TWILIGHT OF THE UNITED STATES DOLLAR?
Joseph M. Miller
November, 2002
Any prudent individual, who has enough assets to be concerned about preserving, has been watching financial happenings over the past few years, months and weeks, with a growing sense of apprehension. I certainly find myself in that situation, and I confess I am worried when I view the trends taking place, the actions and statements from Washington and Wall Street, and the general malaise that is falling over the world in general. There is not enough time and space in this essay to cover all of the items that are worrying. However, I think it is appropriate and prudent for me to share some thoughts on one area of concern, namely the Trade Deficit.
In recent weeks I have been giving a great deal of thought to the ramifications for the United States and the World to our growing Trade Deficit. Just recently I read a comment on this problem by The Comstock Partners that I share with you below.
Comstock Partners
Daily Comment
The Threatening Trade Deficit
The international trade deficit for September was reported today at $38 billion and it was no surprise that it almost equaled the prior month's record of $38.3. This deficit was at least $30 billion in each and every month this year, starting with $30 billion in January, and working its way up to the $38 billion level of the last two months. If we were to continue the $38 billion/month deficit into next year we would have a $456 billion deficit for the next 12 months. It is fascinating to us that these figures can be released without any reaction in the financial markets. It makes us wonder if the average market participant understands the potential ramifications of a deficit like this.
First of all, the deficit occurs when the U.S. buys more foreign goods than we export abroad. What has to be understood about a deficit like this is that the foreigners who were the beneficiaries of the transactions must finance it. In other words, over $1.25 billion a day must be invested in the U.S. each and every day in 2003 if the last 2 months hold steady. For example, if the U.S. buys cars from Germany amounting to $1 million more than the amount they purchase from the U.S., $1 million goes to the German car companies. For simplicity, let's assume there is one German auto company, BMW. BMW then takes the $1 million to a German bank and converts them to the Euro currency, which they use to conduct business. The bank, in turn, takes the $1 million to the European Central Bank (ECB) to get Euros. At any point as they work their way through the system, dollars are available to any customer who needs them, but after all is said and done, the net effect is that the excess dollars wind up being invested in U.S. financial instruments including stocks and bonds. BMW, could, if it chose to, just invest the $1 million in the U.S. itself if they were convinced they could achieve a high enough rate of return on their money. After all of the accumulated deficits, the U.S. is presently a net debtor of approximately $9 trillion.
For longer-term perspective, we note that the U.S. trade balance first went into deficit in 1971, and has since been in deficit every year with the exception of 1973 and 1975. The annual deficit did not exceed $100 billion until 1984, and through 1995 the peak deficit was $174 billion. The September annualized rate amounts to $456 billion.
The risk to this whole process comes when, for some reason, the foreign creditors and stockholders decide to repatriate the money held in this country, or said another way, they decide to liquidate the financial instruments held here and convert them back to their domestic currency. The potential catalysts to the possibility of foreign liquidation could be the next down leg in the U.S. stock market, a bond market collapse, or a decline in the U.S. dollar, or some combination of the three. The problem is that once the process started there would be a negative feed-back effect, and any ongoing decline in stocks, bonds, or the dollar would be seriously exacerbated.
The final paragraph is the vital one, because it lists in detail the hazards associated with the worsening Trade Deficit.
It has been a difficult time for me over the last 30 years trying to decide if I should structure my portfolio of assets to weather inflation or deflation. Over that 30 years if one had not decided wisely concerning the correct answer to that question, their assets would have been in jeopardy. At no time has that question been more vital or in need of a correct answer than right now. The debates between the proponents of deflation on the one hand and of inflation on the other are daily placed before us. If I had to hazard a guess, I would have to say the proponents of a deflation scenario in the period just ahead are winning the debate.
But wait a minute, are they correct? When I analyze the situation, I feel the "Powers That Be" (PTB) appear to be deathly afraid of deflation, are very aware it is looming on the financial horizon, and are saying they will pull out all stops in an effort to see it does not occur. This was apparent in Alan Greenspan's comments in his speech yesterday, that can be read at: (www.federalreserve.gov/boarddocs/speeches/2002/20021119/default.htm)
So where does that leave us? I feel it leaves us in a very bad situation as investors. The worry that has been nagging at the base of my subconscious is a very serious one. I fear the Trade Deficit will be to the United States (And unfortunately the entire World.), what the War Reparations Debt was to Germany in the 1920's. When the time arrives to settle the accumulated deficit (And that time may not be far off.), it is going to be a difficult and destabilizing period for the United States financial system as well as for the entire World's financial system.
When Germany started down the road to hyperinflation in the 1920's, one of the most important proximate causes was the war reparations forced on them by the victors of the war. They did not have the resources to repay these debts and that led to the printing of fiat paper money that in time became worthless. If any one reading this essay does not know what happened to Germany in the 1920's, they can send an email to me at the address shown at the end of this essay and I will send them information on the awful time for Germany that led to much of the trouble the world experienced in the decades that followed the 1920's.
It is my contention that our current Trade Deficit (Discussed in the Comstock article shown above.) will have a very similar effect on the finances of the USA over the years ahead as the War Reparations debt had on Germany, thus leading ultimately to hyperinflation of the US$ and a possible collapse of the world financial system. I grant you that this is a drastic point of view and not held by many; however, I have read very recently an essay by one other man who thinks something similar may be in our future. His name is Hans Schicht and you can read his thoughts on the subject at:
I believe it behooves all individuals of financial assets to consider the evidence presented in the exhibits offered here and to watch coming events with an eye on just what is happening to the United States Dollar. The outcome is crucial to what will happen in most of the other financial markets and is vital to making a decision of where financial assets should be allocated between asset classes.
Are we seeing the early stages of The Twilight of the United States Dollar and the end of US Dollar hegemony in the World? I feel certain we will find out over the weeks and years to come. Prudent investors should monitor the situation often and carefully.
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