Earlier this week I was listening to a fairly well-known financial podcast and the host, a fund manager of many years, admitted that he wasn’t aware of any downside to maintaining the world’s reserve currency. I.e. America suffers no drawbacks from exporting dollars all over this chunky planet.
Well shit! If only that was the case… In truth America pays a hefty commission for the so-called privilege of controlling the world’s reserve currency, but the devastation is tucked away in flyover country which is probably why it never gets mentioned by the mainstream media.
Mercifully this Substack is anti-mainstream and we can pontificate on whatever the hell we please. So let’s have a look at why the dollar is a global reserve curse for tens of millions of Americans.
Defining our terms
To make sure we’re all on the same page we should define a few key terms. If you’re already familiar with these concepts just skip to the next section.
Current account deficit (CAD) - When a country sends more money abroad than it receives. The CAD is primarily determined by a country’s trade balance*, but it also takes into account other factors like international payments. I.e. A Mexican laborer in California sending money back to Mexico.
*Trade balance = whether a country exports more than it imports, or vice versa. China has a trade surplus because it exports a bunch of cheap plastic shit stuff, while America has a trade deficit because it imports more than it exports.
Typically a country that runs a trade deficit will have a weaker currency since domestic money is being sold to buy foreign goods. However, in the case of America there are a few other factors that keep the currency strong despite the current account deficit.
Currency exchange values - Here are three of the biggest reasons that the US dollar has a high exchange value relative to other currencies.
Commodities are priced in dollars. If Brazil wants to buy oil from Saudi Arabia, or China wants to buy iron ore from Australia, neither one can pay in their local currency. They must pay with dollars, which creates a constant bid for greenbacks.
The US has an enviable financial system. Foreigners love to invest in US markets, which are perceived to be the safest and most liquid in the world. Good luck buying the S&P 500 with Pesos though, first you gotta convert that shit into the almighty $$$.
Crazy dollar debt. Remember late last year when the BIS accidentally tripped over $65 trillion in hidden dollar debt? There’s an astronomical amount of dollar denominated debt in the Eurodollar system and paying down that debt requires dollars.
As an anecdotal example of the dollar’s strength, the value of the dollar against my local currency has risen 6.75% since I moved to Asia in 2019. That’s good for me and my purchasing power at the local grocery store, but bad for what remains of the American manufacturing sector. Here’s why.
An exorbitant burden
China keeps the value of their currency artificially low. They do this because a weak yuan makes it cheaper for foreigners, especially Americans and Europeans, to buy their goods. And since Chinese paraphernalia is cheap to manufacturer and sell abroad, tens of thousands of companies have moved out of the west and established their operations in China*.
*A near total lack of environmental regulation and hordes of cheap labor are also important considerations.
Logically speaking, if China has a weak currency and it’s good for their manufacturing sector, what does that say about America and its strong currency? Well, the opposite… The perpetually strong dollar has murdered the American factory.
A strong dollar means that other countries have to pay more for American goods. While foreigners may be perfectly willing to make that tradeoff for certain American products, it’s by and large not a sustainable model. The strong dollar puts domestic producers at a disadvantage and while they might be able to sustain themselves for a few years under those conditions, it’s difficult to make it work for decades on end.
You don’t need me to tell you that this hurts the middle and lower class the most. All those good manufacturing jobs went overseas and now Detroit is a creepy ghost town where you can buy a house for $1.
Meanwhile any person or organization associated with America’s new #1 export (dollars) has gotten rich. It’s a pretty sweet gig for a handful of financially savvy bankers, politicians, economists, think tank staffers and diplomats, and a raw deal for everyone who lost a high paying job at the factory.
But what about Germany?
Germany is another manufacturing powerhouse, or at least that’s been their story for the last few decades until they went all kamikaze with their energy policy… But the euro is a fairly strong currency so how does Germany assert itself as a manufacturing and exporting powerhouse? I gave a full explanation in my article Here's why Germany secretly loves bailing out Greece but I’ll give you the cliff notes version here.
If Germany was the only country using the euro the currency would become too strong. However, many other countries that are economically weaker than Germany also use the euro like Spain, France, Portugal, Greece, etc.
All of these nations I listed (and more) run trade deficits. They’re constantly swapping euros for other foreign currencies and this exchange puts downward pressure on the euro. Germany is thus able to enjoy the benefits of a weakened currency even though they run a trade surplus.
As another example, Switzerland artificially weakens their currency with the printing press. The Swiss central bank has printed more than $100 billion worth of Swiss francs which they’ve used to buy American stocks. This currency rejiggering has led many people to jokingly call the Swiss central bank one of the world’s largest hedge funds.
Conclusions
Life is not black and white, and the dollar being the world’s reserve isn’t just a curse for those Americans existing on the lower end of the income spectrum. Remember those cheap imports? Americans have access to a wide variety of attractively priced foreign goods thanks to the strong dollar.
Cheap shit is definitely an upside, but is it enough? As I heard one person put it: “we’ve traded our manufacturing sector for cheap Korean microwaves.”
Is there any hope of changing this trend? Absolutely! Unreliable supply chains, military tensions and unfriendly foreign relations will all increase the cost of doing business overseas. These externalities will convince a certain portion of manufacturers to bring jobs back to the US, even with a strong dollar.
I also believe that the dollar’s dominance as the world’s reserve currency will decrease over the course of the next several decades. That’s not going to do much for job availability tomorrow or next week, but I think we’re at least moving in the right direction now. Living as an expat the strong dollar has been of great personal benefit to me, but I nonetheless welcome the day when a weaker dollar makes it possible for the revitalization of American industry.
Unfortunately the trajectory of pay and benefits in certain manufacturing sectors was unsustainable. Here, in Jeep county, a new hire in an auto assembly plant enjoyed $28/h starting pay, fullynpaid tuition for themselves and their kids, free health and retirement benefits and many other perks. The Jeep workers had 2-3 brand new cars, boats, and most had 30+ days a year paid vacation. All came to ahead when Chrysler declared bankruptcy in 2009. It's just unsustainable. Now it's all gone and starting pay is around $15/h. New middle class is being formed in Fintech and health care jobs. Just like agriculture gave way to manufacturing. Live goes on, one group will suffer for another to prosper.
The US being a desirable place to live making real estate a speculative item for foreigners already owning/using dollars is also a concern. Once the money of the whole world starts flowing back into US financial and real estate assets, the level of competition for those resources increases, preventing the locals from sharing in the growth because they have to pay their bills in dollars, while better-off people from lower cost of living countries can reap the rewards. Higher net worth individuals here (Philippines) like to start picking up exposure to the US market, both beause of its strength and colonial ties. US educations are also quite common for those going abroad.