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Dollar Crisis and the Reversal of Globalization, by Shobhit Mathur

The year 2008 has been declared by the United Nations as “International Year of Planet Earth.” The official website (http://www.yearofplanetearth.org/) states: “The International Year of Planet Earth aims to capture people’s imagination with the exciting knowledge we possess about our planet, and to see that this knowledge is used to make the Earth a safer, healthier, and wealthier place for our children and grandchildren.” Having an interest in economics and geo-politics, I felt it is an apt time to summarize the current world situation in regards to economy, the lessons we can learn from the economic policies followed in the past, and what possibly lies in store for us in the near future. The United States of America takes a central focus in this article, because of its current economic and political strength and its influence on world politics.

The Rise of the U.S. Dollar
During the early years of the 20th century, the United States underwent rapid industrialization. The discovery of a cheap domestic oil supply and the commercial production of the newly invented automobile hastened this process. The industrialization of the U.S. naturally translated into the strength of the U.S. dollar. The “gunboat diplomacy” of the late 19th century transformed into “dollar diplomacy” in the early 20th century. Dollars replaced bullets as the means of warfare.

The dollar’s influence got a further boost after World War II. The two world wars had economically exhausted the European countries, while the United States was spared the destruction. The 1944 Bretton Woods agreement solidified the dollar as the preeminent world reserve currency, replacing the British pound. Each dollar was backed by 1/35th an ounce of gold. However, the prolonged Vietnam war, the Great Society program of President Johnson, and the Cold war were emptying the U.S. coffers of gold. To save the country’s gold, President Nixon removed the gold backing of the U.S. dollar in 1971. This was a setback to the dollar. However, U.S. authorities were quick to react and struck an agreement with OPEC to price oil in U.S. dollars exclusively for all worldwide transactions. In return, the U.S. promised to protect the various oil-rich kingdoms in the Persian Gulf against threat of invasion or domestic coup. In essence, the dollar was now backed by oil instead of gold. The dollars earned by the oil exporting countries were named Petrodollars. This arrangement gave the dollar a fresh breath of life and resulted in tremendous financial benefits for the United States. Oil is the world’s life blood. Demand for oil translates into demand for dollars. Being the issuer of the world’s reserve currency has since put the U.S. in a position of tremendous economic and political strength.

The late 20th century saw the rise of “globalization.” From an economic standpoint, globalization refers to the emergence of a single “world market.” However, in this global marketplace, the U.S. has enjoyed a special status because it issues the only instrument of transaction, i.e. the U.S. dollar. While the rest of the world produced goods and services, the U.S. had the privilege of consuming them by merely printing more dollars.

Where we stand today?
In the short run, the issuer of a fiat reserve currency can accrue great economic benefits. As long as foreign countries take U.S. dollars in return for real goods, the U.S. comes out ahead. But following this policy for too long has lead to a loss of U.S. manufacturing jobs to overseas markets. Hence, the U.S. has now become more dependent on others and less self-sufficient. It is an unbelievable benefit to import valuable goods and export depreciating dollars. The exporting countries have become addicted to U.S. consumption for their economic growth. This dependency makes them allies in continuing the fraud, and their participation keeps the dollar’s value artificially high. If this system were workable long term, American citizens would never have to work again. They too could enjoy “bread and circuses” just as the Romans did, but the Roman gold finally ran out and the inability of Rome to continue to plunder conquered nations brought an end to the empire.

What lies ahead?
One of the most significant effects of globalization in the U.S. was the rise of the consumerist culture. This scary culture is catching up in other parts of the world. However, this is unsustainable. For instance, the U.S. consumes 25% of the world’s oil while it houses only 5% of the world’s population. If the appetite for resources of the rest of the world were to match that of the U.S., Mother Nature would not have enough to offer. Clearly, there would be a gap between supply and demand, leading to price inflation. With the rise in consumption of the developing world, we are already seeing the preliminary effects. Prices of commodities, especially food and energy, have skyrocketed in the past few years.

Moreover, as the U.S. dollar loses value, the goods in the international market become more expensive for U.S. citizens. The enviable strength of the U.S. dollar has allowed U.S. citizens to live beyond their means for the past 30 years. With its value eroding, they will now have to adapt to live beneath their means. They need to revive their savings and retire their debt. In essence, the process of globalization is reversing. Earlier it was very cheap to design a computer in the U.S., get the parts from Korea, assemble them in China, ship them to Long Beach, CA, and then transport them by road to rest of America. With rising fuel costs and depreciating dollars, foreign goods and services have become more expensive. To enjoy these goods in the future, American citizens would have no option, other than to go back to their factories and farms and be willing to work for wages that are competitive in the world market.

Rise of Asia
Economics teaches us that for every credit there is an equivalent amount of debit. During the past 40 years, while the U.S. has run up huge deficits, the developing world has accumulated huge savings. The developing world has also built a strong manufacturing base in the process. Today acronyms such as BRIC (Brazil, Russia, India, China), which refer to the emerging markets, have become common. The rise of Asia as the next economic superpower is gaining acceptance each day. However, not everything is rosy on the side of the developing markets either. The majority of the population continues to live under the poverty level and has been negatively affected by the economic boom of the West. While the cash-strapped U.S. consumer consumes less each day, the emerging economies are now tapping their local markets. The grand experiment of globalization was unsustainable and was bound to fail. As this process reverses, the largest consumer base lies at the Bottom of the Pyramid (BOP). This population is the largest (4 billion) but also the poorest (lives on less than $2 per day). It was left behind in the process of globalization. Several journals and books have written on how this market can be tapped. These include The Fortune at the Bottom of the Pyramid - Eradicating Poverty through Profits by C.K. Prahalad of the University of Michigan and Capitalism at the Crossroads - Aligning business, Earth and Humanity by Stuart Hart of Cornell University and Al Gore. The Nobel Peace Prize of 2006 was awarded to Mohammed Yunus, for his successful implementation of microcredit—extending small loans to entrepreneurs who are not considered bankable. There are several other successful initiatives which the readers are encouraged to explore.

Conclusion
From 1970 to today, the population of the world has more than doubled from 3 billion to 6.5 billion. In 1970, China and India had no global footprint, today they house 40% of the world’s population and are growing their economies by 10% each year. The world is adding 250,000 new people each day. Each of these people would have to learn from the mistakes of the past and develop a sustainable society. Plundering the world’s resources in consumerist frenzy is not sustainable anymore. Nation building begins with sacrifice. Sacrifice in economic terms means saving for future consumption. The coming years will teach us exactly that, the hard way.

Shobhit Mathur is a software engineer at Amazon.com, Seattle. He can be reached at shobhit.mathur@gmail.com. Shobhit keenly follows economics and geo-politics. He maintains a blog of interesting articles at http://shobhitmathur.wordpress.com.

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This entry was posted on Monday, September 1st, 2008 at 9:58 am and is filed under Current Events, Editorials/Reflections. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.

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