By Brian Shapiro
With the U.S. national debt burden now exceeding $16 trillion and a 2012 annual deficit adding to that total by approximately $1 trillion dollars last year, it is apparent that the United States has spent more money than it has derived from tax revenues during the more than 200-year-long existence of the Republic. We continue, as a nation, to spend money we don't have.
While it is necessary for the U.S. to spend money on social programs, defense, education, security, and infrastructure, the way that established countries, such as the U.S., have gone about paying for these services is to increasingly create and issue debt. Recently, the dominant buyer of U.S. government debt has been the U.S. central bank, the Federal Reserve, which purchases government bonds by printing currency. China and Japan are no small helpers in this too, as each country owns approximately $1 trillion each of U.S. Treasury debt.
Will this printing phenomenon to pay for debt (i.e., quantitative easing or "QE") ultimately leave us with reckless inflation or in a depressionary recession? Does printing so many dollars mean an automatic depreciation of the current dollars outstanding, making the world's goods more expensive to Americans? Will the result be the reckless destructive force of inflation in our economy because it is more expensive to buy the world's goods with our depreciated dollars?
The answer is NO. The dollar's bearing among the world's currencies is affected by factors other than the containment of a burgeoning deficit to retain its value.
The United States possesses a reserve currency--the reserve currency! It's a reserve currency like none other. The U.S. dollar attracts investors fleeing political strife and non-capitalistic confiscatory environments, and derives strength from the freedom of movement and safety the U.S. financial system provides. The environment in which the U.S. dollar lives is one of strict regulatory features and advanced banking and financial reporting systems that will always attract investors to the currency. As much as the U.S. can print (within limits certainly), others will utilize as there are few other options.
In the past three years of full-blown quantitative easing and currency printing, the Federal Reserve's balance sheet is still shy of what the Europeans have done in that same timeframe. Japan, for its part, is now in its 20th year of a recessionary secular economic shift so the yen as a reserve currency is not an option for reserve currency status either. Actually, there are no other options. China? Money will not flow there because it can't come out. Russia? No: Political enemies of the state still face confiscation. Australia? Too small: An economy roughly the size of Texas and one-tenth the size of the U.S. Canada? Not a chance: Its economy is just about the size of California's. Africa? Scratch out that option as the majority of the continent is part of a nascent economic environment. South America? Wrecked by years of inflation, the South American flow of funds goes north. That leaves one place for global investors to turn to: the USA.
Money will continue to flow into America, and flow in for a long time. As rates rise over time even more money will flow into the U.S. dollar because of an attractive rate environment. The longer-term implication of this is that existing trends, such as high gold prices, will be a thing of the past and most emerging economies will be stung by the constant fleeing of their currencies into stability (i.e., the U.S. dollar). A stronger dollar will hurt export companies in the U.S. but will probably fuel greater U.S. corporate investment abroad.
All in all, a stable currency, in a free capitalistic yet regulated financial environment will attract foreigners to flow capital to the U.S. and reduce the need to hold other instruments like gold as a calamity hedge. Thus, the U.S. will benefit from the 230 years of global security we have provided. The winner in the above scenario will be the U.S. dollar and the most prominent loser will be gold.