The world without the U.S. dollar as world reserve currency

This is from Michael Murphy:

http://seekingalpha.com/article/127730-heads-up-on-the-dollar-today-the-world-s-reserve-currency-is-changing">http://seekingalpha.com/article/127730-heads-up-on-the-dollar-today-the-world-s-reserve-currency-is-changing


U.N. Commission of Experts on International Financial Reform, a specialist advisory committee that includes representatives from the U.S. government, will advise today that the world should begin to move away from the U.S. dollar as the world's sole reserve currency. They will suggest either an international currency unit based on several countries' currencies, including the dollar (their preferred alternative), or a currency based on the Special Drawing Rights issued by the International Monetary Fund.

Their stated reason will be that having the dollar as THE reserve currency unfairly burdens American policymakers at a time they are trying to deal with huge financial problems. Unfortunately, both Fed Chairman Bernanke and Treasury Secretary Geithner have made comments from time to time that gives the U.N. Commission cover for this position. Both Bernanke and Geithner have pointed out that if every other country is going to save in dollars, the U.S. has to run a deficit in dollars.

Avinash Persaud is a currency specialist and a member of the panel of experts. He is a former currency chief at JPMorgan. Here's a video of him at the Reuters 2009 Funds Summit in Luxembourg last week.

Their actual reason for doing this is distrust and anger at the financial mess the U.S. has foisted on the rest of the world, plus a deep fear in China, Japan, the Middle East and Russia that we will simply inflate away the value of the huge amount of Treasury debt they hold. I think that is Bernanke's unspoken plan, so they are right to worry about it.

To the extent the UN Commission has any special knowledge of the situation, it also may be true that things are much worse than the U.S. government is letting on. John Mauldin recently said the government's attitude towards the voters can be summed up by Jack Nicholson's line in A Few Good Men: “You can't handle the truth!” I disagree; I don't believe the government has any special knowledge at all. I think they are so out of touch that they really have little understanding about what is going on. But that's a discussion for another day.

The UN Commission seems to think this is the moment that the world can orchestrate a managed, relatively pain-free withdrawal of the dollar as the world's reserve currency. They see the alternative as a free-for-all withdrawal from U.S. assets as our major creditors dump both dollars and Treasuries. That could cause a severe run on the dollar and lead to even worse economic conditions for Americans, probably causing hyperinflation and global destabilization.

The presentation of their report today may give the dollar quite a hit yet be very good for stocks. I know this is counter-intuitive, but inflation is good for asset values and bad for debt values, so while some foreigners may sell all U.S. assets, most will just sell Treasuries and buy stocks. More details should come out at the G20 Summit in London in April.

Changing the reserve status of the dollar would have widespread effects on The Dollar. The value of the dollar will slide, perhaps by 20% against other currencies and 40% or more against gold and other commodities. That's good for U.S. exports, but bad for Main Street America. Any slip-up and hyperinflation becomes a real possibility. At the same time, regional currencies similar to the euro will spring up that are exchangeable into the world currency, but give the regions some autonomy – under the “benign” guidance of the most powerful country. The Middle East and China have indicated they are ready to introduce regional currencies based on the khaleeji and yuan respectively, and Russia would be eager to use the rouble as a regional reserve asset that would give them more control over the former USSR countries.

Any currency like the Swiss franc or pound sterling that is not part of a regional currency will be left out and suffer. The dollar may have a future in a North American or even North and South American regional reserve asset.

Fiscal and Monetary Policy

The U.S. government will have less economic leeway to deal with the current financial mess, because excess Federal debt creation will lead immediately to a lower dollar and higher imported inflation.

Longer term, the government will have to find another way to pay its debts than just selling Treasuries to the Fed. Most likely, they will have no choice but to tax U.S. citizens and businesses more heavily.

The Bond Market

Treasury bond yields will start rising immediately, as the Bernanke Fed becomes the only buyer. If the dollar really does lose its reserve currency status, Bernanke's plan to print whatever money it takes will be thwarted.

The Stock Market

In spite of weak demand for physical goods, the obvious inflationary implications of losing the dollar's reserve status would spark a major asset allocation shift from bonds to stocks and other assets.

The price of gold and silver will go up as they are used more as a currency asset, competitive with the world and regional currencies. The price of oil and all other internationally traded commodities will go up in most currencies, and go up a lot in US dollars.

American lifestyles and financial habits will be forced to change radically in a world where we have to pay as we go. Longer term, economic power and wealth will shift from the West to the East and, to a lesser extent, the Middle East.