March 2, 2008
In the 12th and 13th centuries, Venice was the centre of the trading world. Crusaders on their way to and from the Holy Land came through the great city, as did merchants of all sorts.
The streets were awash with coins from all over the world, of gold, silver and bronze. Thus the money changers of St Mark’s Square were pivotal characters in the commerce of the city – and, indeed, the globe. Every day, the money changers sat at their benches (called banca), coins piled high in front of them, shouting varying exchange rates as currency ebbed and flowed. If a Crusader ship docked, laden with coins from the Levant, the value of the Levantine coins would fall in response to the huge new supply, and vice versa.
When a money changer went broke, it was customary to smash his bench. The resulting broken bench or (banca rotta) was borrowed by Norman merchants on their way home from the Crusades to Ireland and England, giving us the word bankrupt.
Looking at the dollar as it plunges to record lows against the euro, the image of the Venetian money changers and their smashed benches comes to mind – not because America is anywhere near bankrupt, but because the dollar has always been a leading indicator of what is going on in the economy.
This weekend, much will have been written about the plunge of the greenback. A considerable amount of analysis will focus on Ben Bernanke’s speech last Wednesday, which hinted at bank failures in the US, an ongoing problem in the housing market and the Fed’s undertaking to cut rates at all costs. That was enough – on its own – to send the dollar packing.
There is more than enough bad news in the US at the moment to send the dollar southwards – take any indicator and you can read recession into it.
For conspiracy theorists, there is another reason which is tied to the electoral cycle. Followers of the relationship between the Fed and the White House will be mindful of the fact that George Bush Senior blamed Alan Greenspan for not cutting rates quickly enough in 1992 and thus handing the recession issue to Bill Clinton, who subsequently won the election on the economy. Bernanke might not want the same legacy with the Republican Party in the future.
Those with an attention span slightly longer than a foreign exchange trader will point to the simple fact that the Americans have not been saving. They have been using their houses as large ATMs, withdrawing equity and spending it to ‘‘keep up with the Joneses’’. Years of this carry-on has pushed the US trade deficit and current account deficit into delinquent territory.
This analysis suggests that the US has to stop spending, risk a recession and come out the far side with more savings. The reason savings are essential is that the gap between what it saves and what it invests has to be bridged by foreign borrowing – which is the current account deficit. The US does not want to countenance a fall in investment because investment is what keeps productivity high and keeps companies like Apple, Microsoft, Pixar and Goldman Sachs pre-eminent. So the choice America faces is to keep interest rates high to attract surplus foreign cash or allow its currency to fall so that American assets become so cheap that foreigners invest in the US because it is such good value.
Either way, America is for sale – to the lowest bidder! Whatever the proximate reason for the dollar’s fall last week, if we go back to our money changers in Venice with their broken benches, we see that something much more fundamental and long term is going on. Think about the expression ‘‘as good as gold’’. This comes from the idea that gold was always good and nothing could take the shine off this most exotic of metals.
Gold was an incorruptible store of wealth. Over the years, gold was corrupted and tampered with, leading to a fall in the value of certain currencies. The money changers were declared ‘‘banca rotta’’ or bankrupt if they constantly made the mistake of holding a currency that was falling in value and the major reason – then and now – for a currency falling in value, was that there was too much of it minted, or it was being constantly debased. In those days, gold coins were debased by kings who wanted to raise more money for wars, so they added baser metals to the coins in order to mint more of them. However, you can’t fool all the people all the time, and inevitably these debasers were exposed.
If we fast forward to our modern age, we see that the US, in particular, has been debasing its currency for years. Over the past century, the world has gone through periods of tying currencies to gold. Eventually, in 1968, the United States – facing mounting costs from the widening war in Vietnam – permanently took the dollar off the gold standard. Up till then, the amount of dollars in circulation had to be matched by the amount of gold in the Federal Reserve’s faults. If the US printed more dollars, the dollar/gold rate would fall. Since then, all governments have followed suit.
In the past four decades, we have seen the Fed increase the amount of money in circulation at a rate of between 5 and 10 per cent per year, while pretending that this is not happening. The US also persuaded other central banks that, instead of linking their ability to print money to gold, they should link it to US treasury bills. The world fell for this. So we have a situation where the US prints money to pay for its day-to-day spending and then borrows the cash from the rest of the world, issuing IOUs in this increasingly worthless currency as collateral for the loans. You’ve got to admire such chutzpah!
Not surprisingly, the dollar has been on a downward path for a few decades. Yes, there have been years when it bucks the trend, but ultimately the purchasing power of the average American Joe Soap has been embezzled relentlessly.
So far, there has been precious little questioning of this long-term debasement of the world’s biggest currency. Maybe the reason for this is that it is the right thing to do. If the rest of the world is stupid enough to give the US a free lunch, then why shouldn’t the Americans take it? If I were an American, I would certainly be content with that.
All the while, a US government, in denial, can adopt St Augustine’s line of ‘‘give me chastity and continency, but not yet’’. This was probably an expression the Venetian money changers were familiar with because, in their time, St Thomas Aquinas – a fan of St Augustine – preached about virtue and the next life, while they tried to turn a few quid and avoid bankruptcy in this one.