Why the US Can Keep Increasing its Debt and not Suffer Inflation (Part 2)

By Stansfield Smith – Sep 15, 2020

The US Still Dominates the World Economy

The US ruling class has dominated the planet since the end of World War II. Key elements of this control include its military superiority in nuclear and conventional weapons, and the stationing of over 900 military bases around the world. In addition, the US presides over the United Nations, the International Monetary Fund (IMF) and the World Bank. It upholds the US dollar as the global currency, and it controls much of the world’s resources, particularly oil.

These factors provide the background to why the US can print, or create, billions and trillions of dollars, running up its national debt, now $25 trillion, yet endure little inflation. The reason for this capacity is only tangentially explained by Modern Monetary Theory. It results from the US position as the imperial superpower, which enables it to export inflation.

Back in 1948 George Kennan wrote, “we have about 50% of the world’s wealth but only 6.3% of its population. This disparity is particularly great as between ourselves and the peoples of Asia. In this situation, we cannot fail to be the object of envy and resentment. Our real task in the coming period is to devise a pattern of relationships which will permit us to maintain this position of disparity without positive detriment to our national security. To do so, we will have to dispense with all sentimentality and day-dreaming; and our attention will have to be concentrated everywhere on our immediate national objectives. We need not deceive ourselves that we can afford today the luxury of altruism and world-benefaction.”

In spite of losing its status as the workshop of the world, the US still enforces this “pattern of relationships” throughout the world. The role of the dollar provides an essential tool. As pointed out in Modern Monetary Theory (MMT) and the Power of the US Dollar in the World Economy, the dollar is the international reserve currency. Between 50-70% of trade transactions between nations are calculated in dollar terms even though the US accounts for only 11.5% of world trade. Most goods, particularly key ones such as oil and food staples are priced in dollars on the world market. It is the chief currency countries use for their central bank reserves, constituting 61% of the holdings. Of the international debt of the nations of the world, 63% of it must be paid in dollars. Close to all foreign exchange trading 88%, involves some currency’s exchange with just one, the dollar. About 70% of nations either directly peg their currency to the dollar, use the dollar as their own currency, or keep their currency in tight trading range relative to the dollar. Contrary to widely held belief, the US grip on the world economy has more adapted than weakened.

Since foreign countries price their imports and exports in dollars and have debts in dollars, they are dependent on the dollar and the value of the dollar. They remain vulnerable to rises in the exchange value of the dollar, as that interferes with their trade and causes the value of their debt burden to grow.

The trillions of US dollars that nations hold make these dollars a captive market for US Treasury bonds. As of April 2020, over 30% of US debt is owed to foreign governments. This percent has slowly trended upwards over time. Since essential commodities are priced in dollars, countries have to accumulate the currency to pay for their imports. The New York Times reported in 2019, “The dollar has in recent years amassed greater stature as the favored repository for global savings, the paramount refuge in times of crisis and the key form of exchange for commodities like oil.” This allows the US to run giant deficits and borrow on a vast scale with little constraint.

Why the Dollar is the World Currency

The supreme imperial power, the US, imposed the 1944 Bretton Woods agreement on the world, elevating the dollar as the world reserve currency. The US made other states peg their own currencies to the dollar, itself pegged to gold at $35 an ounce. At that time, the US held three-fourths of world gold reserves. The US was the only nation that could print the globally accepted currency. The agreement also created the World Bank and IMF, US-backed organizations that helped oversee the new imperial set-up.

Unsurprisingly, the US did not keep its promise to peg $35 to one ounce of gold, and instead printed more dollars than it had gold to back. The US used these dollars to fund social programs and war spending during the 1950s and 1960s. By 1971, gold was valued at a rate closer to $200 an ounce, causing Nixon to take the dollar off the gold standard.

Ironically, since then, the global role of the dollar has only increased. US has used its power – diplomacy, threats, blackmail, favorable deals, sanctions, tariffs, coups, and military invasion to enforce the dollar role as the international currency.

The Role of the Petrodollar

After Nixon ended the convertibility of dollars into gold, the US needed a compelling new reason for foreign banks and governments to hold dollars. Given the importance of oil to any economy, Nixon replaced “dollars for gold” with “dollars for oil,” black gold, through the petrodollar system. An oil-exporting nation’s rulers get military backing from the US, and in return must price their oil not in their own money, but exclusively in dollars. They must buy US Treasury bonds with profits of their oil sales.

In 1971 the US told Saudi Arabia that it could charge what it wanted for its oil but had to recycle dollars from oil earnings back to the US. It would be considered an act of war if they didn’t comply. The remaining OPEC countries soon followed suit.

Russia began switching to selling their oil in euros only last year. Venezuela and Iran have already moved off the dollar, but now the US uses cruel sanctions to block their oil’s access to the market. Qaddafi’s Libya and Saddam’s Iraq met a worse fate when they moved to stop selling their oil for dollars.

The US Market Remains the World’s Main Export Market

The US remains the biggest consumer market in the world, more than a quarter of world household consumption, amounting to $14 trillion in goods and services in 2018 (the equivalent of the European Union and China combined). Much of the Third World counts on the US market to drive their economic growth. These countries rely on cheap exports in order to keep their economy moving, so they cannot let their own currency rise in value relative to the dollar.

How the US Uses the Dollar’s Role as International Currency to Export Inflation

When the Fed opens up its spigot of US dollars, over $10 trillion in the last 10 years, the US can engage in a global spending spree. Dollars travel abroad as foreign loans and investments, and to pay for more imported goods. Since world trade is largely conducted in US currency, the US can easily export the new dollars not backed by any increase in domestic production. This lowers the value of every dollar held around the world. It leads to rising prices abroad while bringing a net inflow of goods to the US benefiting the US consumer, but at the long-term expense of the countries exporting to the US.

When the dollar drops in real purchasing power, the nominal dollar price of commodities on the world market would go up, hurting vulnerable import dependent poor countries. The value of foreign currencies rises relative to the declining value of the dollar. The exports of Third World nations, generally valued in US currency, become more expensive, reducing their ability to sell their exports. A 2018 Harvard report points out the weight of the dollar in international trade: “A 1% U.S. dollar appreciation against all other currencies in the world predicts a 0.6% decline within a year in the volume of total trade between countries in the rest of the world.”

Countries on the receiving end of this Fed money-creating policy have two options. They can let the value of their currency rise relative to the new dollars entering their economy. However, a rising value of their own currency hurts their export industries, on which many Third World countries survive. The alternative involves their central banks printing more of their own currency to buy up the new dollars circulating in their economies. US dollars created out of thin air end up in foreign central banks after these countries print more local currency to buy them up. This pushes up their rate of inflation and increases the local cost of imports, particularly hurting the people’s standard of living in nations that import food stables and other basic necessities.

When countries must print more of their currency, this lowers the dollar price of their goods exported to the US. This helps to limit price increases in the US caused by the Fed creating dollars. Thus, when the Fed conjures up dollars on a large scale, other countries are subject to rising prices, yet help to curtail it in the US market.

China loosely pegs the RMB to the dollar and is now the second largest foreign holder of US debt. This serves to keep its currency cheap relative to the dollar and the prices of its exports competitive. China uses the dollars from its trade surplus to the US to purchase US Treasury bonds. This way, China has been rapidly developing and exporting by helping strengthen the dollar and lower the RMB’s value.

Secondary imperial powers like Canada or Japan, major exporters to the US, have more of an option of letting the dollar fall and allowing their own currencies to rise. This controls domestic prices, although it hurts exports, and would slow their economic growth. However, since they are already developed countries, they are more able to cope. Third World countries, relying on cheap exports to the massive US consumer market, cannot long tolerate such a hit. It would cause severe social and political difficulties, so they often must devalue their own currencies to stay competitive.

In sum, the US, the imperial superpower, has its hands on Aladdin’s lamp, and can rub it to create hundreds of billions, now trillions of dollars. The US gains by importing at reduced real cost, benefiting the US consumer, and in return sends its inflation abroad. In 2011, the Wall Street Journal noted this in The Latest American Export: Inflation. “What do the years 1971, 2003 and 2010 have in common? In each year, low U.S. interest rates and the expectation of dollar depreciation led to massive ‘hot’ money outflows from the U.S. and world-wide inflation. And in all three cases, foreign central banks intervened heavily to buy dollars to prevent their currencies from appreciating.” As the Head Economist of Commercial Banking of JPMorgan Chase wrote in 2019, “When foreign central banks stockpiled dollars, they effectively pushed up the purchasing power of American consumers.”

US Economic Control over Third World Economies

Third World countries generally do not possess the requisites of sovereignty: basic food self-sufficiency, energy independence or technological and industrial development. They must import these goods, not with their own currency, but with “hard currency,” a code word for the currency of imperialist countries. Nor can they borrow in their own currencies on the similarly misnamed “international” market and have to rely on “international” capital for their development projects. Consequently, they are reduced to borrowing “hard currency,” usually dollars, and must earn dollars to pay back these debts. They become stuck in a debt trap, subjugated to the US and the lesser imperial countries. The imperialist system is constructed to protect this neo-colonial operation.

The role of World Bank and IMF in enforcing Third World subservience to the US illustrate this.

Michael Hudson, who calls himself a MMT economist, pointed out: “The World Bank has one primary aim, and that’s to make other countries dependent on American agriculture. Its idea is to make Third World countries export plantation crops, especially plantations that are US or foreign owned.” The World Bank encourages exports of foods not grown in the US, and have them import US staples, such as grains. “The US demands foreign dependency on its grain, technology and finance. The purpose of the World Bank is to make other countries’ economies distorted and warped to a degree that they are dependent on the United States for their trade patterns.” “Essentially, the Bank financed long- investments in the foreign trade sector, in a way that was a natural continuation of European colonialism.”

“The IMF was in charge of short-term foreign currency loans.…The function of the IMF and World Bank was essentially to make other countries borrow in dollars, not in their own currencies, and to make sure that if they could not pay their dollar-denominated debts, they had to impose austerity on the domestic economy – while subsidizing their import and export sectors and protecting foreign investors, creditors and client oligarchies from loss.”

The IMF “uses debt leverage as a way to control the monetary lifeline of financially defeated debtor countries. So if they do something that U.S. diplomats don’t approve of, it can pull the plug financially, encouraging a run on their currency if they act independently of the United States instead of falling in line. This control by the U.S. financial system and its diplomacy has been built into the world system by the IMF and the World Bank…”

Nations relying on staple food imports, such as US grain, are hurt when the US conjures up new quantities of dollars. When these lands must follow suit, working class purchasing power drops. Workers produce more for less, while those holding dollars receive more for less money.

Forbes pointed out in Fed Exports Inflation, Stokes Revolutions, in reference to what was called the Arab Spring, “The unrest in the Middle East has a lot to do with food and commodity prices, and Fed QE policies [printing trillions of dollars] may have a lot to do with those prices.” Most of these Middle Eastern states had become increasingly reliant on imports for food supply over the past half century. Rami Zurayk noted the high prices for basic food staples like grain led to social unrest across many Middle Eastern states in 2010-2011. “’Bread riots’ have been occurring regularly since the mid-1980s, following policies brought to us by the World Bank and the International Monetary Fund.”

Third World countries are driven to subsidize their export industries to gain the dollars or euros they need for their imports and for their international debts. This sabotages their economic modernization and national independence. Even an oil-producing state like Venezuela never had energy sovereignty, as it produces crude oil, but lacks the technological capacity to refine it, so depended on imports. Third World countries generally export raw materials and cheap low value-added content, and import high value-added content, advanced technology and capital goods. They constantly lose in the transaction. The system keeps them mired in a debt and dependency trap where they must prioritize export industries. MMT economist Fadhel Kaboub says over the last few decades, this has resulted in outflows of $600 billion every year from the Third World to the First.

The US Exports Inflation and in return the World Pays for the US Debt

When foreign central banks collect new dollars by printing their own money these dollars are not just used to pay off foreign debts. Countries are pressured into loaning their dollar savings to the US, buying Treasury bonds. The US debt continues to this day as the safest haven for countries to store their foreign exchange reserves, especially at times of international economic and political stress. In practice, this means they are driven to make loans to the US so that the US can keep buying their goods. The US government can run up debt by conjuring dollars out of thin air, to be spent on cheapened imports that prop up US consumer society. The foreign central banks recycle dollars back to the US Treasury to maintain their own currencies’ exchange rate with the dollar. This set-up keeps other nations lending the new dollars they gained back to help pay for the ballooning US debt. As Treasury bonds, these dollars are taken out of circulation, so create little inflation at home, although they previously did when the US circulated them overseas.

Through this scheme, foreign countries hold savings as dollar reserves and loans to the US, loans now beyond the ability of the US to repay. The US supports itself by sending paper IOUs abroad to buy other countries’ goods with these unpayable IOUs. Meanwhile, the US keeps its gold reserves intact and prices stable. Already half a century ago, European finance ministers had complained about this export of US inflation, to which Nixon’s Treasury Secretary John Connally responded the “dollar is our currency, but your problem.”

Michael Hudson explains in simple terms the dollar’s role as the international currency: “Let’s suppose that you go to the grocery store and you buy food and then sign an IOU for everything that you buy. You go to a liquor store, IOU. You buy a car, IOU. You get everything you want just for an IOU. But when people try to collect the IOUs, you say, ‘That IOU isn’t for collecting from me. Trade it among yourselves. Think of it as your savings, and trade it among yourselves. Treat it as an asset, just as you treat a dollar bill saved in a cookie jar and not spent.’ Well you’d get a free ride. You’d be allowed to go and write IOUs for everything, and nobody could ever collect. That’s what the United States position is, and that’s what it wants to keep.”

Hudson adds, again simplifying it, “That’s what makes the United States the ‘exceptional country.’ The value of our currency is based on other countries’ savings. The money they save has to be held in the form of dollars or securities that we’re never going to repay, even if we could.” The US has established an international system requiring other countries to use the dollar, obliging them to stockpile them in the trillions, and coercing them to make loans to finance a US debt that will never be paid.

The US, protecting the dollar as the world’s reserve currency, is not subject to the same rules other countries are: it can spend more than it produces, maintaining its consumerist lifestyle, by simply printing more dollars. It can use this extra money to gain control of goods and resources, giving them inflation and debt in exchange. Since these exported dollars often return home through now uncollectible loans as Treasury Bonds, they do not remain within the US economy to cause rising prices.

This scheme the preserves what George Kennan delicately labelled the “pattern of relationships” that upholds the “disparity” of the imperial economic system. To enforce this scam, the US has built military bases in throughout the world – much of this dollar cost returned to the US through the same operation – ready to act against nations seeking to get off the dollar standard.

Featured image: Photo courtesy og gristoon.com

SS/OT

Stansfield Smith

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Stansfield Smith is a Chicago based anti-imperialist activist. He was active for over a decade in the Chicago Committee to Free the Cuban 5. His work is now on ChicagoALBASolidarity.wordpress.com. He has written on Venezuela, Bolivia and Ecuador for the Council on Hemispheric Affairs and on North Korea for Counterpunch and others.