I was asked by Bill:
How would “the USD being dropped as the global reserve currency” factor into your recovery predictions? and why?
First of all lets talk about the elephant in the room. Will the US be dropped as the global reserve currency? Yes! Will it be tomorrow? No!
The USD will always have a certain amount of importance because so many things are based on the USD, with an example being South America. South America does a very large part of it commerce denominated in the USD. They would not switch to the Euro since that would be a disadvantage for them.
Put it in context. If Ecuador were to use the Euro as a basis then they would instantly become uncompetitive as an exporter. Thus as the USD weakens it only improves the ability of South America to export to non USD based countries. And with respect to each other nothing changes. And it is this aspect that you need remember when looking at the dynamics of the Euro. The fact that the Euro is strong does not matter to most of Europe and many countries that deal with Europe since they are based on the Euro. Currency only matters when you are in a situation where there two completely different systems (eg Europe and the America’s).
So the fact that the US could weaken in my opinion is not that big a problem, of course I am not hoping we will have 10 USD’s per Euro.
Now let’s get back to the reserve currency aspect. This actually could be a long term problem. There is simply too much money out and about. I can’t hide and say that this would not be an issue since it is apparent that it could be. The only real solution is the shrinking of the money supply by the American government and the Fed. This could be done by taking money out of the system, or by increasing the fractional reserve requirements.
Switzerland wants to institute a system where in good times fractional reserves will be much higher, and lower in bad times. A good approach because it gives the banking system the flexibility to build up reserves that could be used up in bad times. I think this is the best approach since it is very Keynesian.
Savings by American consumers is not going to help because you are just delaying the day of reckoning. Money needs to flow and when it is saved it is stagnant, but can be put to work again, meaning the money supply has not shrunk.
If the US mops up the currency excesses then the USD will do fine in the world, and it will be a currency like GBP, or YEN. Not the major currency, but also not the minor two bit player. Will the US mop up its excesses? The Fed yes, the government? Depends… I think Obama is quite aware of what is going on and I think he will do the right thing.
Overall I don’t see this a problem in the recovery of the US since I am thinking that the US will not be the major player in the recovery. I actually think that the US and the G7 are moving towards the G20 and that means who was important before is less important. As contradictory as it sounds I am actually hoping that the recovery in the US and Europe will be slower since that will assure that we don’t get a hyper-inflation scenario.
Recently I had a discussion with somebody on where to move to. The context was if you were a twenty something and had to start a career where would I go. My answer was India, Brazil, Russia, China, and not Europe or America or Canada. I know I talk about my brother and sister quite a bit, but with my sister in Ecuador, and brother in Russia I see how their lives are more interesting than my life Switzerland.
Summarizing, I am expecting the USD to be dropped over a period of time as a reserve currency and I am expecting that the recovery will not be strong in America. But that will be good for the world on the whole and requires that you look at the world when investing.