As presented in the earlier article (Aug. 13, 2018), the dollar is losing value due to inflation and money printing. As Milton Friedman said,”Inflation is always and everywhere a monetary phenomenon”. This process erodes the purchasing power of the dollar over time. The rate of inflation may be regularly understated, particularly by government statistics. It can take many forms. It may be presently manifest in credit expansion and stock prices.
There is a new significant problem for the dollar. It has always been the “reserve currency” of the world, which means that most global trade and currency transactions have been conducted using the dollar. This has been a benefit to the United States. However, there has been a trend to diminish the dollar as the main reserve currency. This will generally have negative consequences for us.
Briefly, the trend started with the collapse of the Bretton Woods system in 1971 causing currencies to float in value against one another. The International Monetary Fund (IMF) had developed “special drawing rights” for the exchange in global currency transactions. As part of that system, they also created a “basket of currencies” to diversify away from the sole reliance of the dollar. Many countries wanted the option to trade outside the dollar or not rely on it so prominently.
You don’t need to know all the technicalities. The important thing is that international banking authorities have been challenging the dollar as the preeminent currency of the world. In 2015, the IMF awarded China reserve currency status for the renminbi (yuan). China had been pushing for this for quite awhile. In October 2016, it was added to the currency basket that included the US dollar, the Euro, the Japanese yen and the British pound. This further lessened the role of the dollar internationally.
A large portion of U.S. debt (Treasury bonds) is owned by foreigners, particularly China. Although this has been helpful in the past and probably kept our interest rates lower, there is a dangerous side to it. The activity of foreigners buying and selling our debt can put pressure on the dollar. It could even be used by large players, such as China, for their own political purposes.
There are other things happening as well. Several months ago, our own allies, Germany, Britain and France, created a currency payment system that can be used to trade with Iran against U.S. sanctions.
Most recently, the European Union and four South American countries formed their own trade deal. They will most likely try to do more business without using the dollar for their transactions.
Even crypto currencies are an attack against the dollar although it remains to be seen how significant they will become.
It is not just these international developments that have hurt the dollar. The growing national debt within America is also a problem and it has called into question our credibility both domestically and internationally. This fiscal issue destabilizes and weakens our currency.
So what does it mean for investors? The dollar can be reasonably stable for the next year or so even if it goes down a bit, especially if there is global turmoil. Longer term, you should avoid investments that are basically collections of dollars. This would include bonds, annuities and the like. Relatively fixed rate pensions and Social Security are worrisome. A successful private business would be very valuable. Timely investments in equities would do well. Investments in commodities on a cyclical basis could have value. Real estate could also be used but you have to be very careful as taxes and climate change will have a significant effect on pricing.
Watch, Gold – it will begin to tell the story before the story finally gets told.
Read INVESTMENT DILEMMA for more perspective.