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US Happily Digs its Own and Dollar's Grave

Politics / US Debt Oct 20, 2013 - 03:32 PM GMT

By: Pravda


Yet another budget crisis in the U.S. has made many people around the world, even those, who consider themselves indifferent to the vicissitudes of political controversy and global economic problems, wonder what is going to happen to the American dollar.

The shutdown in the US - the controlled suspension of most public institutions due to the inability of the federal authorities to finance them - raised concerns not only with financial, economic elites and politicians all over the world, but with mere mortals as well. In Russia, many started talking about the looming collapse of the US financial system, the collapse of the dollar and the collapse of the entire global financial system. Some even said that the United States may switch to the new currency - amero - to get rid of the incredible national debt, which has exceeded the level of 17 trillion dollars.

All jokes aside, the world can indeed turn upside down, should the US financial system fall apart. Is it possible at all?

As is known, the U.S. currency originates from the Ore Mountains of North-Western Bohemia, where at the beginning of the XVI century, with the discovery of silver mines, they began minting coins in one ounce of silver. The coins were called after the place, where it was born - Joachimsthaler. The coin, made in the valley of St. Joachim for the needs of the Holy Roman Empire of the German nation, became a very nimble means of payment. Its (and more expensive) gold relatives would be thrown into chests, but the silver coin would travel across countries and continents. The coin would receive hearty welcome everywhere, but the ponderous German name was transformed to the tastes and rules of different languages​​. Most often, people would get rid of the name of the foreign saint, leaving only "thaler." Across the ocean, the coin was given a more sonorous name - "dollar."

About 350 years after the birth of the brisk coin, overseas colonies of the United Kingdom declared independence. They knew the thaler well and, for obvious reasons, hated the British pound. As a result, in 1786, the U.S. Congress declared the birth of a new currency - the dollar, which adopted many features of its Bohemian ancestor. For quite a long time, the new currency was known in two forms - silver and gold dollar. Such a system led to problems, as the gold dollar was not equal to silver in value due to fluctuations in gold and silver rates. Therefore, in 1900, the gold standard of the dollar was set at 1.50463 grams.

It is undeniable that the dollar gained a lot from the historical and geographical conditions of the United States, congenital adventurism, entrepreneurship and commitment to progress of its people. One way or another, but - this is not a secret - at the end of the Second World War, there was no other more powerful country in the world, just like there was no stronger currency either. This, in turn, led to the emergence of the notorious Bretton Woods system, under which the dollar became the basic reserve currency, having replaced gold.

For a while it worked. The dollar did a god job in the war-ravaged Europe. But in the sixties, problems began. The chronic deficit in the balance of payment of the U.S. led to more intense work for the printing press. In the 1960s, the amount of dollars transferred to creditor countries exceeded the gold reserves of the Federal Reserve System. In 1971, Richard Nixon announced the end of the gold-secure dollar.

The world did not collapse back then. In 1976, at a conference of the International Monetary Fund in Kingston (Jamaica) member countries agreed to give up the rigid dollar peg for their exchange rates. It was decided to set the rates on the base of market principles, that is, depending on supplies and demand. However, this solution did not affect the authority and weight of the dollar as a widely recognized means of payment and reserve currency.

The fact is that the reputation and reliability of currency also stands on economic and political stability of its issuing country. It depends on the ability of this country to repay its obligations without any problems. During several decades after WWII, the United States was showing unattainable skills at this point.

"America stands as a country that provides the most reliable and universally recognized way to store surplus financial resources. There is no other alternative now either to the dollar or to the U.S. as the least risky place of storing available funds," deputy director of the Institute of the USA and Canada, Viktor Supyan told Pravda.Ru. "Even in the crisis of 2008-2009, most countries tried to convert their available financial resources in the dollar, although the crisis began in the USA. Everyone knew and understood that - but there were no other reliable financial instruments either then or now."

In other words, the U.S. political system still ensures the credibility of the dollar as the most stable currency. It is for this reason that frequent disagreement within the political elite in the U.S. causes concerns among financiers and economists. The Republicans' dissatisfaction with, in their opinion, socially -oriented policies of Democrats, led by President Obama, led to the failure to adopt the proposed budget. If the situation does not change, in mid- October, the country will not be able to make current payments on external debt, which will mean default.

Moreover, the stubbornness of Republicans questions the move to raise the "ceiling" of the national debt, which already exceeds the previously adopted ceiling of 16.5 trillion dollars. Freezing the national debt at the current level is impossible. It will take the country to bankruptcy.

Most experts say that nothing terrible happens. However, politicians from across the globe urge their American counterparts to leave their differences behind and deal with economic problems. Central banks of Japan and China announced their concerns with the current state of affairs in America for these countries own most of the debt portfolio of the USA. The bank of South Korea announced that it was preparing "aggressive measures" to support the financial market of the country in the event of the darkest outcome.

Meanwhile, Bloomberg analysts said that the U.S. default threatens to destabilize stock markets. In fact, stock indexes in the United States plummeted after shutdown was declared. The analysts also said that the world financial system may plunge into recession and depression. Officials with the U.S. Treasury Department said that "the consequences of default would lead to a disaster more terrible than the Great Depression."

In general, there is a lot of intimidation. Veteran investor Warren Buffett said an interview with CNBC that Washington would get close to the point of extreme stupidity, but would not cross that line." In a similar situation, on August 2, 2011, senators voted to increase the debt ceiling only 12 hours before the deadline.

"Default, as it is commonly understood, is hardly possible in any case," Yuri Rogulev, the Director of the Franklin Roosevelt US Policy Studies Center at Moscow State University, told Pravda.Ru. "Even if Republicans and Democrats can not quickly come to an agreement on the budget and debt, there are various state mechanisms to avoid the crisis. Specifically, the President has the right to trigger certain government mechanisms that compensate for the absence of the consent of the Senate."

"For the time being, there is every reason to believe that the dollar will remain a protective asset no matter what turn the situation may turn," analyst of Finam investment holding, Anton Soroko said. "Any decision made in the U.S. will reduce the country risk and strengthen the dollar. For example, for Russia and its citizens, U.S. default (if it ever occurs) will mean reduction in the cost of oil and the rise of the dollar against the ruble."

However, as we remember, the reliability of the dollar also depends on the economic wellbeing of the United States, which is actually a problem. It would not sound paradoxical, but external borrowings, which international investors are so interested in, put pressure on the U.S. economy, which already lies under a weight problems. The situation when one economy and one currency dominates the world, is not normal, and many experts acknowledge that. Mikhail Khazin, who visited the Rhodes Forum "Dialogue of Civilizations" in October, wrote : "Those who are professionally engaged in economic matters, in one voice say that there are not years, but months or even weeks left before the collapse."

Ilya Nikonov

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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