however, so much foreign capital came into Thailand and was deposited in Thai banks that the deposits never ran out, and the lending spree went on for more than a decade. By 1990 an asset bubble in property had developed. Every inch of Thailand had gone up in value from four to 10 times. Higher property prices provided more collateral backing for yet more loans.
“An incredible building boom began. A thousand high-rise buildings were added to the skyline. All the building material industries quadrupled their capacity. Corporate profits surged and the stock market shot higher. Every industry had access to cheap credit; and every industry dramatically expanded capacity. The economy rocketed into double-digit annual growth.
“And, so it was in all the countries that rapidly built up large foreign exchange (dollar) reserves: credit expansion surged, investment and economic growth accelerated at an extraordinary pace, and asset price bubbles began to form. That was the case in Japan in the 1980s and in Thailand and other Asian crisis countries in the 1990s. It is also true of China today. Wherever reserve assets ballooned in a short space of time, economic bubbles formed.”
Unfortunately, as Duncan points out, all bubbles eventually pop. And when they do, they “always end in excess industrial capacity and/or unsustainably high asset prices. Banks fail because deflating asset prices and falling product prices make it impossible for over-stretched borrowers to repay their loans.” In short, the resulting deflation can be an “extinction event” for the unfortunate government of just such a country.
The perfect storm of debt
So, given no end in sight to America’s mounting debt, what’s a country to do with its rising tide of dollars? The options are surprisingly limited. To limit the length of this article and keep things simple here, the only prudent place for foreign nations to put their dollars, without inviting intolerable consequences to their own countries, is either into gold – which would promptly cause the precious metal to skyrocket to stratospheric levels with an investment of just a fraction of these dollars – or into buying U.S. debt instruments.
For now at least, most of these expatriated dollars are going back into our debt. That’s why we have had no problem financing our monstrous indebtedness and why U.S. politicians haven’t so much as broken a sweat. To many nations, it’s the only real game in town.
You see the problem here? We are witnessing a “perfect storm” of debt. Their excess dollars and our excessive debt blend in a destructive cycle that continues to fuel itself and spirals larger and larger. As Duncan puts it, “Therefore, the dollar could be described as a boomerang currency. First it goes abroad as the export earnings of non-U.S. exporters. Then foreign central banks send it back to be invested in U.S. dollar-denominated assets because there is really no place else to put it.”
The irresistible nature of these foreign dollars can be better viewed by what happened in the late ’90s, when the U.S. government managed a brief surplus and temporarily ceased issuing new Treasury Bonds. Since foreign dollars could no longer buy the same quantity of American debt, it promptly flowed into the next best thing: the “riskier” stock market. That’s what served as the fuel for the final leg of Wall Street’s record-breaking bull market.
But now, in the wake of 9-11, U.S. debt is back with a vengeance, and the prognosis is indeed bleak. A few courageous analysts predict that we are so far down the road that only one of two outcomes is possible: either the dollar will need to fall to unimaginable levels or the U.S. will simply find itself unable to service its towering debt, foreign dollar investments notwithstanding.
Either way, the consequences of the coming debt crash after the greatest credit expansion in history, delayed over decades of political expediency, banking manipulation and media camouflage, could be a disaster on a scale never before witnessed. It will give countries no choice but to buy gold, which, by then, will take over as the only game in town.
In fact, this exodus of capital into the metals has already begun on a very careful, very measured basis. Nations are now starting to follow a pattern repeated throughout history, one that truly affirms gold as “history’s currency.”
But time has not yet run out, and you would be wise to consider the dilemma of the swelling dollar. Because, if the foregoing has demonstrated anything at all, it’s that the buck truly does stop with gold.
Special for WND readers, Lear Financial is making available free information on investing in precious metals.
With more than 20 years of industry experience, Kevin DeMeritt is president of Lear Financial, one of today’s fastest growing and most successful precious metals investment firms.
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