So, as we covered earlier, the US dollar is hitting record lows against both the Canadian dollar and the Euro. There are lots of predictions out there that these are the early signs of a continuing decline, driven by the crazy deficits of the current administration.
However, what if it’s not just deficits? Traditionally the US dollar has been strong even in the face of large deficits, since it was supported by three big pillars:
1. The US pretty much keeps “commodity currencies” from becoming signficiant
2. There has been no other country with a fiat currency that had power even vaguely equal to the US.
3. The US has the biggest guns.
Well, it turns out that the Euro is functioning as a seriously competitive fiat currency, and it won’t be long until the Yuan is also in there. Erosion of the support of being the only serious fiat currency is likely also contributing to the dollar’s drop… which causes some pressure to remind the world about #3.
It’s not that simple though, because you also have to consider the effect of the world oil market essentially being conducted in US dollars. For more on this notion, as well as explanations of “commodity currency”, or “fiat currency”, you might want to read this Z magazine article: The Invasion of Iraq: Dollar vs Euro, which will give you the background while also laying out a possible scenario for the Iraq invasion that has nothing to do with WMDs, or Haliburton. It’s not a new scenario, but it certainly hasn’t been part of the mainstream discussion.
Here’s another piece on the same theory.
For a counter-point, see Krugman’s essay on why the US doesn’t have to worry about the rise of a second reserve currency.
