Market Watch - July 11, 2014
A currency collapse occurs when the value of a nations money drops radically. It is a state of hyperinflation where the price of goods and services increases very quickly. People scramble to turn currency into hard assets like land and buildings, gold and silver, and commodities that have “real” value, other than paper value.
Most of us have heard about times in American history where there was a bank panic. People lost confidence in paper currency and rushed to the bank to turn currency into “hard money”. Depositors could go to banks anytime before 1932 and exchange dollars for gold and silver (“specie” in The Constitution). There was enough specie in our bank’s vaults so that most government obligations could be redeemed in full until just fifty years ago, the beginning of the “Great Society”.
Gold has been the backbone of monetary systems throughout written history. Our Constitution stipulates that all public debts are to be settled in gold. In 1949, 100% of U. S. monetary obligations were backed by gold and silver. Today, less than 3% of our obligations are backed by specie.
Brief History of Modern Reserve Currencies
Portugal held the world’s reserve currency from 1450 to 1530, after which, Spain, until 1650, followed by the Netherlands until 1720. France took over from 1720 to 1850, and then Britain until 1920. The U. S. Dollar is the world’s latest reserve currency. The above countries were able to have a reserve currency because they dominated ownership of specie, like gold and silver. Remember the history of the discovery of the new world and the great galleons that sailed the oceans during the Age of Discovery? It was gold and silver they sought, and to obtain such, they plundered the Mayan and the Aztec civilizations thereby greatly enhancing the value of their own country’s currency.
The U. S. began accumulating gold in the middle of the 19th century beginning with the gold rush to California. In the 1930s, we held more than 50% of the world’s monetary gold, coining the expression “the dollar is as good as gold”.
What Causes A Crash?
Inflation, bond market collapses, bank runs, and currency collapses are all a result of one thing: excessive government debt. Politicians prefer to inflate away debt by a gradual collapse in our currency of 2-3% a year. They never plan for hyperinflation where prices increase daily. The result is a currency crash.
These economic displacements occur during such a crisis:
Question: Is this likely to happen to our economy?
Answer: It’s unlikely; however, we should be aware of the enormous risk to which we are exposed. The risk is as great as any other time in modern economic history.
Question: If we are as exposed as any other time in history, why isn’t a currency crash imminent?
Answer: Since 1500, the Dutch, Portuguese, Spanish, French, English and US have been at war with each other frequently. Their economies were not inter-dependent. Today’s world is dependent upon the ability of Americans to purchase goods and services. Countries the most dependent upon U. S. consumption also own the largest amounts of U. S. government bonds. To avoid a currency crash, which results in a crash in the price of those bonds, no stops will be spared. With continued cooperative effort among our trading partners, the dollar is likely to remain propped up at least as much as it benefits dependent governments to do so.
Leading economists like John Williams of www.shadowstats.com disagree. He believes a crash is imminent and that it’s impossible to stop one at this point. There is nothing of value, like gold, underlying support of the U. S. money supply. It’s built upon paper assets that are only IOUs.
Question: The U. S. is China, and Japan’s, largest customer. How would a dollar crash affect them?
Answer: A drastic decrease in the value of the dollar would make goods produced in China and Japan too expensive for Americans to purchase. China and Japan would be hurting themselves by selling U. S. bonds rather than holding bonds in hopes that price levels remain such that Americans can continue to buy products. But that is all supposition and based upon the judgment of politicians. The reality is that it would be politically and economically unpalatable for them to do anything but support U. S. currency and bond markets. Further, should they decide to liquidate U. S. bond portfolios, to whom could they sell them? Who has the cash?
Question: This still paints an unpleasant scenario. What does one do about the securities markets?
Answer: Market Watch continues to stress the importance of owning high-grade securities, particularly triple-A rated stocks in companies that have a worldwide market. Income producing real estate is good to hold in a market out of control. Real estate will exist before and after a catastrophe. When one can afford to invest in non-income producing assets like gold, silver and other commodities, they are usually a terrific hedge against currency catastrophes.
Question: Why does this overpriced market continue to increase in value?
Answer: We are clearly in a bull market, and there are three reasons: (1) bond yields are low, making stock yields look attractive, and there can be growth in the value of stocks; (2) the Fed’s continuous money-making has placed excess cash in the economy that finds its way into the stock market through speculators; and (3) there are fewer alternatives for investing funds since real estate prices recovered.
Conclusion
The old Wall Street adage of “the trend’s your friend” means we should be in this bull market with both feet. The judicious investor, however, should try to sit back and hedge their bets by positioning themselves in only the highest grade of securities available.
Caveat Emptor.
George Rauch
July 11, 2014
