Thursday, April 2, 2009

Special Drawing Rights and the decline of the American Empire

First: Congresswoman Michelle Bachmann is, umm, well-qualified to be a guest on the Glenn Beck Show.

And the sort of twisted attention she's given to the question of creating an international reserve currency based on Special Drawing Rights at the International Monetary Fund is ... special.

Michelle sees this as the end of national currencies:

BACHMANN: What that means is all of the countries in the world would have a single currency. We would give up the dollar as our currency and we would just go with a One World currency. … If we give up the dollar as our standard, and co-mingle the value of the dollar with the value of coinage in Zimbabwe, that dilutes our money supply. We lose control over our economy. And economic liberty is inextricably entwined with political liberty. Once you lose your economic freedom, you lose your political freedom. And then we are no more, as an exceptional nation, as we always have been. So this is imperative.

Of course, this misrepresentation of an SDR-based global reserve currency allows pretty much everybody on the left to dismiss the entire issue, while quoting President Obama on 24 March: "I don't believe that there's a need for a global currency." As witness:

The Fire Breathing Traitorous McCarthyite Representative Michelle Bachmann has engaged in yet another fire breathing display of drama. But this time, it seems she does not understand what she is so angry about, or she does understand, and is just trying to gin up a false controversy, since, as we all know, the Republicans stand for nothing.

The problem is that while Congresswoman Bachmann's fear that someday she will be forced to carry around pesos or whatever little scraps of paper Robert Mugabe hands out by the billions in Zimbabwe is ludicrous, her spinal ganglia are picking up (if failing to interpret) the first signs of the return to a multi-polar world and the fragmentation of the American empire.

I think I understand what a Special Drawings Rights global reserve currency is, and how it works. But I won't pretend that I can explain it, so try Forbes to get started.

Then, once you've got that more or less digested, actually read the text of Chinese central bank director Zhou Xiaochuan's speech on why the dollar should be abandoned as the world's reserve currency. He is very clear in his expectations that such a currency--aside from being theoretically more stable for long-term trade--would diminish the influence of the United States over the world's economy.

He does this with some subtlty, but not much, as in this paragraph in which he describes why using the dollar as the world reserve currency is bad because it gives the US too much power, and does so without ever actually using the terms dollar or US:

Issuing countries of reserve currencies are constantly confronted with the dilemma between achieving their domestic monetary policy goals and meeting other countries' demand for reserve currencies. On the one hand,the monetary authorities cannot simply focus on domestic goals without carrying out their international responsibilities; on the other hand,they cannot pursue different domestic and international objectives at the same time. They may either fail to adequately meet the demand of a growing global economy for liquidity as they try to ease inflation pressures at home, or create excess liquidity in the global markets by overly stimulating domestic demand. The Triffin Dilemma, i.e., the issuing countries of reserve currencies cannot maintain the value of the reserve currencies while providing liquidity to the world, still exists.

Essentially what he argues here is that no country should be trusted with the power inherent in a global reserve currency, because the leaders of that country will eventually fall prey to the urge to manipulate the currency to the advantage of their own nation, and let the world be hanged.

This leads Zhou even more explicitly to the conclusion that the adoption of such a currency would diminish the economic power of the US:

The desirable goal of reforming the international monetary system, therefore, is to create an international reserve currency that is disconnected from individual nations and is able to remain stable in the long run, thus removing the inherent deficiencies caused by using credit-based national currencies.

The phrasing of that last clause is critical, because it is a sop to the Russians, who have gold reserves garnered through petro-dollars, and who just recently put their support behind the Chinese initiative on the condition that a partial return to the gold standard be made part of the basket which will determine the value of the SDR. Here's the Telegraph:

Arkady Dvorkevich, the Kremlin's chief economic adviser, said Russia would favour the inclusion of gold bullion in the basket-weighting of a new world currency based on Special Drawing Rights issued by the International Monetary Fund.

Chinese and Russian leaders both plan to open debate on an SDR-based reserve currency as an alternative to the US dollar at the G20 summit in London this week, although the world may not yet be ready for such a radical proposal.

Mr Dvorkevich said it was "logical" that the new currency should include the rouble and the yuan, adding that "we could also think about more effective use of gold in this system".

China and Russia will be joined by other emerging economies in pressing for the new currency:

Developing economies like China, India and Brazil want greater influence over international financial policy and groups like the I.M.F. Western countries now see developing nations as important partners in the effort to get the world economy growing again.

But President Obama says, "I don't believe there's a need for a global currency." He has to: if your nation controls the world's reserve currency you have all kinds of powers and prerogatives that other nations don't. But his position is a rear-guard position: China holds an estimated $2.2-2.4 Trillion US dollars, of which $1.5-1.7 Trillion could be dumped on short notice.

Dumping that much currency on world markets in a short period would not destroy the dollar as a functional currency within the US (though it damn sure wouldn't help matters), but it would fatally wound the greenback as a world reserve currency.

The problem for China: while the old men in Bejing desperately desire to eliminate the dollar as the global reserve currency, they don't have anything with which to replace it. Yet. Thus the move to develop an alternative. They know it will require several years before there is movement--after all, the Euro used to be only a dream--but they have time.

And President Obama's words are not based on the power of the dollar (as Presidents through the middle of the 20th Century could claim), but merely on the absence of an alternative. It's a fundamentally weaker position than we have every held.

The irony is that, while fueling the American way of life, the dollar has actually performed pretty well as a reserve currency, and the Chinese know that. Any move toward a different, artificially backed international reserve currency would be a gamble for them, but it's a gamble they are willing to take. Why?

The current (and diminishing) sway of the US as lone global superpower rests uncomfortably on two particular legs:

1) Our military might

2) Our economic clout

What the wars in Afghanistan and Iraq have done is not so much proven that we can be dangerous unilateralist cowboys who cannot be trusted, but instad our chief hit has been that the rest of the world learned that the US military was not invincible. Guys willing to strap bombs to their chests on the off-chance that exploding themselves will lead to a world with seventy-two intact hymens inside beautiful women discovered that for all our technology we could be fought to a standstill.

Nor has it been lost on our world-wide competitors that, tied up in those two countries, we really lack the conventional forces necessary to fight even a small, third regional war. That's why Russia can do what it wants in Georgia, China can haze our ships in the Pacific Rim, and Hugo Chavez can laugh at Ecuador depending on American military assistance.

We are over-extended, inside a significant recession, and printing fiat money like mad. Every non-backed dollar we print (ad there are trillions of them) reduces the real value of those huge Chinese holdings in dollars and Treasury instruments.

So what the Chinese have done to us--their largerst debtor, by far--is fire a warning shot over the bows, the first real shot designed to demonstrate our economic weakness on the world stage.

And it's working, because over eight years while Dubya wasn't keeping watch, the power alignments among the mid-level powers who would all like to be top tier have shifted to the point that I think historians will look back on this G-20 conference and note that here was the first American President who walked in as the Leader of the Free World, but found himself only the First among Equals.

The empire, which we've never really acknowledged, is crumbling.

That's not something Barack Obama did, but if he mismanages it--either by resisting the inevitable for too long or by caving in so rapidly that we don't remain among the first tier of powers--we will be in far worse


Waldo Lydecker's Journal said...

Is it up to 72 virgins now? Lawsy,inflation strikes everywhere. And don't forget the fruit plate.

"You're a great audience- I'll be here through Thursday- three shows a day, unless I get my jihadi instructions. But be sure and try the veal!"

Nancy Willing said...

Krugman says -The big news last week was a speech by Zhou Xiaochuan, the governor of China’s central bank, calling for a new “super-sovereign reserve currency.”

The paranoid wing of the Republican Party promptly warned of a dastardly plot to make America give up the dollar. But Mr. Zhou’s speech was actually an admission of weakness. In effect, he was saying that China had driven itself into a dollar trap, and that it can neither get itself out nor change the policies that put it in that trap in the first place.

...there’s nothing to keep China from diversifying its reserves away from the dollar, indeed from holding a reserve basket matching the composition of the S.D.R.’s — nothing, that is, except for the fact that China now owns so many dollars that it can’t sell them off without driving the dollar down and triggering the very capital loss its leaders fear.

So what Mr. Zhou’s proposal actually amounts to is a plea that someone rescue China from the consequences of its own investment mistakes. That’s not going to happen.

And the call for some magical solution to the problem of China’s excess of dollars suggests something else: that China’s leaders haven’t come to grips with the fact that the rules of the game have changed in a fundamental way.

Two years ago, we lived in a world in which China could save much more than it invested and dispose of the excess savings in America. That world is gone. _r=1

Delaware Watch said...

"What the wars in Afghanistan and Iraq have done is not so much proven that we can be dangerous unilateralist cowboys who cannot be trusted, but instad our chief hit has been that the rest of the world learned that the US military was not invincible."

I think that after the Korean war, Viet Nam, Reagan's hasty withdraw from Lebanon that the Chinese and most of the world have no illusions about our invincibility.

Hube said...

I disagree, Dana. In each of those cases we were politically handcuffed. We haven't gone to all-out war since WW II. If we ever do again, at least at this point in time, no one could defeat us.