Erik Townsend discusses the consequences of resource depletion and peak oil for the international monetary system (IMS) and why rising energy prices could very well be the catalyst that will cause the present system to fail. The IMS is basically Bretton Woods, the basis for all international trade. [*] Core element is the elevation of the dollar to world reserve currency status, simplifying international trade. The dollar at the time was still fixed to gold ($35/oz) and was backed by the most credit worthy nation. Countries promised to keep their dollar exchange rates fixed as well. To that end they would be required to hold dollar reserves. That system survived until August 15, 1971, when Nixon abandoned the gold standard.
In 1959 the economist Robert Triffin pointed at a dilemma: “if you choose a currency because it’s a strong credit, and then give the issuing nation a financial incentive to borrow and print money recklessly without penalty, eventually that currency won’t be the strongest credit any more!” Indeed, Nixon proved Triffin right when he ‘temporarily’ had to abandon the gold standard, after a bullion bank run, as the dollar was no longer as good as gold. Especially the French under de Gaulle were notorious for exchanging their surplus dollars against gold. At the same time successful exporting nations had a problem with all these dollars. Changing them back into local currencies would appreciate this currency and result in ever lower returns for export nations. The answer was to not exchange but to invest in US government bonds. The result was that the US government could spend even more, all being a consequence of the reserve currency status of the dollar. The author claims that these exporting nations have little choice but to invest in US bonds. The US can borrow almost against zero cost, a situation described by de Gaulle’s finance minister Valery Giscard d’Estaing as exorbitant privilege.
The big miracle is that the IMS did not fall apart after 1971, when the gold standard was dropped. Sure, the Arabs forced an oil crisis, drastically increasing oil prices, partly because of this. But the system largely kept in place because there was no real alternative and because of the overarching power of the US military (DR: look what happened to Saddam and Khadaffi when they tried to circumvent the dollar).
Now that the U.S.debt-to-GDP ratio now exceeds 100%, and the U.S.has literally doubled its national debt in the last 6 years alone, we see increasingly that trading nations are conduction bilateral trade in their own currencies. Examples China, Brazil, Russiam Turkey and Iran. The author thinks that the Peak Oil energy crisis will be the catalyst to cause a global financial system meltdown, going hand in hand with the dollar losing its reserve status. Key questions: when and how is this going to happen? Answer: the loss of reserve currency status will be the forcing function that begins a self-reinforcing vicious cycle that brings about a U.S. bond and currency crisis. We see that major players like China are openly calling for their own currency to be and alternative to the dollar. The only reason why the US can service its debt is because the FED is able to keep interest rates low… because of the reserve currency status of the dollar. Once that is gone the rates will skyrocket and servicing the debt can become problematic. The author puts great faith in the arguments made by Eric Janszen, or more precisely the Janszen Scenario: the U.S. has reached the point where excessive borrowing and fiscal irresponsibility will eventually cause a catastrophic currency and bond crisis. He believes that all that’s needed at this point is a proximal trigger, or catalyst, to bring about such an outcome. He thinks there are several potential triggers that could bring such a crisis about, and chief among the possibilities is the next Peak Cheap Oil price spike. The crucial thing is that in the seventees the US represented 80% of the world oil market, today that is 20% and growth comes from other countries than the US. This means that it makes ever less sense to price oil in dollar. Once this really happens, trading nations no longer will need so many dollars and will start to dump them.
The author ackowledges that unconventional oil/gas is not a marginal phenomenon, but denies that it will change a lot to the global picture and peak oil. In fact if the US would withdraw from the oil market because it can produce all its oil by itself (a big if), then this would hasten the demise of the dollar as reserve currency as oil exporting countries would no longer have an incentive in charging in dollar. The consequence would be dumping of the dollar and bonds, which would cause US interest rates to go up to a point where the US will be unable to finance its federal budget deficit. If the FED would respond by printing money, the dollar would lose its value and imports would become unaffordable.
The author fears that the US could use its military as a means of last resort to stave off a catastrophe by using (nuclear) blackmail… sell us oil against 50$/barrel or else…
[*] The man behind Bretton Woods was a Lithuanian jew and Soviet spy, Harry Dexter White.