There are two key reasons that help explain why America has been able to live beyond its means. Firstly, its national currency is the international reserve currency. The vast majority of purchases of the key energy commodity (crude oil) are conducted using the dollar. This helps maintain an on-going international demand for dollars. Secondly, foreign central banks (especially those of China and Japan) 'recycle' US dollars earned from exports by purchasing US Treasury bonds that a) helps keep the dollar relatively high in the foreign exchange markets which helps keep their respective country's exports price competitive and b) helps America fund its huge trade and budget deficits. [Note 1]
In terms of strategic planning it is almost inconceivable to think that those who govern America have not looked ahead to the future and seen the possibility of foreign central banks eventually stopping their purchases of its treasury bonds (although one of the key lessons of history is to expect the unexpected!) [Note 2]. Were this to happen interest rates would rise rapidly and the dollar would fall if the increase in interest offered was insufficient to offset the above-mentioned drop in demand for American bonds [Note 3]. A falling dollar would lead to a spike in the dollar price of crude oil. Although it seems unlikely at the moment, there is the possibility that the oil producing countries may demand something other than increasingly worthless dollars. Perhaps that 'something' may be the euro, a currency that can be considered to be 'pro-gold', or perhaps gold itself. Perhaps what is already happening is that surplus dollars are being used to purchase non-perishable strategic commodities (e.g. gold, silver, nickel). So this is one reason for America to start acquiring gold; there may come a time when the dollar may not be the preferred medium of exchange for oil.
The second reason is to do with systemic risk [Note 4]. Again, it may appear unlikely but imagine what would happen if there was another implosion of a hedge fund (cf. LTCM) but this time on a bigger scale. Arguably, there is a limit to how much liquidity that can be created to deal with the problem without inflation becoming a serious concern in the minds of foreign exchange traders. So the suggested policy here would be to encourage a small proportion of saving in the form of gold bullion within the borders of America. The rationale being that gold is something outside the 'conventional' range of investment assets and an asset that cannot be created at will. Perhaps tax incentives (in addition to patriotic rhetoric) could be devised to encourage the purchase of gold by American individuals, pension funds and corporations? The obvious problem here is that encouraging Americans to purchase gold as a hedge against a possible systemic crisis may in itself lead to a crisis at worst or a small fall in demand for the dollar at best. Another key problem is that such a policy would be blocked by those who have an interest in maintaining the current system of exchange. They would naturally be averse to large amounts of gold circulating amongst the people; a potential parallel currency would certainly be a cause of concern for those who profit financially from the Federal Reserve! [Note 5]
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Note 1: While such action may be justifiable for China by arguing that this helps accelerate its industrialisation - important questions remain:
1. How long can such a policy be maintained?;
2. Isn't there a better way to industrialise without devaluing one's currency by pegging it to the dollar? Consider the view that devaluation leads to increased impoverishment i.e. the person whose wages are paid in a devalued currency sees an increase in the cost of imported goods and a reduction in his purchasing power when outside of his country (if he can afford trips abroad!)
Note 2: Perhaps deals have been struck behind the scenes in an attempt to maintain the status quo. For example, perhaps China has agreed to continue dollar recycling - even if this become a loss-making activity in light of a falling dollar - in exchange for America not going too far down the road of protectionism?
Note 3: http://news.goldseek.com/GoldSeek/1090183555.php
Note 4: http://www.financialsense.com/stormwatch/oldupdates/2002/0426.htm
http://www.stern.nyu.edu/globalmacro/fin_systems/systemic_crisis.html
Note 5:
http://www.financialsense.com/fsu/editorials/steer/2004/1014.html
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