Capitalism, Socialism, Tribalism...
Which tribe has the better martial technology: China or America?
No matter what -ism you prefer, there are only two tools for securing cooperation: force or barter. Furthermore, your -ism is dependent on one or the other, but not both. Capitalism is bound to trade; tribalism is all-in on force.
If you are a tribal chieftain, you are utterly dependent on the state of your martial technology. The largest country in the world owes its size to the metal stirrup. Genghis Khan united eastern Asian tribes into a powerful army of superior archers. The metal stirrup was their technological advantage.
If you are a capitalist, you are utterly dependent on barter. Absent the information embedded in prices, supply becomes a matter of imagination, alone: a hit-or-miss proposition.
Following WWII, the Allies were faced with a prostrate German economy. For whatever reason, the Allies insisted on rationing, price controls, and regulation of production to raise Germany from the ashes. By 1948, Ludwig Erhardt had had enough. He abolished the constraints and introduced a sound currency. The word Wirtshaftswunder will forever be emblematic of the miraculous recovery of the German economy.
Whither China and the United States
Leaders in the U.S. and China have a lot in common. They both have been relentless in pursuing political rivals. While 40% of China’s populace still lives in poverty, America seems intent on hollowing out its Middle Class. And the leadership in both countries harbors a disdain for individualism.
But there is one stark difference: the technological advantage each has chosen to maintain hegemony.
The technology of choice in the U.S. is MMT, or Modern Monetary Theory—a theory first propounded by a hedge fund manager and popularized by the famed economist Alexandria Ocasio-Cortez.
In 1944, the Bretton Woods System held that the dollar would be backed by gold, and all other currencies would be pegged to the dollar. Nixon ended the gold-backed dollar in 1971. MMT had been percolating in the financial ether since the 1970s but wasn’t to achieve star-status until social media discovered “social influencers”.
The hallmark of MMT is that deficits don’t matter (as long as you keep interest rates low). The COVID slump in stock markets provided an opportunity to put MMT into practice—calling it QE. Beginning March 2020, the Fed has been pumping $120 billion a month into the financial sector, causing the yield on 10-year Treasuries to hover around 0.5% and major corporations to jack their prices through stock buy-backs and dividend give-aways. Banks changed philosophy on a dime, finding loans to Wall Street more lucrative than loans to the rubes on Main Street.
Obviously, the Biden administration expected that when they flipped the switch “on”, the economic gears and levers would spring to life. But their theoretical algorithm discounted the messaging function of prices, leaving the supply-chain to barely hang on to a muddled state.
The question becomes: How much longer will foreign holders of dollar-denominated assets be willing to continue holding dollar-denominated anything? We have been here before. History is replete with the making of bubbles, starting with the invention of the Bubble of 1720 (a result of expenses incurred during the 13-year War of Spanish Succession), continuing through the Bubble of the “Roaring Twenties (1920-1931), and arriving on our door-step with the Sub-Prime Mortgage Bubble (2003-2010).
We have been building a new bubble since we started printing money to get out of the last one. The long-term average of the P/E ratio is 15.94. By January 2021, the ratio was 40.5—in other words, the ratio does not reflect actual corporate earnings so much as it reflects Wall Street awash in MMT-cash. The gap between rich and poor always widens during bubble-making periods. One of the facts of life is that wise-guy traders know how to manipulate trades to the disadvantage of retail investors. And to add insult to injury, the rich also know how to profit from the inevitable crash. Just as the 1720 bubble undermined the French Livre, the MMT Bubble will undermine the world’s reserve currency.
The U.S. Naval Institute reported (Sep. 1, 2020) that China now has the world’s largest navy, as part of their long-term goal of putting together a military that can go anywhere, fearlessly. Yet China’s navy may not be necessary.
It is China’s approach to monetary policy that gives China the technological edge. Since the advent of QE, the yuan has risen about 10% against the dollar. That may not seem like much, but that is not the whole story. The Shanghai Stock Exchange has cracked down on the kinds of trades commonly done in American markets. And the Chinese are not gripped with a “too-big-to-fail” mindset: witness the image of China Evergrande Group twisting in the wind.
And then there is gold. Mid-year 1983, the People’s Bank of China began acquiring gold when others thought it dross. By 2002, the Shanghai Gold Exchange was selling gold to millions of registered Chinese buyers.
How much gold does China have? MoneyWeek (Apr. 21, 2021) believes that no one knows, but they are certain they know why China began buying gold. “It has been clear for some time that China has designs on the US dollar’s global reserve currency status.”
Forbes reports (Aug. 21, 2021) that “China has been at the forefront of experimenting with a digital currency, with almost 21 million people taking part in digital yuan (e-CNY) tests through June….” But Forbes concludes that “we are a far cry from the yuan…supplanting the U.S. dollar”.
Maybe, but which will the world choose: the dollar backed by the “full faith and credit” of the United States, or e-CNY backed by gold?