Another Sign of Too Much US Debt: India Trades Dollars for Gold

With U.S. debt at an all time high and numerous Democratic proposals on the table to raise it further, is it any wonder that countries are getting rid of their dollar stockpiles for something that won’t keep dropping in value?

Gold prices yesterday surged to an all-time high after India’s central bank bought 200 tonnes of the precious metal, swapping dollars for bullion as the country’s finance minister warned the economies of America and Europe had “collapsed”.

India’s decision to exchange $6.7bn (€4.54bn, £4.08bn) for gold equivalent to 8 per cent of world annual mine production sent the strongest signal yet that Asian countries are moving away from the US currency.

The reason, of course, is two fold.  On the one hand, U.S. consumers have no problems going into debt.  In fact, the average U.S. household has about $8,000.00 worth of credit card debt.  On the other hand, the U.S. government is spending money it doesn’t have as if it were going out of fashion.  To be sure, this is a problem both political parties have created as voters refuse to punish politicians who vote for more and more spending.  The $787 billion “stimulus” spending Obama signed into law earlier in the year just made things worse (with interest that figure jumps to $1.24 trillion).

Countries that hold huge dollar reserves (like China, India, and Japan) as getting stung – badly.  Even as they collect more dollars the erosion of the value of this currency means they are losing more and more money each day.  They are in a Catch-22, however, for if they make a move, such as India did, to exchange their dollars for gold, the price of gold shoots up as a result and they pay more to escape their dollar doom.

India’s move is proof of that (also from the Financial Times as above):

The purchase by New Delhi’s Reserve Bank from the International Monetary Fund pushed gold prices to a record $1,087.45 per troy ounce, up 2.6 per cent on the day, as traders bet that other central banks would also become buyers.

You guys are jumping ship, aren't you?

As a result, there is a need to get away from the dollar and instead create an international “basket” of currencies:

China called for the creation of a new currency to eventually replace the dollar as the world’s standard, proposing a sweeping overhaul of global finance that reflects developing nations’ growing unhappiness with the U.S. role in the world economy.

The thinking by these countries is very logical for if they can somehow reduce their exposure to dangerous American fiscal practices and reckless consumer spending then they will be less affected by the fate of America.  However, China has a problem in that it is dependent upon American consumers (who are deeply in debt) for its income:

Chinese officials are frustrated at their financial dependence on the U.S., with Premier Wen Jiabao this month publicly expressing “worries” over China’s significant holdings of U.S. government bonds. The size of those holdings means the value of the national rainy-day fund is mainly driven by factors China has little control over, such as fluctuations in the value of the dollar and changes in U.S. economic policies. While Chinese banks have weathered the global downturn and continue to lend, the collapse in demand for the nation’s exports has shuttered factories and left millions jobless.

These countries, I believe, are trying to weigh the future risks of jettisoning the dollar as their main reserve currency against current financial problems they face by holding onto the Greenback.  Moves such as India show that they are increasingly deciding to test the waters by selling off their dollars in favor of gold, perhaps because an international basket of currencies might be too tough politically to create because the U.S. would admit it is done as a nation if it goes along with the proposal.

What does the Obama administration think about all of this?

A spokeswoman for the U.S. Treasury Department declined to comment on Mr. Zhou’s views. In recent weeks, senior Obama administration officials have sought to reassure Beijing that the current U.S. spending spree is a short-term effort to restart the stalled American economy, not evidence of long-term U.S. profligacy.

The problem with this view is that if Obama and the Democrats are successful in creating Obamakare, with its current $1 tillion plus bill (which will probably double or triple (at least) in short order) the U.S. will never be able to cut spending or increase tax revenues enough to bring the debt down.

Some countries are going to get stung - badly.

And if Cap and Trade passes, its monies will be used to fund more social schemes the Democrats have in mind and, as a result of the increased tax burden on American families and businesses, economic activity will decrease as consumers find themselves with less money and businesses seek greener pastures.  And we all know that once a government program is created it is almost impossible to end.

What should be done is to reduce spending, scrap Obamakare, reduce the wasted monies spent on malpractice insurance and frivolous lawsuits, expand oil production (which will increase revenues and lower energy costs) and lower taxes to stimulate investor spending as well as offer consumers tax deductions if they reduce their debt.  Building nuclear power plants will also help lower energy costs and keep more dollars in the U.S. as our need to buy our energy overseas decreases.  Increase use of freight trains would also help move goods more efficiently, lower damage to our highways, and lower energy costs.

If we as a nation have learned anything it is that no institution is “too big to fail.”  The U.S. may be one of the strongest countries in the world in many areas but it is appearing that this is more so because our trading partners are paying for our debt sins – literally – more than because we can stand on our own.

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Deficits, Debt, Bailouts: What Obama Should Learn from Germany