Legend of the doomed dollar

    13 Jul 2021

    The crypto community, like any other large community, has its own myths and legends. Among them is the opinion that the American dollar will soon lose its significance and depreciate due to the crippling inflation, and then the crypto will become the main world currency. Let’s dispel this illusion.

    In the spring of 2020, at an early peak of the COVID-19 pandemic, the global economy began to collapse, and national governments tried to pour money on this unexpected economic crisis. The United States stood out here – just remember the stimulus checks to all Americans, generous benefits to families with children and colossal injections of money into the industry, which raised the S&P 500 index to unprecedented heights. And then Joe Biden came and right away began to pump the American economy with trillions of dollars in subsidies and public investment.

    Since then, there literally hasn’t been a day when I didn’t read or hear another “expert opinion” claiming that everything that is happening is a direct path to the downfall of the dollar, that printing press will destroy the current American financial system, and the only salvation from collapse lies in gold and cryptocurrencies. And, most importantly, all this is presented as an immutable truth.

    But this is an illusion, and a very harmful one at that – it creates an impression that the mass acceptance of cryptocurrencies will happen by itself, that the death of fiat money is just around the corner. But let’s figure it out.

    At first glance, the news confirms the notion: we see the inflation, we see the cash infusions. At the end of June, the US Federal Reserve admitted that inflation in the United States this year is likely to reach 7%, way higher than the initially projected 2%. And immediately after that, Joe Biden announced that he had reached an agreement with the Senate on new investments in infrastructure, which would amount to $ 1.2 trillion.

    In reality, however, those events will not lead to the collapse of the USD and the triumph of cryptocurrencies. Helen Rey, a major representative of the French school of economics and Professor of Economics at the London Business School, explained precisely why the US financial system is still unsinkable even after the largest dollar emission in history. She studies the currency systems of different countries, with one of her works devoted to the American currency and monetary policy. In her article for the IMF’s Finance & Development journal, Helen Rey details why the US financial system, despite numerous prophecies about the imminent collapse of the dollar or the collapse of America itself due to large deficits, is, in fact, extremely resilient.

    “Although the United States traditionally has a large foreign trade deficit, economists often overlook the large financial gains from capital appreciation and changes in the value of the dollar. For instance, almost all US foreign liabilities are denominated in dollars, while 70% of US foreign assets are in other currencies,” – the expert writes. “This means that a 10% depreciation of the dollar raises the value of foreign assets and represents a transfer of 5.9% of US GDP. This transfer is received by the USA from the rest of the world. So capital gains could be very substantial.”

    As Helen Rae explains, the American financial authorities are quite comfortably building up the money supply also due to the fact that the steady depreciation of the US dollar has two positive consequences for the country’s external economy: It boosts net exports and raises the dollar value of US assets. The central position of the United States in the global financial system provides the country with an “exorbitant privilege.” This term, by the way, was invented back in the 1960s by Valerie Giscard d’Estaing, at the time the French Minister of Finance. That was how he described the benefits of the dollar being used as the world’s reserve currency to the United States. This “exorbitant privilege” arises from the fact that the United States can borrow funds at a discount in the global financial markets and receive high levels of return on its external assets.

    Let’s explore further. The key role the United States plays on the world stage leads to the fact that its financial system acts as a kind of insurer for everybody else. After World War II, the United States replaced Britain as the world banker, issuer of the main international currency and provider of international liquidity. This meant, among other things, the ability to attract short-term loans (foreigners were ready to buy liquid dollar-denominated assets) and issue long-term loans (the United States provided long-term credit and investment funds to foreign enterprises). In essence, America acts as a bank, deriving an intermediary margin from the difference between the higher returns they received on their external assets and the value of their liabilities.

    Moreover, ever since the 1990s, the United States has also assumed the role of a global venture capitalist. Simply put, American assets are increasingly flowing from long-term bank loans to foreign direct investment (FDI) and to shares of companies in other countries. At the same time, their liabilities are still mostly bank loans, trade loans and debt, that is, low-yield, safe assets.

    To summarize, the United States acts as a kind of global insurer for the world economy and the rest of the world, receiving a kind of insurance premiums in good times and paying refunds in bad times. This means that the world is still interested in a “haven” of financial stability, which the US was able to become in the post-war years.

    The second reason for the dollar’s stability even in the situation of hyperemission is that the US is successfully exporting … its inflation to other countries. How does it happen? Thanks to the fact that they buy raw materials from other countries, and the dollar is a universally recognized store of value. Developed countries print money, while other countries either accumulate this cash or form the supply of raw materials and semi-finished products on world markets. In this situation, the more countries such as the US and the EU issue dollars and euros, the more significant inflation will be in regions such as Africa, Latin America or Asia.

    All of the above is not an attempt to point out the futility of promoting crypto as a substitute for fiat money. This is just an invitation to get rid of the delusion that the fiat monetary system will soon bury itself. Sadly, that is not the case. Cryptocurrencies still have a long way to go before becoming a means of everyday settlements.

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