David Gracey

David Gracey

David Gracey | Head of Foreign Exchange and Fixed Income Trading

Is the USA starting to eat itself?

• I have recently become a little enthralled with Greek Mythology. The reason for my enthusiasm is simple. The ancient Greeks tried hard to understand the world around them by inventing myths and legends to try to explain the goings on of a rather chaotic world, thus creating deities, that ruled the world and its machinations, with personalities and human traits like passion and envy and love and jealousy and hubris etc etc.

• One story resonates well with recent developments in the world of finance and economics.

• This is the story of  ‘Erysichthon”, the Thessalian King who literally ate himself into oblivion. 

• The story goes like this. 

o Erysichthon needed wood to build himself a new dining hall in his palace. He instructed his minions to chop down a sacred forest, which upset the goddess Demeter, who lauded over grain fields and groves. As punishment for this act, she cursed him with eternal hunger. Hunger that could never ever be satisfied. And so he ate and ate and ate, never putting on weight and never feeling the least bit satisfied. He ate his personal wealth, then sold his palace, then his belongings, then even his daughter into marriage, multiple times, all with the desire to satisfy his cravings, and all with no success at all. Until eventually he ate a hand, then a foot, then all his limbs, then torso, until there was nothing left. Finally ending the curse of eternal hunger as he disappeared in a plate of oblivion.

• How could this story ever relate to the story of modern finance and economics I hear you asking?  Well done, because that is an excellent question!!

• The world we live in is dominated by trade in the USD. All commodities and much of the world’s trade is priced in USD. The US treasury market is one of the world’s largest asset classes, and as the old saying goes, when the US sneezes the rest of the world catches a cold.

• If you have nothing to do, you can read below how the USD became the globes dominant currency and how this status allows the USA unrivaled privilege.

Episode 1  Episode 2  Episode 3

Episode 4  Episode 5  Episode 6

Episode 7  Episode 8  Episode 9

• However it may be that we are now in the very early stages of seeing a reversal of this status and fortune, and how this privileged status may actually lead to the downfall of the US empire.

• To be sure, I am not for one moment suggesting that this downfall is imminent, if ever. I have in fact been known to predict the downfall of the USD in the past, only to be fed my own words in a meal of humble pie.

• But recent developments in the world of geopolitics bears careful scrutiny.

• As a young trader I could never easily understand how the USA , a country that racks up trade deficit after trade deficit, doesn’t see its currency weaken against exporting Countries over time.

• By way of example – current statistics tell us that the US imports between 70 to 80 billion USD worth of goods more than they export, EVERY MONTH. And they have been running these deficits for decades. The US current account deficit currently runs at around 1 trillion USD per annum. 1 trillion USD that needs to be found somewhere, year after year after year.

• Any other country that racks up deficits at this level would find their currency on the ropes after a rather short period. But not the USD. How do they do it?

• Well the short answer (elaborated in the episodes above) is rather simple. Exporting nations have to accumulate USD reserves in order to pay for commodity and petroleum imports over time, and they do this by parking their USD proceeds in the US treasury market, thus completing the circle of USD flow.

• Dollars flow out of the USA to exporting nations, and the dollars flow back into the USA when nations buy US treasuries and other investment instruments, thus having a negligible impact on the overall price of the USD. 

• This means that the USA literally has never had to pay for their lunch.

• Any victim of a Ponzi scheme will comment  “surely this cannot go on forever”. And this seems obvious. But in the case of the USA it would appear as if they have stumbled upon a magnificent get rich quick scheme ….Pay Paul for his goods, but demand that Paul buys Investment assets from you so that the cycle can be repeated over and over again, in a never ending cycle of USD flow.

• The other benefit that the USA enjoys is that they are the creator of USD. And so if they need to, they can simply print endless amounts of USD to pay for their deficits.

• It really is a scheme that has allowed the USA unrivaled privilege in the world of finance. Until recently!!!!!!!! 

• Any lender will tell you that one of the things that concern them is concentration risk. Concentration risk is when you have too many assets in one basket. In the case above …when the USA owes everyone immense amounts of money you become concerned about the ability of the USA to eventually repay their liabilities.

• The problem is intensified when USD lenders are no longer allies or friends of the USA.

• And this is where recent developments in geopolitics bears careful scrutiny.

• The Russian invasion of the Ukraine has thrown a carefully aimed spanner into the works. Nato (the USA and its allies) back Ukraine. Russia shut out from much of the world through sanctions, needs some new friends. And  as the old adage goes – “the enemy of my enemy is my friend” 

• Enter China. 

• China over the last 3 decades has become the world’s second largest economy. They have achieved this buy structuring their economy around cheap labour and manufacturing. China manufactures around 30% of the world’s total goods. They import huge quantities of raw materials (paid for in USD) and export manufactured goods to the rest of the world (a large portion to the USA) thus accumulating large trade surpluses and USD reserves, Over 3 trillion USD worth…. That’s some very decent concentration risk right there. 

• However, relations between China and the USA have deteriorated somewhat over the last few years. And therefore when Jinping visited Moscow recently his comments to Putin sparked some concern. This is what he said.

o Xi Jinping says China ready to ‘stand guard over world order’ on Moscow visit

o “Together, we should push forward these changes that have not happened for 100 years. Take care,”

• In the next episode we will look into why these comments, and other recent developments, may indeed usher in a new world order, and why the dollars hegemony may well be under threat

• Australian author Max Barry has this to say on the state of empires 

o - “All empires fall, eventually. ”But why? It’s not for lack of power. In fact, it seems to be the opposite. Their power lulls them into comfort. They become undisciplined.-“

• Good luck , and don’t eat too much.