Reading about Greenspan’s comments on the dollar reminded me off previous doom and gloom stories, and I wonder how much salt to I need to take with these. But a little research found these similar comments from George Soros in early 2005, and it looks like he was fairly accurate. Them grains are starting to pile up.
So what is the worst case scenario if the dollar collapsed? And could it collapse? What would have to happen for it to collapse? Hit .50/euro, .25? Would we just become the cheap vacation spot for Europe and other turistas? Would American manufacturing become competitive again? I can see the turmoil it would cause in the financial markets, but how would it hit Main Street?
And who could bail out the US if we needed it? Yet, I could see where the rest of the world would allow a collapse of our currency just to show us that we are not invincible, but wouldn’t it hurt them as much as it hurt us? Could China find enough buyers without the US market? I’m pretty skeptical on that one, but I cant say for certain.
And for the worst worst case scenario, not only does the dollar collapse, the rest of the world decides to boycott the US (an idiot president* accidently nukes an orphanage or something) followed soon after by the first default by the US Treasury, since I doubt the domestic market is enough to keep up the bond market. How soon would I have to head for Canada? And would that make a difference?
Could the US and the remaining world economies survive without each other?
Didn’t we do this already, a number of times? No matter, I like these threads…
Assuming a true collapse and not a devaluation (or readjustment), the worse case scenario is worldwide depression. Either countries are selling their products over here, or they’re sending their money here (investment dollars, market funds, etc.) It would have to happen quite suddenly and very quickly. I’m starting to think that the technology of the markets is such that it can adjust quickly, but the changes would be ver hard to swallow.
A quick collapse would have to be something drastic, again, given today’s technological advancements. So, I’m thinking major act of war affecting US interests, or major act of terrorism, particularly something that effects communication lines. However, 911, showed that despite the president closing markets, there was still a major sell-off, but it’s hard to determine whether that was due to the actual act or from the actual state of the economy (I’m guessing the latter, the terrorist act was the catalyst).
Oh, and the dollar could easily collapse. No currency is safe. If the Fed is asleep at the wheel, we could have monster inflation, or worse (massive depreciation – much, much harder to come by). It would be much harder for anything too bad to happen right now. Other economists will disagree with me, but we have room to lower interest rate, and a lot of room to raise it if inflation becomes worrisome.
It depends on how quickly the value drops. If this happens over night, I would expect something close to worldwide panic. Many companies (like mine) that have a huge treasury department, and run on credit won’t adjust quickly enough and take monster hits to cash flow. This will cause them to lay off employees. The laid off employees, along with the businesses will tighten their belts and hold off on spending. This will depress the economy even further. Marginal business will close, luxury stores will see a drop off in business, and things will stay that way or decline, until business and people can readjust their cashflows and their spending. Of course, this goes without saying, Wall Street will lay a bomb. This effect will resonate in multiples depending on how many US dollars is being held by a particular country (the more dollars they hold of ours, the worse it’s going to be for them).
If this happens slowly, then business will adjust (or die if they can’t) their workforce where they can maximize their profit. If surviving currencies wish to do so, they might come over here for vacation (I know I would). Prices will be cheaper so our goods will look more attractive. At $0.50 against the Euro, I can see some manufacturing taking place, but it will be in those industries against those currencies where there was a significant drop-off (e.g. the Euro in this case). So, no bras (an article I read said that they’re mostly made in China), but maybe more high end clothes.
So far, I was assuming that only the US would collapse. That’s not entirely true, the whole world will be affected. The world has too much money and capital, and we’re too big a market, not to have in the global marketplace. Can you imagine not having 300M buyinger overnight? Your business would collapse. There would be worldwide depreciation. So, all those people scared of big numbers ($1M salaries, $300 for an ipod, $600 for a PS3 (totally not worth it :)) will be happy that the numbers won’t seem as high. But, then again, wages will reflect that, too. Different industries will adjust at different rates, so there will be a massive readjustment period. If anyone would bail us out, I would see it as Canada (largest trading power), the UK (strong, stable currency, good growth) and/or a combined effort of the EU. However, it’ll probably take all three of those players at least because the US economy is so huge.
They should be one of the worst ones to get hit. Their major market is the US. They’re almost an exclusive trading partner. They hold a ton of US debt, and even though we hold the most of our debt, they will be worse off because we’ll just sit through inflation. They will suffer economic collapse. Their real GDP is 1/4 of their purchasing power parity growth rate. They won’t even know what hit them (well, the average daily businessman, that is).
The rest of the world would never boycott the US market. The market makes money independent of its government. They might decide to send troops here to arrest the president, but any economic collapse will be short-lived once order is returned. Even then, it would take Asian like defaults on loans to sink this economy, and it would still affect the rest of the world. Governments will likely enact WWII like laws where there were hiring freezes and wage freezes and the like to keep the status quo until everything stabilized.
Not doubting you too much, but I’m surprised at this assertion. The amount of Chinese exports in the EU, the rest of Asia, and Australasia (and probably South America, though I can’t state this as a witness), is staggering. Do you have any figures?
Anyway, all those outsourced jobs would come back to the US quickly (if their employers survived). Why pay Ranjit a salary now equal to $15 a day in a call center in Bangalore when Billy-Bob will do the job and be a native English speaker at home, for $4 a day.
I think Bush is, even as we speak attempting to head off a collapse*. Our Allies in this are the Chinese, Japanese, South Koreans and other Asian Central Banks who we need to convince in order of importance: a) not to dump dollars on the world market b) keep buying dollars. The U.S. may need to make some adjustment to our debt to keep them calm - most logically it may involve reducing our debt in some way - I do not know if that is politically realistic.
*Side note: What constitutes a “collapse” ? No one agrees. The $ has declined about 20% against the Euro (& other currencies) over the past 5 years - the central Asian Banks have continued to hoard dollars. While a 3-6% decline in one day would be earth shattering SHOCKING news that would cause Central Banks to dump dollars -even though relatively it wouldn’t be a 20% collapse.
I have an old Time magazine from earlier this year. That’s where I read it from. I’m going home now. I’ll try to dig it up later tomorrow. I remember that the US is far and away the largest.
But thank you for your reply. What would be the magic numbers for the dollar/euro exchange rate and interest rate to hit before you start packing?
I find that number two, Hong Kong, the most interesting. A city-state with a population of only 7M is right behind the nation of 300M. In dollars figures, the US imports $160B per year with Hong Kong at $122B per year. (I know a good chunk of HK’s numbers are for goods to be reexported, but only 16% of those go off to the US. Same ref.) The Heritage Foundation has HK ranked #3 behind the EU at 18% to 17%, but the point about population remains. So I can see the rest of the world picking up the slack for China if they cut us off, especially since India is only a modest importer currently (6%). Those two markets alone could probably sustain adequate growth between themselves. Losing 20% of your customers would hurt, but I cant see it as a critical hit.
I definitely do not think China would cut us off by choice, but if forced to choose between US buyers and Iranian oil? I give you even odds. They got us by the short hairs as much as we do them.
But it also looks China has found itself a wonderful dilemma.
I wonder what they try to do over the holidays. It could be a time to sell since there will be less people at the trading desks. (Financiers do celebrate the holidays too, right?)
Considering the main factor driving down the dollar appears to be the current account deficit, which shows no sign of shrinking, why do think the dollar would rise?
*I meant to add before, I don’t think the current prez would do that, but who knows these days. He don’t seem to be listening to no one no more. And after the previous guy bombed the aspirin factory…well, the precedent is almost there.
The USA is running a deficit, but other countries are happily lending it ‘cover’
not only do they want to, but they have to - there are few alternatives.
I reckon that in terms of spending power the Euro is (as it was designed to be) worth about $US 1.00
Europe is terrified that its currency should be seen as ‘weak’, bear in mind it is a very new invention and a lot of European states do not have a very good track record.
British Sterling is grossly over valued against both the Euro and the $US, I would say that GBP 1.00 is worth about one Euro - and that means that Sterling at approx $US 2.00 is absurd.
I am seriously thinking of sticking a load of cash into USD ( I’m in the process of going liquid ) and just sitting waiting for GBP to drop like a stone.
For what it is worth, the USD /is/ the base currency for a large proportion of its trading partners so it could do roughly wat it likes without noticing any effects.
Incidentally I think that the Fed is deliberately keeping the EUR high, as it does not really want a competing reserve currency, and choking off European growth is a nifty way of making people (outside Europe) think twice about holding the EUR
The UK is seriously vulnerable to speculators, and we have seen GBP fluctuate between approximately $1.00 and $2.00 in the last 25 years - I wish I had sold short (bought put options) in the early 1980s when I was writing a traded currency options system for the UK branch of a major US stockbroker - gawd, how my thumbs were pricking.
Why would that be a concern ? What the European finance ministers want, as shown in recent statements of the ‘Eurogroup’, is less volatility, and a weaker Euro against the US Dollar.
When the Euro is strong against the USD, it’s also strong against many other trading partners - such as China - not good for the European economy.
Getting back to the OP - as long as the dollar loses it’s value slowly, there would probably be no major economic pain, the risk is sudden change. As other posters have already pointed out, this is unlikely since a number of other countries are actively shoring up the dollar (Japan, China).
Even in the case of a major crisis, we wouldn’t necessarily be seeing the apocalypse. On a smaller scale, in the mid-seventies in Italy there was a major currency crisis. Trading of the Lira was officially suspended for a few months, and exporting currency, gold etc was severely curbed. Local banks started printed their own cash for smaller denominations, and we even resorted to using tokens as coin - but life basically went on. Obviously I wouldn’t want to see this happening on a larger scale, but it’s sometimes surprising how resistant social structures are to economic and political crises.
Another big question - when’s the US going to get tired of the artificially low value of the Yuan ? As best I can figure it’s still undervalued by a factor of somewhere between 5 and 10.
You mean we aren’t that already? Conversely, these days to visit Europe, and enjoy the bare minimum of civilized accommodations, from which I emphatically exclude hostels, an American has to be well heeled indeed. It’s too bad that getting there isn’t the problem, the expensive hurdle for the would be traveler is sustaining oneself once they are there.
A couple of years ago I read that Europeans were flying over to New York just to shop, and I imagine that practice has only grown.
But be that as it may, if the dollar does collapse, IMO, the upheaval would be worldwide. Think of it as the elimination of Americans’ purchasing power abroad.
Well, it helps to know a little history when contemplating worse-case scenarios.
The classic gold standard lasted from about 1870 to 1914, then after WWI, there was an attempt at a gold-exchange standard that was abandoned at the start of the Great Depression. Simultaneously, the pound was also held in reserve and considered a reserve currency.
Gold was considered a reserve again, with the dollar, under the Bretton Woods agreement, after WWII. Sterling lost its reserve status. That lasted until August, 1971.
The effect of both of these was that gold and the pound were both held in reserve by central banks. Once they were no longer considered reserve currencies, the central bank holdings became overhangs on the market for each.
In both cases, agreements were eventually signed to limit the amount of selling central banks could do.
For sterling, “Sterling Area” countries, basically former British colonies belonging to the Commonwealth, signed an agreement in 1968 to limit their sales so as not to cause a crash in the pound. (from Paul Einzig’s The Case Against Joining The Common Market)
For gold, there have been two Washington Agreements to limit the sale of gold by the participating central banks, the first signed in 1999, and then reaffirmed in 2004. (See press release from the World Gold Council)
So the historical pattern is that during the time that a currency is considered a reserve currency, it’s accumulated by central banks. Once it’s no longer considered a reserve, it becomes necessary, sooner or later, to limit sales of it by central banks, because that reserve becomes an overhang on the market.
The dollar is already declining, overall, and once the current account deficit (see this graph) causes the dollar to go in the same direction as you see in that graph, at the same speed, which is pretty much baked in the cake, there will most likely be an initial rush out by central banks, and then an agreement like the ones above to limit sales.
Effects on the US will include inflation and high interest rates and therefore a lower stock market and a fairly steep reduction in economic activity: the seventies all over again, which was partially caused by the breakup of Bretton Woods. But I expect that while it will hurt, it will also be over pretty quickly, since unlike then, there’s less regulation of the markets, so the speed of events should be somewhat quicker. Once the inevitable central bank agreement goes into effect the US, like Britain after the Maastricht mini-crisis in '92, will proceed to go back to something resembling normal economic life. Given that the rival currencies for reserve status, the yen and the euro, both have problems of their own, I even expect that the dollar will regain its reserve status after a time. It never lost it after the breakup of Bretton Woods, after all, and for the same reason: nothing could take its place. (see Paul Einzig’s The Destiny of the Dollar, written shortly after the 1971 breakup, which correctly foresaw that the dollar would continue as the world’s reserve currency, and that floating currencies would bring about nationalistic attempts to devalue one’s own currency against others in order to gain export markets.)
Then we can go through the whole cycle of US overspending brought about by the temptation caused by having the reserve currency (which always winds up being spent on unpopular wars, it seems, last time Vietnam, this time Iraq), followed by increasingly desperate attempts to shore it up, followed by crisis and resolution all over again. We’ve done it twice so far, first with Bretton Woods until August 1971, and now again, although the resolution is still in the distance, as is the crisis. No reason not to go for three times, eh?
It wouldn’t be a decision so much as a forced dump, should we get to such a pass.
Consider one possible scenario: the latest figures for foreign holdings of US Treasury and Agency debt, which is how the reserves we’re talking about are mostly held, show the following (latest figures available here; note that this is always the current release, so if you’re looking at later than Dec 14, which is what I’m quoting here, the figures will be somewhat different): 1.7 trillion overall, of which 1.16 trillion is Treasuries, and 576 billion is Agency debt.
What’s Agency debt, you ask? Mostly FNMA - Fannie Mae - and FRE - Freddie Mac - debt, which is to say, mortgages.
On another thread we’re talking about a mortgage-default induced debt crisis. If such a thing were to happen, the foreign banks holding this Agency debt would be adversely affected. So they dump, or are forced to write down to zero the defaulting debt. Dollars that once existed don’t any longer, which is what happens in a credit crunch. Seeking to limit their losses because the dollar would start to crack seriously if such a thing should happen, they start to dump everything else.
And off to the races we’d go.
Perhaps a silly question, but why do people think that the dollar is weak? Sure, it’s weaker than it used to be quite recently, but go back further and you’ll see that the dollar is now a lot stronger than it was then. I remember both £1=$1 (approx) and £1=$2.40 (again approx).
It’s not silly, but inflation is a “hidden tax” which hits savers and those on fixed incomes particularly hard. In recent years the onslaught of cheap goods from Asia has turned into a flood, and US firms driven out of business, outsourced, etc.
Areas where the US once dominated - electronics, steel, textiles - are essentially moribund or extinct, largely because labor costs are only a fraction over there than they are here. It will be interesting when those “cheap” items suddenly become expensive.
See this graph, of the dollar against other major currencies. It’s currently meandering along at the bottom of its long-term price on this index, at just above 80.
