The Dollar As An International Reserve Currency

 (Originally posted: 4/16/95)

While I do not profess to be a major economic policy wonk, I do understand the basics of macroeconomics and the fact that, throughout the history of man, there has always been a reserve currency of some type.  The English were the last with the pound Sterling.  However, the United States has taken that position over; it is now the reserve currency.  But what is a reserve currency?  Put simply, it is the currency used worldwide to keep and invest capital.  Put another way, because it is the most circulated form of exchange it has been designated as the currency people want to see the most when they do business.

This designation is not done by a country or by a committee meeting of the United Nations.  No.  Instead, it is done by the forces of the market; it is done by the capitalists in countries throughout the world who want to make a profit.  Yet this designation is based on the views taken by a predominance of these capitalists of the United States Economy and the faith and credits that back the tender, that is, the actions taken by the Federal Reserve and the Treasury Department.

Some time ago, the Dollar was devalued to the point where it was less than 100 yen.  While former Secretary of the Treasury Lloyd Bensen thought this was a good idea because it would minimize the trade deficit with the Japanese, he failed to understand the key point of such a move: as the Dollar is devalued, there is less incentive to use Dollar abroad as the global currency.  Of more import is that fact that such a reduction in the value causes the societies based on Dollar Capital to become unstable.  No longer are they able to meet their payments on loans to United States banks, nor are their companies able to meet costs on goods and services purchased.

Thus, the United States and its government entities, specifically the Fed and Treasury, have a responsibility to maintain a strong Dollar against other currencies.  To do this, the United States Economy must be dynamic.  This dynamism comes from four tensions:

  • reduction of a tax burden on everyone, not just so-called middle class, (17 to 20 % across the board),
  • low interest rates (3%),
  • low inflation (2 to 3%),
  • foster an interest in investing in companies directly, rather then in banks.

While these may appear to be strictly the wishes of a conservative, the fact is that such tensions are attainable, even without the influences of government.  The only two that requires governmental intervention is the reduction of the tax scale to a flat tax format and the lowering and maintenance of interest rates.

Certainly, the flat tax will immediately be termed regressive in that everyone must pay the same percentage, but let us consider something.  Currently, our tax code, in essence, punishes those who strive to better themselves in terms of salary.  Yet what we fail to realize is that getting a larger salary requires individuals to gain a stronger intellect and greater skills, both of which cost money.  In essence, by using a so-called “progressive” tax, we are taxing those who take the initiative to learn more and to develop more skills.  Does this make sense?  Under a flat tax, regardless of a person’s profession or intellectual ability, if they make a certain amount, a certain amount if taken.  What we fail to understand is that this amount taken is a percentage.  Therefore, if a flat tax of 20% were put in place, a person making $200,000 would be required to pay $4,000.00 while a person making $20,000 would pay $400.00.  This is equality.

Consideration of the interest rates is something else entirely.  At present, the Fed controls interest rates.  Their current policy stance is one of controlling inflation through raising interest rates that will, in turn, reduce the perceived appetite of borrowers.  While this is understandable in an economy that does not have full employment, such a policy ignores the fact that borrowing of such a nature is pushing the economy toward full employment as many of the loans are for big-ticket items such as cars and homes.  What we must understand is that citizens of the United States must be able to feel secure in purchasing such large items without the Spector of Debt.  That Spector only becomes apparent to people when then look at the amount of money they must pay in addition to the cost of the item.  Therefore, it would make sense for the Fed to reduce interest rates to the point where they are nominal.

Going beyond that, we must understand how low inflation not only comes about, but how it can be maintained. In the short term, inflation is inevitable.  As more people purchase items, the costs of labor go up.  As the costs of labor go up, so will the prices.  But, we must remember that the purchases people make show up as demand.  As demand goes up, producers will try to meet demand.  To meet demand, they must hire more people.  As more people are hired, more products are made.  This addition to the supply will try to meet the demand.  As demand is met, the inflation of the costs for that product, and even that sector of the economy, is eased.  At that point, sectoral inflation will lessen.  As that takes place across the spectrum of the economy, there will be a cumulative reduction.  Of course, this will take time.

Finally, we must look at the issue of investing. Investment in banks is good in that it is secure and a return on the investment is assured.  However, the problem is that once the money is in the bank, the bank, not the person, has the final say as to how the money is dispersed through loans.  This runs counter to the concept of the free-market.  Therefore, we must reconsider this option and view it as unprofitable for the individual investor.  Rather, we should move toward investment strategies that maximize the profits for investors who offer their funds to businesses directly.  Obviously now, I am not talking about an average person offering $50.00 to IBM for use in their research and development labs.  Instead, I am considering the average person putting up venture capital and becoming a silent partner in a small business that has just begun.  I am also considering the outlay of funds for shares of stock in the larger corporations within America.  It is in this way that the economy of America moves away from a reliance on government funding and toward private investment.

But how does this outlook fit together to strengthen the Dollar abroad and within the currency markets?  First, by reducing taxes to a flat tax and reducing interest rates to a low level, we will define for the outside world the level of government intervention we desire within our society.  How?  With the flat tax, we show that we understand that government of some type is necessary, but that it should only control a portion of our lives and we are willing to pay for that control.  With the interest rates, we are developing an understanding that our attention is focused on personal investment, not savings.  Coupled with this reduction in interest rates is the implicit understanding that, since the money is not earning a significant amount in the banks, then it should be invested in other ways as noted above.  At the same time, we will be addressing inflation, something that concerns many of those in foreign countries.  When we show ourselves to be able to corral and hold inflation to modest amounts, we show that it can be done and that the currency of the United States is strong.

These three actions would define for the rest of the world where we as Americans want to go and how we want our country to continue to develop; we have once more taken control of out destinies, rather then annexing such responsibilities to banks and bureaucrats.  This type of dynamism should be the impetus for inspiring a confidence in the Dollar.

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About VigilantKnight

Living life on my terms.
This entry was posted in Finance, Reserve Currency, Taxes. Bookmark the permalink.

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