Alas, The Demise of the Dollar

The Daily Reckoning PRESENTS: The greenback is in a sorry state of affairs, down against most major European currencies. This weak dollar trend looks like it is nowhere near wrapping up, and below, Addison Wiggin details how a declining value of the dollar has far-reaching effects. Read on…


The global economy is changing, and the U.S. dollar is on the front lines of change. When we take a look at history, we see how past events have affected everything. The Black Death created a devastating labor shortage throughout Europe for decades. Christopher Columbus’ voyages turned trade upside down for hundreds of years.

The Industrial Revolution moved economic power in ways that continue to affect economic balances to this day. And now we face another great shift, away from the U.S. dominance of world markets and toward new leaders – China and India.

The economic reality – a type of geography – is changing. As a consequence, real estate speculation in New York, Chicago, and Los Angeles may be replaced with more global interest in the new real estate markets – in Beijing, Shanghai, and Bombay. Who knows? We can only anticipate how changes will occur based on what we observe today. Does this mean the age of America is ending? No, it simply means that economic muscle will be flexed by someone else in the future. This is a trend. And like all trends, they are more easily viewed in historical perspective but harder to judge from their midst.

When we look at trends in dollar values, we can observe that incomes have not declined. That’s great. But we also see that prices have risen faster than incomes. So with decreased buying power (caused by this disparity) we have seen a decline in income in terms of what really counts. It takes more dollars to buy the same thing (in other words, prices are higher) but incomes have not risen to meet that price inflation. That’s what happens when the value of the dollar declines.

Economic history is a history of bubbles – and of bursts. The great disservice being done to Americans by the financial media is that they are not being offered the opportunity to learn from what is going on. They are losing buying power, but apart from a few painful spikes at the gas pumps, it’s invisible.

In the Great Dollar Standard Era, the problem is global. While there is, of course, more to it than just the value of the U.S. dollar, here is how it works:

1. The dollar’s value falls due to Fed policy, liberal credit, and artificially low interest rates.

2. Eventually, we cannot afford to buy as many foreign goods.

3. Foreign manufacturers, unable to sell at previous levels, have excess inventory, which causes an inflationary outcome.

4. Foreign governments, in an effort to counteract this inflation, blame the fallen dollar for the problem and begin moving out of U.S. instruments.

5. As debt returns to the United States, our system is unable to absorb it. This creates more severe recession at home.

The whole thing is connected. This is similar to what happened worldwide at the end of the 1920s.The worldwide depression had numerous aspects, but most notable among them were two things: a huge transfer of funds from World War I reparations, and far too much credit that went beyond the borrowers’ ability to repay. All of that credit – essentially, funny money – also creates a fake demand.

We see the effects of this policy in housing as severely as anywhere. The whole mess is traced back to the origin – a Fed policy encouraging debt spending as a means to artificially create the appearance of productivity. This Fed policy has included four aspects:

1. The Fed has lent money below inflation. Fed lending rates have been far below inflation (even as measured by the consumer price index, not to mention any real inflationary measurements). In a very real sense, the Fed has lost money on these loans. When inflation is higher than the lending rate, it is a loss. Just as a business cannot stay open when it sells goods below cost, the Fed cannot continue to hold the view that it isn’t real money. The point is, the money lent out at bargain rates is real credit, and that is corrupted when it is given away cheaply.

2. The low interest rates have created the mortgage bubble without any corresponding investment. It is basic: if you borrow money to invest in productivity (new plants and equipment, for example) it is a profitable use of money. But those low interest rates have gone, instead, into cheap long-term mortgages. Current homeowners have refinanced, and many first-time buyers have gotten into the market because low rates make housing affordable.

3. The mortgage bubble has inflated the housing market in an exaggerated fashion, creating the illusion of equity. All of that cheap money has created two troubling changes in housing. First is higher demand for owner-occupied housing based on the low cost of borrowed money rather than on any real market forces. Second is the resulting equity buildup from rapid expansion of market value in residential property. But it is as fake as the low interest rates. Like all pyramid schemes, the whole thing will eventually crumble under its own weight. We do not have an endless supply of new home ownership demand; quite the contrary. The baby boomers mostly own homes already, and a smaller population of people coming into home ownership age will ultimately result in an oversupply of housing stock. Once the mortgage bubble bursts, we can expect to see several consequences:

? Defaults on existing loans. As rates on variable mortgages begin to rise right up to their cap rates, we’ll see many of those marginal loans go into default. Many Americans are barely able to afford the mortgage payments they are making based on low interest qualification. But as the Fed finally faces reality and allows interest rates to rise, those variable increases will kick in as well. Many existing loans will be defaulted as a result.

? Reduced market value from oversupply of housing. The oversupply in building will become obvious, but suddenly. At some point, when the bubble bursts, everyone will realize that too many homes were built too quickly, and the anticipated demand simply isn’t there. The result: those skyrocketing market values will disappear.

? Abandonment of no-equity properties. The reduced market value in homes is not going to be limited to a simple supply and demand cyclical change. For investors, reduced demand and flat or falling prices may be viewed as a cyclical and natural effect. But when the supply-and-demand cycle has been manipulated through interest rate policy, we have to expect a more wrenching effect. For those who enter into the housing market when prices are inflated, the day arrives when they realize that real equity is below zero.

There remains no incentive to continue making payments, notably when lenders are raising rates and when the dollar’s buying power is tumbling. In such a severe condition, marginal buyers are going to simply walk away from their properties. Why stay when there is no equity – or worse, minus equity?

? Secondary market fallout from these changes. Where does all of that mortgage debt end up? It isn’t held by your local bank or savings and loan. It all gets sold to Ginnie Mae, Freddie Mac, and other mortgage pools, who then package it up and sell it on to investors, many of them from Europe and Asia. Imagine how those pools will perform when the foreclosure rate rises and when – at the same time – market values fall.A high rate of foreclosures in an overbuilt market spells disaster in the housing sector.

While a normal supply and demand cycle may last three to five years on average, this downturn could be severe, going much longer into the future.The actual length of the housing recession would depend on how decisively the Fed will be willing to act and to fix the problem.

4. The lack of investment and a flat manufacturing trend are damaging the U.S. competitive position in the world market. Imagine an economic situation in which enterprising homeowners refinanced their homes when rates fell, invested the money in small business expansion, and created an internationally competitive economic climate.

Well, this is the rosy picture the Fed hopes will eventually emerge from its monetary policies. By artificially lowering interest rates and enabling homeowners to get at their equity, the idea is that on a broad range of economic trends (housing, business investment, savings, etc.) there will be a strong growth spurt, an economic recovery that will return the United States to its leading position. But the lack of investment is doing great damage. The whole thing is credit-based, starting with the Fed losing on below-inflation loans and ending up with credit based spending but no real productivity.

It appears that Fed policy has been premised on the idea that lower interest rates bring down inflation. Yet there is no evidence of that in economic history. It has always been an effective policy to raise rates to slow down inflation, just as lead rods are moved into the radioactive core of a reactor to cool down the chain reaction.

Higher rates put a damper on spending. This has been recognized widely, so the Fed policy – based on the idea that lower rates are “good for the economy” – is baseless. In fact, it is damaging. The housing market and its mortgage bubble are most likely to be the first victims of this policy, and the most visible.


Addison Wiggin
The Daily Reckoning
May 29, 2007

P.S. Even as the purchasing power of the U.S. dollar collapses, the world currencies with an ipso facto energy “backing” are doing very nicely. Take the Canadian loonie. While many factors sent it to the 30-year high it reached today, being backed by the Alberta fields and oil sands is making it look as good as the gold-backed greenbacks we used to know.

The same goes for the British pound, with England’s vast share in the North Sea oil riches…Norway’s krone…even Australian dollars, backed by vast stockpiles of coal, gas, and – of course – uranium.

Our friends at EverBank have pulled together a new new FDIC-insured deposit account where you can automatically hedge any U.S. dollars you put in, simply by spreading them evenly between all four of those politically stable, energy-centric currencies I just mentioned.

The World EnergySM Index CD is completely new – in fact, Daily Reckoning readers have first crack at it, before EverBank opens it up to the rest of the market. If you’re interested in finding out more, the only way to get info is to either email them at or call 800-926-4922. Just be sure to mention the Daily Reckoning when you write or call…and hurry! This offer ends this week!

Editor’s Note: Addison Wiggin is the editorial director and publisher of The Daily Reckoning. Mr. Wiggin is also the author, with Bill Bonner, of the international bestseller Financial Reckoning Day and the upcoming thriller Empire of Debt. Mr. Wiggin is frequent guest on national radio and television programs.

The above essay was taken from Addison’s book, The Demise of the Dollar…and Why It’s Great for Your Investments. To order your copy, please see here:

Demise of the Dollar

We have our thinking caps on today…after a three-day holiday in which we were given plenty of time for it. You see, over this long Memorial Day weekend we had to ignore the financial news – since there wasn’t too much of it – and we actually gave ourselves over to cogitation. Now we find we can’t stop ourselves. The thing has become addictive.

Actually, thinking is usually the hardest thing for any man to do. Most men will do practically anything to avoid it – even die. And that is true in matters not just in finance. We, however, will make do with the little news we can find, even if we have to fish it out of the past.

Yesterday, for instance, we talked about a nation’s idea of itself…its history…its dominant ‘narrative.’ People need simple answers to questions such as, ‘who are we?’ and, ‘what are we doing here?’ They need answers that give themselves a sense of purpose…or at least an explanation that is so plausible that it saves them the trouble of thinking.

For one thing, people don’t like to die in pointless, absurd battles. They much prefer to die for a reason – so they look for one anywhere they can. In France, they died to realize the dream of a united, centralized republican France; American martyrs fell, on the other hand, to preserve their freedom and independence…or try to extend these blessings to other parts of the planet. Of course, there are a lot of people who think France would be a better place if it weren’t quite so French. And there are plenty of others who would prefer that U.S. troops mind their business at home.

An individual soldier who bothered to think about his own situation might decide that, say Napoleon’s campaign against Tsar Alexander I of Russia, or Wilson’s campaign against Porfirio Diaz of Mexico, was not really worth dying for.

But a soldier who thinks is not merely extremely rare – he is a danger to the whole system! Fortunately, very few are capable of it. And the rest of us loathe it so vigorously, we will accept any narrative at all in its stead…provided it flatters our self-importance enough.

Napoleon drove the Grande Armee into Russia by telling the soldiers that the Russians posed a grave risk to France’s Eastern Flank. French aristocrats – driven out and disposed during the revolution – had the ear of the Romanovs and the Hapsburgs; they were always stirring up plots against La Patrie. “If we don’t fight them in Moscow,” Bonaparte might have said, “we will soon face them in Strasbourg. It’s up to us to save our civilization.”

This kind of flattering threat is a perennial favorite. And so the caissons roll…the drums beat…and the martyrs fall. ‘Mort pour la France,’ say the French monuments. They died ‘serving their country,’ say the American stones.

We spent much of Memorial Day sitting on a train in the middle of nowhere. The train had broken down on the tracks, in the middle of a huge field of wheat, between Montmorillon and Poitiers. Waiting for a bus to come to our rescue, we picked up a copy of a book about French soldiers who fought for Germany in WWII. Why would a Frenchman fight for the Nazis? They seem to have chosen the wrong narrative.

Many Europeans, in the 1930s, saw Bolshevism as public enemy number one. The Bolsheviks were godless, lawless barbarians, they thought. They had already taken over Russia…and nearly grabbed Spain too. If they weren’t stopped, all of Europe would fall under the hammer…or be cut down by the sickle. In this reading of things, Germany was not a threat to France or Britain. Instead, it was a bulwark against the commies…and the only nation with the vigor and strength to stand up to them. Many Frenchmen saw the defeat of their forces by the Wehrmacht as a happy historical necessity; now they were allied with the Germans in the fight that really mattered, the battle against Bolshevism.

The Nazis put up recruiting posters in French: “Europe United Against Bolshevism.” Sensing an opportunity, thousands of Frenchmen signed up for the Legion of French Volunteers, LVF, and were sent to the Eastern Front. A later poster shows a picture of a French soldier dressed in a snow-camouflage white uniform, carrying a machine gun. “During Three Winters: The LVF covered itself with glory…for France and for Europe.”

After three winters, hunkered down in snow-swept ‘hedge-hog’ formations, you’d think the French would have time to think…time to question the narrative that had gotten them into such a tight spot:

“What are we doing here,” they might have asked themselves. But it was easier to die than to think. Besides, at that point, dying was the odds-on favorite. What good was thinking? The war was going badly. The Germans were falling back across the Oder…with the Russkies in hot pursuit. And if they made it back to France, their countrymen would call them traitors.

No, it was easier, and maybe better, to die.

That fourth winter was the hardest one, the one when most of them stopped moving. The LVF was incorporated into the Waffen SS and covered the Germans’ retreat, often, without suitable weapons or food. Their job was to hold back the Russian tanks so that the Wehrmacht and the civilians of Pomerania could make their way to the West. They fought…and then they retreated too, with the long columns of Prussian women, children and old men…beaten soldiers…deserters…lost…wounded.

The civilians, too, might have wondered about their own narrative. They had been told that the German army could stop the Russian advance at the border. They had been told that the Russian tanks were still hundreds of miles away…and in retreat! And then, suddenly, there were thousands of T-34 tanks and Red Army soldiers – who showed no mercy to anyone – on the hallowed soil of Prussia. It was unthinkable…but it was real.

And now Germany needed real heroes…real soldiers…real men to push back the Slav hordes. For centuries Prussia had nurtured a stern military tradition of the threat from the East. And now, here it was – thousands of Russia’s bloodthirsty Siberian troops…burning their houses and raping their women. And where was the German army when they needed it? It had been battered and broken on a fool’s errand in Russia. Now, the Russians were having their revenge…and there were no troops to stop them.

Still, the Legion of French Volunteers fought on as best it could – retreating, fighting, retreating, fighting – right to the gates of Berlin, where they were among its last defenders.

Of those who survived the war, many went into Russian POW camps. Few came out alive. And those that made it back to France found that they had been officially dishonored and ostracized. They found no respect…and no jobs; what could they do but become financial journalists?

More news:


Addison Wiggin, reporting from Charm City…

“Existing home sales dropped 2.6% in April, says a report released by National Association of Realtors Friday. Housing inventory rose over 10%.

“These numbers continue to be bearish for the housing market.

” Never fear, you can now charge your mortgage on your American Express card. Heh. We’re sure that will help a few middle class homes stay afloat… for just one more month… eh.”

For more market insights, see today’s issue of The 5 Min. Forecast


And back to ‘national narratives’…

*** In finance, too, nothing is more dangerous to an individual investor than a flattering narrative. Last night, we watched a documentary film about the financial crisis in Argentina. It was the sort of polemic that might have been made by Michael Moore – arguing that Argentina’s financial woes of 2001-2002 were caused by rich international investors and globalized companies, rather than by the Argentines themselves.

What a wonderful medium the documentary is. Show a photo of a poor starving child; then show a photo of a rich, fat man, eating in a fancy restaurant. You have made your argument; and the spectator gets to take your point without ever having to put two and two together. That is the beauty of the documentary; it doesn’t require any thinking on the part of the viewer.

(As an aside, we’re trying our hand at the medium ourselves… Short Fuse and Addison have been working with the makers of the hit doc Wordplay… about the NY Times crossword puzzle. “We didn’t think it was possible to find a more boring subject than crosswords,” says the director Patrick Creadon “but now we’re making one about debt.”)

If you really wanted to understand what happened in Argentina…and why a financial crisis struck the country in the early 21st century…you would have to do a lot of thinking. Like the rest of life, the facts are infinitely complex and nuanced. But neither investors, nor voters, nor soldiers can stand ambiguity. They need a simple narrative that turns them into saints, heroes, and geniuses…and leads them right to the gates of Hell.

The neo-Peronist, Carlos Menem – with the help of American economists – had pegged the Argentine peso to the U.S. dollar. This had the expected effect – it stopped inflation. But once the danger of Argentine-style inflation was passed, the coast was clear for the big banks to lend money on a grand scale. Argentina’s foreign debts soared. Meanwhile, the relatively strong new peso made it difficult for Argentina’s exporters to stay in business. Because of the one-to-one exchange rate, Argentine products were expensive to the rest of the world. Industries closed. Unemployment rose.

And then, people took to the streets. They had a narrative of their own. They thought the problems were all caused by a small elite of evil bankers, corrupt politicians, and greedy international businessmen. “Out with them all,” they chanted, banging pots. “Thieves!” they shouted.

All narratives have some truth in them. This one had a measure of it. But whatever truth there is soon becomes lost in the vanity and mindlessness of it all. People come to believe only the most cartoon-like version of the narrative…and forget to think.

*** Meanwhile, the slump in the U.S. real estate market continues. This report comes from the New York Times:

“In Miami-Dade County alone, 8,000 new condo units will be completed this year and nearly 12,000 more in 2008.

“But demand has dropped markedly, and people who thought they could ‘flip’ condos – buying, then selling for a steep profit before construction is done – are parting with that fantasy. After years of stunning price increases – 25 percent in the West Palm Beach-Boca Raton area, for example, from March 2005 to March 2006 – condo prices have started dropping.

“As a result, many buyers want out – not an easy prospect unless they are willing to forfeit the 10 percent or 20 percent they put down, from $15,000 for an inexpensive studio unit to hundreds of thousands of dollars for a waterfront penthouse.”

And on the other coast of America, the LA Daily News tells us, “Statewide, sales of existing homes fell by 27.8 percent compared with a year ago, while the median price of a single-family home rose 6.2 percent to $597,640, the California Association of Realtors said Friday.”

The reason for the modest price bump was an interesting one. Lower priced houses are not selling as well – presumably since subprime lenders were hit – so their prices are not part of the mix, skewering the average upward.

But we are sure that out in California there are realtors who have a flattering narrative ready at hand for homebuyers who still don’t want to think. Take our advice, dear reader. If you think that this is a good time to buy…think again.


The Daily Reckoning