Random Thoughts

Dollar Collapse and Future Nightmares

All governments lie and debase currency. Roman emperors secretly reduced the amount of gold in their dinars and eventually started using lead instead of silver. Mohammed Tughlak of the Tughlak dynasty sultanate in India tried to use leather coins. The more recent invention of paper currency initially required that the nation's central bank have a certain amount of gold reserves to back its paper money. Most Indians remember when India's dwindling gold reserves led to a mandatory confiscation of public gold by its government at fixed prices and some years later when India had to fly gold to the UK to get a loan.  

The central government of India has been running massive fiscal deficits and sooner or later will have to pay the piper. The most irresponsible government in the world is the one in the US. It's current debt is nearly ten trillion dollars and unfunded future liabilities are 65 trillion dollars. Its annual GDP is 12 trillion dollars and its debt keeps increasing at over a trillion dollars each year. Its interest payments to service the debt will soon reach a trillion dollars a year. Realistically speaking there is no possibility of America repaying its debt by exporting more than importing. At present it runs over 800 billion dollars a year trade deficit. It just keeps printing more and more dollars. Such a problem led to hyperinflation in the thirties in Weimar Germany. A pack of cigarettes cost a billion marks, The result was Hitler, the second world war and tens of millions of dead people.

All the world's currencies have become fiat currencies, unbacked by gold or tangible assets. This is why the price of gold is approaching 700 dollars, oil is at 77 dollars and the price of onions in India nearly 40 rupees a kilogram. Bush's desperate gamble in Iraq is failing and there is a serious chance that he will play double or quits by attacking Iran to control oil which is the lifeblood of western industrial nations. Remember what Yudhisthira did in the Mahabharata. The EU has its own currency and will be better able to survive the dollar collapse. China with 1.3 trillion dollars, Japan with a trillion dollars will take the biggest haircut but will still be able to afford oil at over hundred dollars. 

Russia, India, Taiwan, Hong Kong and South Korea with two to three hundred billion dollars will only have their hair trimmed because they hold part of their reserves in other currencies. India nevertheless will face a bigger problem as a lot of its outsourcing will be lost due to price and increasing American domestic backlash. The escalating oil price will become a double whammy increasing India's import bill even as its exports and remittances from the Gulf are diminishing. The kleptocratic Arab regimes will lose value of their dollar reserves and unrest in them will rise. Since their rule is illegitimate they will stick with America under its military umbrella. The rising Islamic militancy will further destabilize them as is happening even in Pakistan.

The last straw which will break the American camel's back has been already loaded by its greedy capitalists. These capitalists hollowed out US industry and transferred all production and many services to cheaper locales like China and India, to increase their profits. The US now makes mainly high tech arms and planes, grows heavily government subsidized agriculture and indulges in financial speculation. This is why it must make wars and sell arms to keep its economy and employment going. The subsidized cotton leads to Indian farmer suicides. The subsidized corn impoverishes Mexican farmers who migrate illegally to the US to survive by menial jobs. The financial speculation is causing US and world markets wild gyrations.

This last and most recent sins of greed by US financial institutions needs to be understood. US Federal Reserve Chairman Greenspan was a regulator like the fox guarding the chicken coop. He encouraged irresponsible borrowing by individuals to buy houses they could not afford. He did not discourage institutions which made loans of adjustable rate mortgages, interest payment only mortgages and even negative amortization mortgages where the principal debt keeps increasing. The foolish home buyer took on such debt while buying a house. House prices had been increasing because of open money spigots and a debased dollar. Home prices in California and other states went up to over 500,000 dollars for homes of less than 1000 square feet. Such prices put homes beyond the capabilities of even professional persons earning more than 100,000 dollars.

These home mortgage loans, which had been given to persons without checking their incomes, assets or ability to pay and no down payment were securitized and sold to pension funds, mutual and hedge funds, insurance companies and foreigners. The greedy mortgage lenders who were in cahoots with the rating agencies twisted their arms and finagled a AAA (top grade) rating for these junk bonds. As home sales peaked and fell and home prices decreased making the home worth less than the underlying mortgage and the sub-prime borrowers lost their jobs, home owners (investors or residents) walked away from the homes leading to foreclosures. 

The investors who bought the mortgage bond stopped getting interest payments. The mortgage lenders were left holding homes priced less than the outstanding loan and they could not find buyers for loans they had securitized. No investors wanted to buy the worthless securities after they had heard of defaults in the previously sold ones. This led to bankruptcy of some hedge funds, some European banks and a lot of American mortgage lenders.

The Federal Reserve and the European Central Bank once again opened up the money spigots just as they had done during the LTCM hedge fund debacle and Mexican, Russian and Argentinean default crisis. The problem is that investors still refuse to buy commercial paper backed by unsafe assets like mortgage, credit card or auto loan debt. This creates a liquidity crisis that can't be solved simply by throwing money at it. What makes the crisis worse is that crooked scam artists had enticed ignorant and unsophisticated home buyers and owners with attractively low short term teaser adjustable rate mortgages with huge prepayment penalties and a sharp jump in the rates after six months or a year. These ARMs are due to reset much higher in six to twenty-four months and falling home prices and the now stricter criteria for loans by the burnt lenders, makes it impossible for the trapped home owners to refinance or sell.

Thus the London interbank borrowing rate has risen sharply as have interest rates on most mortgage loans even if they are prime. A year's worth of unsold housing inventory is overhanging the market and it will be burdened by more coming defaults and foreclosures. There have been large layoffs in construction and financial companies. This will hamper job growth and the economy and may lead to a recession. Thus to divert the public attention from the economic meltdown, Bush like any other scoundrel, may use patriotism and go to war with Iran, even if it leads to a worse mess. He can then put the blame on Iran and escape personal responsibility. 

The dollar is teetering on the edge of a precipice. A sharp jump in world interest rates or a selective lowering of the US interest rates, a worsening of the Middle East war or a sharp jump in the price of oil will nudge the dollar over the edge. Other factors that could hurt are a falling stock market and unwillingness of foreign investors or central banks to fund the current account deficit. Once that happens the selling momentum of dollar holders scrambling for the exits will accelerate the fall.

All above are the catastrophes of an unregulated free market with laissez faire capitalism. Capitalism is in tune with the selfish and greedy psyche of human beings and can lead to general progress only if it is strongly and honestly regulated for the common good. Unrestrained free markets are manipulated by the wealthy and powerful to the detriment of the public and the nation as is being done in the abject surrender by Manmohan Singh to an atrocious and oppressive nuclear deal and neo-liberalism in America. The media and haves who control it as well as the ministers are lying to the people as they always do.

I am no enemy of capitalism and no friend of communism. The latter is antithetic to human nature and is unworkable except amongst saints. The example of many of India's and the old Soviet government bureaucracies will suffice as an example. The saying goes that in such bureaucracies, everyone has a job but nobody works. In the old Soviet case it goes further that everyone has money but there is nothing to buy. What India needs is a judicious mixture of capitalistic socialism with strong and honest regulators. Free trade that leads to export of onions and starvation at home is the biggest enemy of democracy and ultimately the nemesis of freedom and a civil society


More by :  Gaurang Bhatt, MD

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