The Road To Recession
The American economy, fueled by the mortgage market, has soared over the last few years. What remains to be seen is whether there is a crash, as myself and others are predicting, or a “soft landing”, as many economists predict. Of course, The Economist magazine explains just what those predictions are usually worth:
IN 1929, days after the stockmarket crash, the Harvard Economic Society reassured its subscribers: “A severe depression is outside the range of probability”. In a survey in March 2001, 95% of American economists said there would not be a recession, even though one had already started. Today, most economists do not forecast a recession in America, but the profession’s pitiful forecasting record offers little comfort. Our latest assessment (see article) suggests that the United States may well be heading for recession.
So are we on the road to recession*? A lot of that depends on inflation (see the postscript at the end of this article), which means a lot of it depends on the dollar. I have contended that a lot of our inflation is being hidden by other countries hoarding dollars as a reserve currency, which acts as a sinkhole where those dollars are removed from the general economy. It’s possible, though, that this may be changing:
The enfeebled dollar—lately in sight of $1.50 to the euro—would be weaker still without enormous purchases by central banks in emerging economies. This support is now waning. China and others are putting a smaller share of increases in reserves into the American currency. And Asian and Middle Eastern countries with currencies linked to the dollar are facing rising inflation, but falling American interest rates make it harder to tighten their own monetary policy. They may have to let their currencies rise against the sickly greenback, meaning they will need to buy fewer dollars. More important, as international investors wake up to the relative weakening of America’s economic power, they will surely question why they hold the bulk of their wealth in dollars. The dollar’s decline already amounts to the biggest default in history, having wiped far more off the value of foreigners’ assets than any emerging market has ever done.
The vigour of emerging economies is good news for the world economy: for its growth, it has much less need of a strong America. The bad news for America is that this, in turn, may mean that the world also has less need of the dollar.
Good news for the world… From the emphasized portion of the excerpt above, our inflationary policies continually devalue the reserves of dollars that other nations hold. If they can find a reserve with more stable value than the dollar, they might escape from dollar hegemony. But that’s bad news for America, as we may have to earn our imports, instead of sending newly-printed bills overseas to obtain them.
* “Recession” is defined as two consecutive quarters of contracting GDP. GDP growth is estimated in relation to inflation, so higher inflation indicates lower GDP growth. Many analysts (such as John Williams of Shadowstats.com) believe that the government systematically underreports inflation. Thus, by those estimates, we’ve been in a state of negative GDP growth since about mid-2004, and thus in a protracted recession.