Gold was a natural balancer for global trade imbalances. Gold forces governments to be disciplined with their budget. No one can print extra gold. But ever since the last of this discipline was removed along with the collapse of the Bretton Wood system, the world has gone on to print an unprecedented amount of currencies, and global trade imbalances have grown extraordinarily wide. I have lots of figures and graphs to substantiate these. Try googling for them, maybe you can find some.
Anyway, here are some harmful effects of global trade disequilibrium:
1. For nations with trade surplus:
Prime examples are asian countries. Asia has been using the model of export-led growth, which is unsustainable in the long run. Trade surplus may mean more currency flowing into the country, but this is highly inflationary. When Asia has a trade surplus with the US, they have tonssssss of USD. There are 2 choices they can make with this USD: convert the USD into their own currencies, or recycle the USD by buying up US assets. If they choose the 1st option, there will be so much credit going into the banking system, and with those credit futher inflated through the fractional reserve banking system, inflation is going to be wild. In fact this was the PRIMARY cause of the Asian currency crisis in the 1990s, and the burst of the Japanese bubble. So much credit flowed into these "Asian Miracle" countries, driving property and stock prices up , giving people the illusion of wealth, until it finally culminated in a burst.
Asian nations favoured the 2nd option more. They recycle the USD by buying up US treasury bonds. Now it is becoming increasingly clear that the US financial health is questionable (in fact I think it's the worst disaster history is going to witness), and less foreigners are buying up the US bonds. They need to find some other places to recycle their USD. They can buy up US assets within the US itself, but with the US in disarray, this might not be a good option too. Or they can dump the US and buy commodities, and GOLD! This is what China has been doing. On a side note, China has yet to see a bubble burst in the country. It will face this problem in the future too. Its huge trade surplus with the US is going to cause it a lot of problems down the road.
2. For nations with trade deficits:
These are mostly the Western nations, especially the US. For decades the US has been consuming what the world produces. How do they do that? By going deeper and deeper into debt. The government has been stepping in during recessions and injecting lots of liquidity into the market, in an attempt to stimulate economic growth. This won't work in the long run. Just look at Japan. Government spending has been so huge that now government(or public) debt in Japan is 200% of its GDP. By doing this, the US government has to sell more and more bonds to keep themselves afloat. And with most trades still denominated in USD, a lot of countries have excess USD, which they will use to buy even more US bonds or assets. This recycled USD, coupled with the crazy amount of USD printed by the government, have been providing the US with lots of credit. So the credit enters the banking system, got even more inflated through the fractional reserve banking system, and voila, you have tons and tons of paper USD.
Some day, the world is going to stop buying so much US bonds. Already, there has been increasing talks on using other currencies as the reserve currency. Without foreigners lending money to the US (by buying up the US bonds), the US will be severely, acutely, don't-want-to-imaginably short of cash. The US will then have 2 options at this juncture:
Option 1. Swallow the ever-increasing bitter medicine. Let the bubble burst, let deflation set in, suffer unimaginable pain, experience a huge drop in standards of living. Recover and then move like how it does during the Great Depression (back then, even though it was really depressing, it was not protracted, because the Fed did not come in and pump money and mess things up). Back then, the Depression was allowed to run its full course, balancing everything up again, cleaning up all the mess. Therefore, the US were able to get out of it after a few years. So that's for option 1.
Option 2. Print money. print print print and try to get out of the problem. We know what will happen here: hyperinflation.
So there you go, a simplified version of what is to come. To explain everything step by step will take another 100000 posts. To end this post, here's a scenario which I conjured, after studying this interesting topic of economics:
A surplus nation, say China, has a lot of USD from trading with the US.
Tons of USD --> enter banking system --> credit explosion due to fractional reserve banking system --> economic boom as businesses borrow money cheaply, stock market and property prices go up because the money needs to find some place to go to, inflation sets in --> overproduction and overcapacity --> deflationary pressure on prices of goods --> increasing corporate unprofitability --> falling wages, increasing unemployment --> defaults on loans --> bubble burst
In fact, this is exactly what will happen if Gold is still used as the mode of payment. Countries with trade surplusses will have surplus gold payments from the importing countries. Credit expands in the surplus country, causing inflation, and making the country's goods less competitive in the market. Now the country will be a net importer instead of a net exporter, and gold flows out again.
A country with gold flowing out will try to export more, so that gold will come in again. It will tighten credit, thus putting a downward pressure on prices. This way, its goods become more competitive, and thus the country will be able to export more. Gold flows into the country again.
So there you have it. How gold is such a great natural balancer of trade imbalances. Without this correcting mechanism in place, the world will continue to face financial and economic turmoils in the looonnnggg roads ahead.
Anyway, here are some harmful effects of global trade disequilibrium:
1. For nations with trade surplus:
Prime examples are asian countries. Asia has been using the model of export-led growth, which is unsustainable in the long run. Trade surplus may mean more currency flowing into the country, but this is highly inflationary. When Asia has a trade surplus with the US, they have tonssssss of USD. There are 2 choices they can make with this USD: convert the USD into their own currencies, or recycle the USD by buying up US assets. If they choose the 1st option, there will be so much credit going into the banking system, and with those credit futher inflated through the fractional reserve banking system, inflation is going to be wild. In fact this was the PRIMARY cause of the Asian currency crisis in the 1990s, and the burst of the Japanese bubble. So much credit flowed into these "Asian Miracle" countries, driving property and stock prices up , giving people the illusion of wealth, until it finally culminated in a burst.
Asian nations favoured the 2nd option more. They recycle the USD by buying up US treasury bonds. Now it is becoming increasingly clear that the US financial health is questionable (in fact I think it's the worst disaster history is going to witness), and less foreigners are buying up the US bonds. They need to find some other places to recycle their USD. They can buy up US assets within the US itself, but with the US in disarray, this might not be a good option too. Or they can dump the US and buy commodities, and GOLD! This is what China has been doing. On a side note, China has yet to see a bubble burst in the country. It will face this problem in the future too. Its huge trade surplus with the US is going to cause it a lot of problems down the road.
2. For nations with trade deficits:
These are mostly the Western nations, especially the US. For decades the US has been consuming what the world produces. How do they do that? By going deeper and deeper into debt. The government has been stepping in during recessions and injecting lots of liquidity into the market, in an attempt to stimulate economic growth. This won't work in the long run. Just look at Japan. Government spending has been so huge that now government(or public) debt in Japan is 200% of its GDP. By doing this, the US government has to sell more and more bonds to keep themselves afloat. And with most trades still denominated in USD, a lot of countries have excess USD, which they will use to buy even more US bonds or assets. This recycled USD, coupled with the crazy amount of USD printed by the government, have been providing the US with lots of credit. So the credit enters the banking system, got even more inflated through the fractional reserve banking system, and voila, you have tons and tons of paper USD.
Some day, the world is going to stop buying so much US bonds. Already, there has been increasing talks on using other currencies as the reserve currency. Without foreigners lending money to the US (by buying up the US bonds), the US will be severely, acutely, don't-want-to-imaginably short of cash. The US will then have 2 options at this juncture:
Option 1. Swallow the ever-increasing bitter medicine. Let the bubble burst, let deflation set in, suffer unimaginable pain, experience a huge drop in standards of living. Recover and then move like how it does during the Great Depression (back then, even though it was really depressing, it was not protracted, because the Fed did not come in and pump money and mess things up). Back then, the Depression was allowed to run its full course, balancing everything up again, cleaning up all the mess. Therefore, the US were able to get out of it after a few years. So that's for option 1.
Option 2. Print money. print print print and try to get out of the problem. We know what will happen here: hyperinflation.
So there you go, a simplified version of what is to come. To explain everything step by step will take another 100000 posts. To end this post, here's a scenario which I conjured, after studying this interesting topic of economics:
A surplus nation, say China, has a lot of USD from trading with the US.
Tons of USD --> enter banking system --> credit explosion due to fractional reserve banking system --> economic boom as businesses borrow money cheaply, stock market and property prices go up because the money needs to find some place to go to, inflation sets in --> overproduction and overcapacity --> deflationary pressure on prices of goods --> increasing corporate unprofitability --> falling wages, increasing unemployment --> defaults on loans --> bubble burst
In fact, this is exactly what will happen if Gold is still used as the mode of payment. Countries with trade surplusses will have surplus gold payments from the importing countries. Credit expands in the surplus country, causing inflation, and making the country's goods less competitive in the market. Now the country will be a net importer instead of a net exporter, and gold flows out again.
A country with gold flowing out will try to export more, so that gold will come in again. It will tighten credit, thus putting a downward pressure on prices. This way, its goods become more competitive, and thus the country will be able to export more. Gold flows into the country again.
So there you have it. How gold is such a great natural balancer of trade imbalances. Without this correcting mechanism in place, the world will continue to face financial and economic turmoils in the looonnnggg roads ahead.
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