Sunday, 14 November 2010

Credit depends on a socio-cultural matrix of keeping promises

The current clash over monetary policy/currency debasement or manipulation, may well be a zero sum game or to cite other terminology, the US might win but it will be a Pyrrhic victory. It has even been suggested that the US policy of QE is a shrewd tactic which will reduce the burden of the national debt by enabling it to be "repaid" in dollars which have diminishing purchasing power.

There is almost certainly not a simple winner/loser dialectic at work here. There are both direct and external costs to a currency war where both sides will win some battles and lose others but the "war" will end in an economic stalemate or looking at the worst outcome, a depression culminating possibly in military conflict and/or a breakdown in the rule of law.

Some have argued that the US is being backed into a corner by China by its refusal to revalue the yuan and to encourage its consumers to save less and spend more. On the other hand China is effectively saying that their economic livelihood, including their belief that buying US Treasuries and agency debt represented a "store of value" and economic benefit, was based on a false premise that they presumed (perhaps due to misrepresentations) about US fiscal/monetary responsibility, and that this extending of credit is now being jeopardized by the monetization of US debt obligations.

At the end of the day monetary and credit systems are all about a socio-cultural matrix of shared beliefs (i.e. the Latin verb for belief is credere) and an assumption that promises made are going to be kept. Right now more of the world is having serious questions about whether the US (and many other nations) have either the intention or wherewithal to honor their financial obligations.

In that sense, and in my view in the longer term, the US especially, but other states as well, are not being shrewd but reckless.

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