Two Flawed Currencies

By: John Browne | Tue, Dec 7, 2010
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Despite America's economic problems, the US dollar has maintained its respected status the world over - and has even managed to maintain value in comparison to other currencies. It appears that the dollar will likely finish 2010 at the same levels that it started. Even today's announcement of more tax cuts and stimulus, which will guarantee widening federal deficits for years to come, could not put a dent in the dollar. The dollar's charmed life stands in strong contrast to the euro, which is currently suffering from its internal flaws and the Europeans' unfortunate recognition of reality.

Given Washington's monetary irresponsibility over the past decade and a half, many market observers have wondered if the euro could one day become the world's top currency. In the early to mid-2000s, when the euro surged more than 60% against the dollar, this was in fact a popular view. But unlike all other currencies on the planet, the euro is not a sovereign currency managed by a single country. It is dependent on the collective political will of the leaders of the European Union (EU).

In the bust that followed the Greenspan/Bernanke dollar-based boom, the US economy started to deleverage significantly. Unwilling to accept the political cost of a possible failure of its banking system, the Federal Reserve decided to re-inflate out of deflation and devalue the US dollar. Meanwhile, the European Central Bank (ECB), heavily influenced by Germany, decided that deflation was necessary and inevitable. As painful as it was likely to prove, the Europeans had appeared until recently ready to face the music and delever their economies.

Unfortunately, Europe's banks had, for years, invested enthusiastically in the debt of their member sovereign states. In addition, they had greedily invested in the debt securities of US and domestic real estate. The collapse of real estate prices on both continents exposed these massive risks and revealed the high degree of interconnection between the world's major banks.

As the EU is not yet a super state with a single government, the response to austerity is far from even. For instance, German voters are extremely angry at bailing out what they see as nations with profligate governments - the likes of Greece, Portugal, Italy, et al. They feel that those who invested or, as the Germans see it, speculated in European sovereign state bonds should suffer at least some of the downside. The problem is that the speculators were largely European banks. Acceptance of the real losses would bankrupt major banks, likely creating a chain reaction across the European and even US banking sectors. European politicians are now showing less inclination to tolerate such an outcome.

But European citizens are growing restless. They are vehemently opposed to the idea that their governments should incur massive debts to rescue what they term 'banksters.' European politicians are becoming panicked, not knowing where to turn. Some urge quantitative easing (like the Americans!). Others maintain that this will only magnify the problem and that austerity must be continued. Varied and often-conflicting public statements by government officials are creating an air of political and monetary uncertainty for the euro.

The situation within the EU has become so serious that the future of the world's second major reserve currency is now in question.

Meanwhile, sentiments expressed by the American Tea Party movement have gained considerable weight. Americans have received the Fed's second wave of quantitative easing with far less enthusiasm than the first. Increasingly uncertain statements now emanate from Washington. Furthermore, the US government has still to face the problem of default threatened by many politically important states, such as New York, New Jersey, and California. This political uncertainty has spread to the dollar.

In response, some major nations, led by China and including Russia, are soliciting political support for the removal of the US dollar's privileged status as reserve currency. Together, the US dollar and the euro account for some 70 percent of world central bank reserves. But both currencies face great internal political uncertainty and high relative volatility. As a result, global investors are looking for alternatives.

In these uncertain circumstances, precious metals continue to establish new nominal price records. Unless there is a miraculous internationalization of the yuan, I think precious metals have a rare opportunity to regain their historic status as the global reserve, a status subverted by the dollar only in the past century.

 


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John Browne

Author: John Browne

John Browne, Senior Market Strategist
Euro Pacific Capital, Inc.

John Browne

John Browne is the Senior Economic Consultant for Euro Pacific Capital, Inc. Mr. Brown is a distinguished former member of Britain's Parliament who served on the Treasury Select Committee, as Chairman of the Conservative Small Business Committee, and as a close associate of then-Prime Minister Margaret Thatcher. Among his many notable assignments, John served as a principal advisor to Mrs. Thatcher's government on issues related to the Soviet Union, and was the first to convince Thatcher of the growing stature of then Agriculture Minister Mikhail Gorbachev. As a partial result of Brown's advocacy, Thatcher famously pronounced that Gorbachev was a man the West "could do business with." A graduate of the Royal Military Academy Sandhurst, Britain's version of West Point and retired British army major, John served as a pilot, parachutist, and communications specialist in the elite Grenadiers of the Royal Guard.

In addition to careers in British politics and the military, John has a significant background, spanning some 37 years, in finance and business. After graduating from the Harvard Business School, John joined the New York firm of Morgan Stanley & Co as an investment banker. He has also worked with such firms as Barclays Bank and Citigroup. During his career he has served on the boards of numerous banks and international corporations, with a special interest in venture capital. He is a frequent guest on CNBC's Kudlow & Co. and the former editor of NewsMax Media's Financial Intelligence Report and Moneynews.com. He holds FINRA series 7 & 63 licenses.

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TRUE MONEY SUPPLY

Source: The Contrarian Take http://blogs.forbes.com/michaelpollaro/
austrian-money-supply/