Dollar Depreciation and Investment Safe Havens
By JC Collins
With so much fear mongering and predetermined analysis
surrounding the so-called “demise, or death of the dollar”, it can be
frustrating for the average person and investor to step back and reflect on the
totality of what the multilateral effects will be on the American currency.
What is certain amongst the international financial institutions and central
banks is the reduction in reserve currency usage of the dollar.
This reduction will have an effect on the
international valuation of the USD and the domestic economic performance of the
United States, some of which will be positive and will lead to actual job
creation growth.
There are multiple angles from which the macroeconomic
analyst can view the transition away from the dollar as the primary reserve
currency. The obvious and factual originating point of change comes with the
reduction of liquidity in the USD asset market, and the rise of a multilateral
source of international liquidity, in this case represented by the SDR of the
International Monetary Fund.
This reduction will cause a depreciation of the
dollars international value, and it’s from this point where diverging opinions
and analysis literally baseline away from each other in opposite directions.
One direction promotes the death of the dollar and the collapse of the American
economy. As many know, I do not agree with this analysis and find it is based
more on mass fear promotion and less on economic fundamentals.
The second direction takes us into the more familiar
territory of fact based analysis and the cause and effect of economic
fundamentals.
A reduction in both the geopolitical and economic
standing of the United States and its currency will initially lead to further
weakness in the domestic economy. Some of this weakness has likely been
experienced already, but to what extent is difficult to measure. A more
sustained depreciation of the dollar will also be caused by this reduction.
This
depreciation is not all bad, as it will make American made goods cheaper,
leading to an increase in net exports. International investors, most visible in
the large amounts of Chinese investors, have anticipated this depreciation and
have already made large investments into US infrastructure and production
capacity, as explained in the post The New
Industrialization of America.
The depreciating dollar will have other broad effects
on the overall economic performance of America. Some of these effects will
include a decrease in international purchasing power of the dollar, rising
commodity prices (this could potentially be offset as I will explain below),
and upward pressure on interest rates (which is already visible in the
discussions by the Federal Reserve to raise rates).
But most interesting of all the effects of a
depreciating dollar will be the reduction of external debt. Whether this
reduction of external debt will determine the need for a replacement of the USD
as reserve currency with the SDR (as dollars in the foreign reserve accounts
around the world will be reduced), or it is the need for a multilateral reserve
currency which will dictate the need for a depreciation of the dollar, is
somewhat irrelevant as the transition itself is happening regardless.
The international value of the dollar will have the
following domestic effects, some can be considered positive while others are
considered negative:
1.
Increase in domestic job creation based on increased production capacity
and net exports.
2.
Inability to continue raising the debt ceiling, which will rise to the
surface again this October, the same month as the IMF meeting on the new SDR
basket composition.
3.
Challenges with reducing budget deficits. (things such as military spending
will need to be reduced)
4.
Stabilizing the growth of the federal government’s long-term debt.
The global supply and demand for dollars, as
represented in the size of the liquidity of the USD asset market, is directly
connected with the buying and selling of USD denominated goods, services, and
other financial assets, such as stocks and bonds.
This is where the world could see an increase in
commodity prices, as explained above. When the dollar depreciates, we
traditionally see an increase in the value of, say oil. This is because oil and
other commodities are denominated in dollars. This increase in commodity prices
can be offset, or eliminated altogether, by denominating commodities, along
with goods, services, and other financial assets, in a multilateral reserve
asset, as represented by the SDR.
The need for currency diversification for international
investors will also increase with the depreciation of the dollar. With no
direct access for retail investors to the SDR, the need for an investment safe
haven based on the multilateral framework is not yet available.
Many readers will scold me for not yet producing the
ePublication titled Re-Engineering the Dollar. In that publication I will
expand further on the concepts and analysis discussed in this piece. Its
release has been delayed by a project I’ve been involved in for the purpose of
developing an investment safe haven based on the fundamentals of the SDR asset
and multilateral framework.
Re-Engineering the Dollar will be released within a
few weeks and the special project will be announced here on POM within days. –
JC
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