A US way out?

On 23 April 2009, in its Editorial, “Polish economics”, Washington Times praises the Poland’s way out of the current crisis through cutting public spending and, if possible, cutting taxes. It contrasts it with the US approach of ever-more spending.

Washington Times compares the US model to Franklin D Roosvelt’s New Deal. However the current financial crisis does not resemble the 1930’s depression in its root cause. The current crisis is a result of a giant global financial pyramid collapse that left a quadrillions of dollars liquidity hole. Therefore President Obama’s actions may not be modelled on the New Deal, but on some other premise…

Considering the current US debt and its rate of increase, the US borrow and spend solution reminds an insolvent person who keeps on borrowing money, as long as there is anybody “silly” enough prepared to lend him. He knows that at the end of this process he will not pay anything back but simply declare bankruptcy, write off the entire debt and start its financial life anew.

The US, as the country, is economically and militarily powerful enough to declare that it no longer honours its debt and its currency. Effectively the dollar could be written off as a currency. As around two thirds of world reserves are held in dollar they will be written off. The US will have no debt. Along this action, the US will introduce a “new dollar”. Any internal US old dollar liability will be converted into it, possibly with even 1:1 ratio. This will give seamless continuity to the US internal market. Any international debt will be negotiable. Some nations on which the US depends (like critical suppliers of commodities, e.g. crude oil) may get a favourable treatment. Other nations on which the US does not depend and especially those that may be perceived as prospective threat, rival or with conflicting interests may just get nothing. As a result they will be weakened.

Such actions will mark a completely fresh start for the US. Like a company coming out of Chapter 11 with a great deal negotiated (in this case imposed by the US itself). The entire pyramid collapse will become history in the US. The next year's budget will be hugely relieved from massive debt repayments. The Obama’s administration will be awash with cash to spend on any programme, including green energy, social programmes.

In a "true" spirit of globalisation, the US will unload the costs of coming out of this crisis onto the rest of the world. Only will the US decide which other country will be compensated with “new dollar”, at what rate and on what terms.

Sounds like an economic and political fiction? Indeed it looks unbelievable. But any financial risk analyst must see this as a realistic scenario. The history books are peppered with even more drastic actions, like Opium Wars in the 19th century. If the history of the collapse of Lehman Brothers (in particular $8 billion transfer to the US from the UK that proceeded it) is anything to go by such US actions cannot really take anyone by surprise. The more the US borrows the higher the chance. On the risk-benefit balance, whilst the adverse risk will stay more-less constant, the benefit element to the US keeps increasing with every dollar currently borrowed by the US on the international markets. Not forgetting that there is also a long standing tradition in the US business culture of going bankrupt, this option must look more and more tempting to the President Obama's administration.

It is rather unlikely that Chinese leaders do not realise this. They were on the receiving end of Opium Wars. After starting the Iraq War in 2003, no US unilateral action can be excluded. No wonder China looks somewhat nervous. It has been calling for a new reserve currency and is unloading its dollar reserves on other countries by a way of acquiring natural reserves assets, commodities, buying gold, etc.

Therefore, after all, giving Poland as an example to the US may not be such a clever idea, as some options that are available to the latter are not available to the former. "Desperate times call for desperate measures".