Over the last three months we have seen the world go through its worst financial and economic crisis. The icons of banking have gone bankrupt and there is uncertainty in the financial markets of the entire world. Stock markets have been crashing day after day reaching their lowest in years. Investors and the public have lost trillions of dollars. Why? Why has this happened? What is the reason?
The reason for the entire crisis is the fact that the United States of America holds the world to ransom by controlling the international currency of exchange. Let me explain why I say so.
After the Brettonwoods conference in 1944 it was decided that the dollar would be used as the international currency of exchange and trade. This meant that all currencies would be pegged against the dollar. As time went by, the United States of America became the single largest consumer in the world accounting for 30% of world consumption. Therefore it also became the largest consumer of the dollar. This means that today, the United States controls both the supply and demand side of world money.
If one analyses the events of the last three months, one will find some startling findings. The crisis was caused by America because of its greed and failed policies in the banking sector which resulted in the collapse of Wall Street. However if you notice, since then, the dollar has been becoming stronger and stronger and other currencies have reduced up to 20% of their value. This means that the rest of the world will have to pay more for their imports and purchases from now on.
Whether or not America does anything to support the dollar, the world will not let the dollar fall. Why? The reason is simple. All the foreign exchange reserves of the world are in dollars. So if the dollar drops in value then in effect everybody loses money. Therefore countries will continue to make efforts to keep the dollar strong.
China is the largest buyer of the dollar in the world. It buys the dollar to keep the Yuan low to promote it exports. It has 1.8 trillion dollars of forex reserves. China is the largest stakeholder in Freddie Mac and Freddie Mae and America owes 30% of its debt to China. Therefore if the American economy collapses it will take China down along with it.
The US has recently instituted the 700 billion dollar bail out package for its banking sector. Where did that money come from? It was “Fiat Money”. Fiat money is “Money which has no intrinsic value and cannot be redeemed for specie or any commodity, but is made legal tender through government decree.” In the normal scenario all currency issue has to be backed by gold. However in the case of the 700 billion dollar package the money was just created out of thin air without any backing of gold. Now issuing fiat money reduces the value of the currency, in this case the dollar and also cause inflation. Promoting inflation is one of the ways for an economy to avoid going into recession and this to some extent is working for America. However the dollar did not become weaker but instead is growing stronger. Therefore America never faced the downside of issuing Fiat money.
As long as the dollar is the currency of world trade and America is the largest consumer in the world, America can just sit back and live beyond its means and the world will keep funding it. The world needs to figure out an alternative to the dollar or it will continue to be held at ransom by the United States of America.
[Image Source: http://flickr.com/photos/fabely_67/840632923/]