Currency Wars: The Making of the next Global Crisis

James Rickards, “Currency Wars: The making of the next global crisis,” Kindle, C2011, 304 pp. in hardcover.

Here is another one of those books which may scare the be-gessus out of you.  Written in 2011 the forecast of a possible, if not probable, currency collapse at the time seemed quite realistic: Contemporary headlines involving bailouts in Greece and Ireland, and Chinese currency manipulation, as well as the US printing of trillion of dollars, were ominous.  That a currency collapse didn’t or hasn’t happened yet may detract from this books premises, but those premises should still be examined.  Especially, as all currency wars involve the devaluation of a nation’s currency to help create domestic jobs and this threat and practice remain with us today and we are, in fact, in a currency war.

*In 1971, President Nixon imposed national price controls and took the United States off the gold standard, an extreme measure intended to end an ongoing currency war that had destroyed faith in the U.S. dollar.  In 2011 author Rickard believed we were again engaged in a new currency war.  Currency wars at best offer the sorry spectacle of countries' stealing growth from their trading partners. At worst, they degenerate into sequential bouts of inflation, recession, retaliation, and sometimes actual violence. Left unchecked, the next currency war could lead to a crisis worse than the panic of 2008.

My Notes:

Loc 630:  A Currency war, fought by one country through competitive devaluations of its currency against others, is one of the most destructive and feared outcomes in international economics.  It revives ghosts of the Great Depression, when nations engaged in beggar-thy-neighbor devaluations and imposed tariffs that collapsed world trade.  It recalls the 1970s, when the dollar price of oil quadrupled because of US efforts to weaken the dollar by breaking its link to gold.  Finally, it reminds one of crises in UK pounds sterling in 1992, Mexican pesos in 1994, and the Russian ruble in 1998.

Loc 643:  Currency wars begin in an atmosphere of insufficient internal growth.  The country that starts down this road typically finds itself with high unemployment, low or declining growth, a weak banking sector and deteriorating public finances.  A devalued currency becomes the growth engine of last resort.  To see why, it is useful to recall the four basic components of growth in gross domestic product, GDP.  These components are consumption (C), investment (I), government spending (G) and net exports, consisting of exports (X), minus imports (M).  This overall growth definition is expressed in the following equation:

GDP=C+I+G+ (X-M)

Note:  I think productivity is an extremely important component of growth even though economists apparently don’t think so, at least in this equation.

Loc 715:  The twentieth century was marked by two great currency wars.  The first ran from 1921 to 1936, almost the entire period between WWI and WWII including the Great Depression.  The second ran from 1967, with President Johnson’s Guns-&-Butter war on poverty policies, to 1987 and was finally settled without descending into military conflict. 

Loc 1295:  Inflation almost doubled from an acceptable 1.9 percent in 1965 to a more threatening 3.5 percent in 1966.  Inflation then ran out of control for twenty years.  It was not until 1986 that inflation returned to the level of just over 1 percent.  In one incredible five-year stretch from 1977 to 1981, cumulative inflation was over 50 percent; the value of the dollar was cut in half.

Loc 742:  The classical gold standard was like a club that member nations joined voluntarily.  Once in the club, those members behaved according to well-understood rules of the game, although there was no written rulebook. Even though some nations had been on the gold standard well before 1870 (England, for instance), it was in the period after 1870 that a flood of nations rushed to join.

Loc 1400:  In 1971, President Nixon presented his “New Economic Policy,” consisting of immediate wage and price controls, a 10 percent surtax on imports, and the closing of the gold window.  Henceforth, the dollar would no longer be convertible into gold by foreign central banks, the conversion privilege for all other holders had been ended years before.  It was the US deficits and monetary ease that had brought the dollar to this pass.  The last vestige of the 1944 Bretton Woods gold standard and the 1922 Genoa Conference gold exchange standard was now gone.

Loc 1521:  The new term ‘stagflation’ was used to describe the unprecedented combination of high inflation and stagnant growth happening in the US.  The economic nightmare of 1973 to 1981 was the exact opposite of the export-led growth that dollar devaluation was meant to achieve.  Relief came when President Carter appointed Paul Volcker as chairman of the Federal Reserve Board in 1979 and the election of Reagan in 1980.  For inflation, Volcker raised the federal funds rate to a peak of 20 percent in 1981 and the shock therapy worked.  Inflation collapsed from 12.5 percent in 1980 to 1.1 percent in 1986. 

Loc 1583:  The dollar, the euro, and the yuan, belonging to the three largest economies in the world, are the superpowers in a new currency war, Currency War III, which began in 2010 as a consequence of the 2007 depression.  Today’s currency war is marked by claims of Chinese undervaluation. As late as 1983 the yuan was massively overvalued at a rate of 2.8 yuan to one dollar.  In 1994 the yuan was at 8.7 to the dollar.  (But in 2016 it is at 6.75 to one dollar).

Loc 1695:  The Greenspan-Bernanke fear of deflation is the one constant of the entire 2002-2011 period.  In their view, deflation was the enemy and China, because of low wages and its low production costs—from ignoring safety and pollution—was an important source.

Loc 2167:  Quantitative Easing (printing money).  The US began a process they called Quantitative Easing in 2009 and again in 2010 to generate inflation abroad especially in China.  China would have to either revalue the yuan or suffer inflation as they had the yuan pegged to the dollar.  (Remember, Tiananmen Square had been caused by 1989 inflation).  The more money the Fed printed, the more money China had to print to maintain the peg.  China’s policy of pegging the yuan to the dollar was based on the mistaken belief that the Fed would not abuse its money printing privileges.

Loc 2176:  While yuan revaluation was going slowly in late 2010, inflation in China took off and quickly passed 5 percent on an annualized basis.  By refusing to revalue, China was getting inflation.  The US was happy either way, because revaluation and inflation both increased the costs of Chinese exports and made the US more competitive.