The Late Great American Dollar

The economic crisis that hit the developed world a few years ago was devastating. Millions lost their jobs, their homes, and their retirements. But the next catastrophe — which could be coming soon — will make the recent recession feel like a boom time.

Imagine gasoline prices really skyrocketing and the cost of food and other essentials going through the roof — when they can be acquired at all. Think Social Security checks that don’t buy much of anything, and life savings wiped out in days. It has happened before in other countries, at other times — the Weimar Republic, the former Yugoslavia, and Zimbabwe, to name a few. Nations have risen and fallen throughout history, and there’s no reason to believe that couldn’t happen with the United States.

Don’t Worry, Be Happy

Keynesian economists dismiss it as scaremongering. They argue that if the government would continue to borrow and spend ever-increasing sums of money, things will right themselves. But what were they saying before the recent crisis? How reliable are their predictions?

In late 2005, before becoming Federal Reserve chairman, Ben Bernanke told Congress that housing price increases “largely reflect strong economic fundamentals.” A year later, he said “house prices will probably continue to rise.”

As the sub-prime mortgage fiasco began unraveling and housing prices plunged, Bernanke told Congress in early 2007 that “the impact on the broader economy and financial markets of the problems in the sub-prime market seems likely to be contained.” In January of 2008, he said the Fed “is not currently forecasting a recession.” It later came out that at the time of his statement, the economy had been in recession for months.

And now — even as the Treasury’s printing presses continue full speed — he’s assuring Americans that the Fed is working to maintain a “strong and stable” dollar.

Treasury Secretary Timothy “Turbo Tax” Geithner, who once served as the New York Fed chief, is saying much the same thing. After a slip-up in front of the Council on Foreign Relations where he admitted to being “quite open” to the possibility of a new world reserve currency run by the International Monetary Fund, Geithner has made a priority of emphasizing his support for the dollar’s current dominant role.

The Realists

While government and central bank officials were promoting the very policies that caused the crisis, economists who were sounding the alarm were ridiculed. Now, having been proven right, many are warning that the next big disaster — almost certainly worse than the so-called “Great Recession” — is just around the bend.

Peter Schiff, the president of global investment firm Euro Pacific Capital, was one of those who predicted the last meltdown years before it started. “The dollar has been losing value for years,” Schiff told Crisis, adding that it was going to get worse. “It’s coming soon.”

“The immediate effects are going to be a painful reduction in the standard of living of Americans,” he said. “When there’s a dollar crisis the dollar will lose value, and so, Americans will not be able to buy as much.… I think a lot of Americans are also going to find themselves unemployed.” Widespread disorder will follow. “There’s going to be protests and riots” regardless of what the government does, he said.

Longer term, however, he sees a possible silver lining. “The sooner we prick this artificial bubble economy, the sooner we can build a viable one,” he explained. But there’s always the risk that American policy makers will respond to the dollar crisis by making the problem even worse. “The government’s going to be in a position to do a lot of harm and a lot of damage. And so far, whenever they’ve had the opportunity to do the wrong thing, they’ve seized it.”

Schiff offered two alternatives for the international monetary system that could follow the collapse of the dollar and the end of its status as the world reserve currency. The first — far superior, he thinks — would be the re-establishment of gold as the anchor of the global monetary system. The second option would be the use of some other sort of global “fiat standard” using a basket of fiat currencies — un-backed money having value because of an official decree. “Ultimately that would prove just as problematic [as the current system] in the long run,” he said.

It’s still possible for policy makers to soften the blow by taking action now. “Dramatic, dramatic cuts to government spending across the board,” reform of entitlements, monetary reform toward a redeemable currency backed by gold, and more. But that’s probably not going to happen — particularly the currency reform. “To have a monetary system like the one that we have is the source of our problems — it’s the source of the world’s problems,” Schiff said.

Financial analyst and former Wall Street currency trader John Rubino has also been ahead of the curve. In 2003, he wrote How to Profit from the Coming Real Estate Bust. Four years later, he came out with The Collapse of the Dollar and How to Profit From It.

In an interview with Crisis, Rubino said America is past the point of no return — there is “absolutely nothing” that can be done to prevent a collapse of the dollar. “We’ve already borrowed enough money to destroy the U.S. financial system, so a crisis of some sort is baked in the cake.” The debate over cutting “miniscule bits” from the government budget is a “wasted effort.”

“Historians will date the beginning of the dollar’s death spiral at 1971, when Richard Nixon closed the gold window. Since then the dollar has been gradually losing purchasing power. But the ‘crisis’ phase is just beginning,” he explained. “Now that we’re running trillion dollar deficits and basically printing the money to cover our debts, it won’t be long before the world figures out that the dollar is being inflated away and acts accordingly.”

He sees two possible outcomes. One would be a depression resulting from an economic collapse under all of the debt. The other: inflation and a currency collapse, caused by policymakers’ attempts to inflate the debt away. “We’ve never been here before, with this much debt on one hand and central banks with printing presses on the other,” he said. “Historic, but not fun, times!”

Current and former policymakers with relevant experience and strong track records have offered their own warnings about the potential currency meltdown. Paul Craig Roberts, assistant treasury secretary in the Reagan administration, noted last year that “the initial crisis has planted seeds for two new crises: rising government debt and inflation.” A third crisis will occur when the world finally loses confidence in the dollar, he warned. That will result in, among other problems, a steep decline in Americans’ standard of living.

“The threats to the U.S. economy are extreme,” he said. “Yet neither the Obama administration, the Republican opposition, economists, Wall Street, nor the media show any awareness. Instead, the public is provided with spin about recovery and with higher spending on pointless wars that are hastening America’s economic and financial ruin.”

Congressman Ron Paul, presently the chairman of the House subcommittee dealing with the Fed and monetary policy, is a longtime critic of the Federal Reserve and its policies. During a 2008 House Financial Services Committee hearing with Chairman Bernanke, Paul accused the central bank of “purposely debasing” and “devaluing” the dollar.

“We are rapidly moving toward a dangerous time in our history,” Paul declared in a video advisory released last year. “This impending crisis comes as a consequence of our flawed foreign and domestic economic policies, a silly notion about money, ignorance about central banking, and ignoring the onerous power and mischief of out-of-control intelligence agencies.” America’s overseas “empire,” as Paul refers to it, will almost certainly crumble.

Trends analysts, too, have seen the problem coming. Trends Research Institute President Gerald Celente, for example, has been forecasting a dollar crisis for years. “We are moving into the greatest depression the world will have ever seen,” he said, estimating that it could come as early as the fall of 2012. “You cannot print phantom money out of thin air — based on nothing and producing practically nothing — without destroying the economy.”

Editor Bob Chapman of The International Forecaster, a former stock broker who has been in economics and finance for more than 50 years, is likewise pessimistic. “The dollar-based international monetary system is being deliberately destroyed to bring in a global fiat currency and to bring the U.S. and Europe financially and economically to their knees,” he told Crisis. He predicts “inflation and hyperinflation, which will be followed by deflationary depression.”

But Wait, It Gets Worse…

Federal debt is being amassed at an unprecedented rate. High unemployment and the gigantic trade deficit persist, even as U.S. production continues to move offshore. Unfunded government liabilities at all levels are being estimated in the hundreds of trillions of dollars. The central bank is shoveling huge sums of new money into the economy. And the trends are actually accelerating.

The U.S. government and the Fed are running out of options. The market for Treasury securities is shrinking rapidly, even as the government demands more borrowed money to fund its operations. China has already started cutting back on U.S. securities holdings. PIMCO, the world’s largest bond fund, recently announced that it was reducing its U.S. government-related debt holdings to zero.

Since the start of the second round of “quantitative easing” — the Fed’s term for new money creation — the central bank has purchased well over half of all new Treasury bonds. That can’t continue for long before hyperinflation destroys the currency.

Meanwhile, cries to dump the dollar as the international reserve currency are increasing — from the International Monetary Fund and the United Nations to prominent national leaders. The dollar has functioned as the world’s reserve currency since the Bretton Woods conference following World War II. At the time, the dollar was still backed by gold, much of Europe was in ruins, and the U.S. government was not $14 trillion and climbing in debt.

A Money Monopoly

At the heart of the currency crisis is the Federal Reserve System — a consortium of twelve privately owned regional Fed banks, now headed by a Washington, D.C.-based board nominally selected by the president. The central bank essentially exercises a government-supported monopoly on currency and credit. And the effects of the arrangement are obvious, when considered in history.

Since the cartel-like money regime was created in 1913, the dollar has lost more than 95 percent of its value. And that’s based on highly misleading government figures. In recent years, the loss of purchasing power has only accelerated. Consider the U.S. Dollar Index (USDX), which compares the dollar to a basket of foreign currencies. The index hit its lowest point ever in 2008. The dollar recovered slightly, as other fiat currencies are continually declining in value as well.

When measured against gold, which historically has maintained its purchasing power, the dollar fares even worse. When the Fed was created, the price of gold was just under $19. Then, in the early 1930s, the U.S. government confiscated all privately owned gold and handed out nominally gold-backed paper currency in exchange.

By 1934, the official price of gold was almost $35. In 1971, when then-President Nixon officially severed the dollar’s last link to the metal, the price was around $40. By the following year, it was near $60. As the new millennium arrived, gold had soared to almost $300. By 2009 it broke through $1,000. And today, almost incredibly, it’s hovering around $1,500.

The massive and accelerating depreciation of the dollar’s value seems counterintuitive. Sound money would generally increase in purchasing power, since production and distribution become more efficient as time goes by. With capital goods becoming more widespread due to savings and investment, increasing labor productivity leads to more abundance for all. Computers offer a perfect example: They continue to improve even as prices continue to drop.

In today’s fiat-currency world, however, values are in decline across the board. That’s because more of it is being pumped into the system without a corresponding increase in real production. In essence, the supply of money grows as the Fed prints more of it, diluting the value of all existing dollars. Inflation, then, acts as a hidden tax that confiscates the wealth of lenders and everyone holding currency.

Preparing for the Inevitable

While a money meltdown might be inevitable, we have no way of knowing what will initiate it. It could be a spike in interest rates, a total withdrawal of foreign creditors from the bond market, or an increase in the velocity of the newly created money, causing massive and sudden price increases. A global sell-off of U.S. Treasury securities or American dollars could do the trick as well — as could a rapid increase in the value of China’s currency.

Prudent Americans should start preparing now. Schiff offered his own recommendation: “Don’t own dollars!” He suggested foreign currencies and commodities as two potential assets worth considering. Schiff believes much of the rest of the world will probably benefit once American consumers and the U.S. government are no longer able to borrow and print money to consume so many of the world’s goods and services.

John Rubino, who authored the book about the looming dollar crisis and how to profit from it, had different advice. “Shift out of dollars — and other fiat currencies like euros and yen — and into hard assets like gold, silver, oil, and agricultural commodities,” he suggested. “Avoid debt unless you’re guaranteed to be able to pay it off even if you lose your job. Diversify geographically by owning assets in several different countries.”

Gloomier advisors suggest Americans invest in rural property, non-perishable food, and ammunition.