Of course, there are always the whiners, who will make a big issue of losing both legs, an arm, or their families, a small enough price for being liberated. Hell, who was that real famous guy that said liberty don’t come cheap? And of course there was all the fuss about a few old pots pinched or smashed at that Baghdad museum – guys who don’t realize that it’s the new, the ultramodern that counts, stuff that can flatten a city with smart bombs directed from a ship hundreds of miles away, not old crockery. Just like those envious stick-in-the-muds of old Europe, France and Germany, who unlike the new Europe like Rumania and Bulgaria, don’t know that a new age has dawned. And the smartie-pants commentators in New York who say that in spite of all that military glory that we don’t have to share with the French, Germans, Russians and the Canucks, we still may have to let them in for their cuts of the reconstruction contracts. Otherwise they might refuse to share the reconstruction costs.

There’s even buzz of their holding up getting the Iraq oil fields and the country in shape for marketing, if we don’t. Somebody’s always trying to stir up trouble. Like those geeks who go around saying if we hadn’t done quite so fantastic a job of smashing up the country in no time at all, it would cost a lot less to put it together again. And we may be stuck with going it almost alone with Tony and Micronesia. And don’t think it didn’t cost a lot to put our great coalition together – but we are old hands at that in Washington, come budget time.

And unless this is cleaned up soon, it could cost George W the next election just like the economy did his old man. But deep down his father’s buddies knew that Cheney and Rumsfeld are smarter than they are and will keep that White House until they finish their job on the planet.

One thing is clear. There are guys writing those smart-ass things in New York papers who should be embedded in something, if not the army, perhaps in concrete. What is all this unpatriotic stuff about the size of our debt to foreigners, and the talk of ungrateful Arabs pulling out of doing oil business in dollars, and shifting to the euro?

In a previous issue we carefully noted the references and in The New York Times of April 20th found the article "True Cost of Hegemony: Huge Debt" by Niall Ferguson. It almost covered the views that were coming out of remote places like India on the Internet some weeks before, that even the best US financial papers seemed to be avoiding. Perhaps until they could figure out the answers to the baffling questions raised.

"Can a global hyper-power also be a global hyper-debtor? Debates about the cost of occupying Iraq and reconstructing its burnt-out economy tend to duck this question. Having won the war on a shoestring ($79 billion is less than 1% of the annual output of the American economy), the administration apparently hoped that the reconstruction of Iraq will soon be paying for itself. A trifling $2.4 billion has been allocated to the postwar Office for Reconstruction and Humanitarian Assistance. Yet history strongly suggests that Iraq’s reconstruction will require a kick-start of substantial foreign capital, particularly to modernize the antiquated oil industry.

"Can the US provide the necessary cash, even in the form of private-sector money? The answer is yes – so long as foreign countries are willing to lend it to the US. For the fact is that America is not only the world’s biggest economy. It is also the world’s biggest borrower. Its muscular power is underwritten by foreign capital."

"In the prime of the European empires, the dominant power was supposed to be a creditor, not a debtor, investing large chunks of its own savings in the development of its colonies. Hegemony also meant ‘hegemoney.’ Britain, the world’s banker, before 1914, never had to worry about a run on the pound."

Whoa! The 19th century witnessed a series of crises during which Britain bled gold and – often surreptitiously – received temporary assistance from the continent. Take this random paragraph from the authoritative A Financial History of Western Europe of Charles P. Kindelberger (George Allen & Unwin, London, 1984, p. 281): "In 1825, when Britain was in trouble, the Bank of France swapped gold for silver. The Bank of England drew £800,000 in bills on Paris in 1836, and £2 million again in 1839, plus £900,000 more, partly against silver, on the Bank of Hamburg…. In the crisis of 1890 the BoE asked the Russian State Bank not to draw on its deposit with the Bank for the time being but, on the contrary, to lend it £800,000 in gold. It also drew £3 million in gold on the Bank of France – all this to meet the Baring crisis. In 1907 the Bank of France bought sterling bills with gold shipped to London, to help the BoE meet a drain from New York.

"These operations are discussed very little in banking literature, partly perhaps because they were felt to involve a loss of prestige on the part of the borrowing country, and for the system as a whole. Sensitivity of central banks and governments [was] also underlined by the BoE’s prickly negative reaction to the Prussian National Bank’s offer to help in 1873 by lending gold."

Karl Marx, supporting his family on the one pound note that Friedrich Engels sent him from Manchester each week, gloated over these great periodic financial panics. From them he forecast still direr things for capitalism. But these crises were episodic, and partly reflected the lack of an international facility to deal with them. The French, ever partial to a more planned capitalism, were actually suggesting an international lender of the last resort. An anticipation of the Bretton Woods institutions? Basically yes, but power – especially a surfeit of the dangerous stuff – has a way of converting the noble plans into apparatuses of enslavement – e.g., the IMF. The Americans during this period were defaulting first on some of their foreign loans to build canals, and then on even larger ones to build railways. A lot of the European capital lent for such purposes was never seen again. But that, too, is a chapter that American governments today are inclined to flit over.

But back to Niall Ferguson: "Today, as America overthrows ‘rogue regimes’ first in Afghanistan and now in Iraq, it is the world’s biggest debtor. This could make for a fragile Pax Americana if foreign investors decide to reduce their stakes in the American economy, possibly trading their dollars for the increasingly vigorous euro.

"Foreign investors now have claims on the US amounting to about $8 trillion of its financial assets. That’s the result of the ever-larger American balance-of-payments deficits – totaling nearly $3 trillion – since 1982.

"The Wall Street Journal recently asked: ‘Is the US Hooked on Foreign Capital?’ The answer is yes, and this applies to the government sector even more than the private sector. Foreign investors now hold about two-fifths of the federal debt in private hands – double the proportion 10 years ago.

"It is useful to contrast the present with the past, before WWII. American investors lent billions of dollars to foreign economies, particularly in Latin America and Central Europe. By 1938 the gross value of American assets abroad amounted to $11.5 billion. Having bankrolled both world wars, the US financed the peacetime reconstruction of the losers, as well. From 1960 to 1970, the US ran balance of payment surpluses totaling nearly $60 billion. Then things began to change, most noticeably in the Reagan years, through the ‘current account deficits’ – a measure of the net flow of goods and services between the US and the rest of the world.

"Some economists argue that this transformation from creditor to debtor is nothing to worry about. Capital flows into the US they say, simply because it is a great place to invest and foreigners simply want a piece of the action. That is the only way to explain why the US consistently receives higher investments abroad than it pays out to foreigners who have put their money into American assets."

Not quite. In important part it reflects the world role the US has enjoyed since WWII as the world’s reserve currency. Since the US and with it the world abandoned the gold standard even in theory – in 1971 – it has been on a pure credit standard with the US dollar the world’s ultimate base money. The central banks of other countries held more American than other currencies as reserves for their foreign transactions. That meant that the US could pay in paper or computer entries at near zero cost to it for its vast imports necessary to allow the rest of the world the means of paying for their imports and net financial transactions in US dollars. But there is a rub. The German philosopher Hegel explained the reciprocal nature of many relationships. Having your currency function as reserve money requires you and your credit being accepted by other countries for that status. That will involve many hard-nosed calculations, but also some feeling for other people’s sensitivities. Somebody should explain that to George W. Sin against that, handle your creditors too arrogantly, and your privileged position, already stressed, can vanish. Your creditors will not only foreclose on you, but take a fiendish joy in the opportunity for doing so.

But meanwhile the US must create and put into the hands of the world enough American dollars to provide an adequate amount of reserve currency.

Since Washington has in recent years wiped out in its public life an understanding of how money creation works, governments are hardly equipped to use it wisely on an international scale. That is the very nub of our monetary confusion.

Complications have arisen as well from two other world programs the US is involved in. One is what is known as Globalization and Deregulation which pressures all countries to remove all barriers to the movement of goods and speculative money across frontiers. It also advances the goal of zero inflation, even though the world has an urgent need for more public services – environmental, educational, arising from changing technologies and population explosions. Such services, however, are paid for largely by taxation that makes up an ever deeper layer of price. Ignore that and try to flatten price and you are ruling out the funding of vital public services. Tagging them "externalities" indeed hints of this dirty secret. Trying to enforce this flat-price world with the one blunt tool of "higher interest rates" involves a screeching conflict of interest, since interest is the revenue of a group that needs no encouragement to become parasitic. Mixing all these dubious ingredients into a single witch’s brew (the "Washington Consensus") and forcing it down the throats of the rest of the world disregards the sage observation of Hegel that has still to reach Texas. Someone should introduce George W. to Hegel.

The end result: deflation of the real economy, and compelling the Third, Second and First Worlds to cut their social programs and increase their exports to earn the foreign currency to service their growing debt. Such driven exports have reduced the price of staples like coffee far below their production costs. Internationally prices are no longer determined by the balance of supply and demand, but in the need of all debtors – except the US because of its reserve currency position – to service their debt. If they fail to, the IMF will be on their necks. In the developed countries it has brought on privatization of public services that had been entered on the government books at a token value. It has made possible the virtual give-away of public assets. And that added to the speculative money creation on the stock market. The collapse of that boom has contributed to the phenomenal rise of US indebtedness abroad. Dubious debt has become the cement that has held this world together. It is now financing its self-destruction.

Even under the gold standard in its palmiest days, money creation had aspects of make-believe. The base money in the coffers of banks was never enough to pay off all depositors should they choose to withdraw their deposits at the same time. It was, if you wish, very much like a game of musical chairs when all the players tried sitting down simultaneously. But if everybody listened to the music when it played, it worked most of the time. Switching from gold to pure credit for the reserves required a tightening of the rules and discipline. Instead, Washington abolished restraints to give financial speculation a free playing ground. In the name of maximising shareholder value, the rate of growth of the earnings of corporations – real or imagined – were extrapolated into the remote future, and incorporated into price to serve as collateral for further financing. This was tantamount to money creation on a licentious stock market.

Meanwhile, much of the actual manufacturing has left America’s shores. Toyota has for the first time pushed out one of the Big Three – Daimler-Chrysler – for car sales in the US itself. That means that the US is ever more dependent on its supremacy in technology. But for that its investment in education must be maintained and increased, as must its interest in keeping universities open to talented hard-working youngsters. But elsewhere in this issue you will read an article on the wilting of America’s universities.

The terrorists of Islam seem to have a special flair for detecting these vulnerabilities. Remember, for Islam taking interest at any level will be punished by eternal hell-fire. Saddam Hussein switched his blocked accounts with the UN from dollars to Euros several years ago. Today whoever is conducting the terrorist attacks in Iraq seems to be counting on the US public’s limited appetite for body-bags coming home.

As for the Chinese, they not only refuse to allow the value of their currency to rise to contain inflation, but have resorted to raising the statutory reserve to rein in the amount of capital creation the private banks can do rather than raising interest rates that would attract more hot money and create more real inflation. There could be no more wounding way of thumbing their noses at American monetary orthodoxy.

William Krehm

— from Economic Reform, October 2003

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