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IMF Competing with the U.S. and the Dollar   June 10th, 2009
And yet President Obama wants to borrow money to fund the competititon       


More observations...

The International Monetary Fund's "SDF's" gained notoriety a few months ago when China and Russia proposed that the world move away from the dollar to a more international reserve currency--most likely "Special Drawing Rights" (SDFs) that are issued by the IMF. Things have recently gotten more complicated.

First, Russia and Brazil today joined China in indicating a shift away from the dollar to IMF instruments:

As U.S. treasury yields rise and fear about the mounting U.S. budget deficit simmers, Russia and Brazil have joined China in plans to diversify their debt holdings by becoming the first countries to buy a new bond to be issued by the International Monetary Fund.

The introduction of the first IMF note -- a child of the Group of 20 countries meeting in April which sought an international response to the financial crisis -- could prove competition for the U.S. treasuries market at a time when the United States needs buyers for its seemingly endless supply of debt.

So instead of loaning money to the U.S. by buying or Treasury bonds, these countries are starting to loan money to the IMF by buying its bonds instead.

I also mentioned back in April that President Obama was trying to transfer $108 billion from the United States to the IMF without it being counted in the deficit.

Regardless of whether or not it's counted in the deficit, however, consider:

Now the Obama administration is asking the Congress for $108 billion for the International Monetary Fund. This was in accordance with a plan that the administration has helped organize to raise $500 billion in additional funds for the IMF. This would add to the approximately $200 billion that the IMF has on hand, $100 billion in gold reserves, and another $250 billion that the Fund will create in its own currency. These are enormous sums of money that the IMF has never come close to before.

What is all this money for? There is an answer staring us in the face from the financial press: European banks.

This second article speculates that the purpose of this unprecedented amount of money being transferred to the IMF is to bailout European banks. That seems entirely plausible. However, the purpose of the IMF money is irrelevant to the matter of my current observation.

The fact is that the IMF is providing an alternative to U.S. Treasuries and, to some extent, an alternative to the U.S. dollar. This is competition to both U.S. Treasury bonds as well as the U.S. dollar itself! This is a double-whammy that has massive implications.

First, this would be the first case of the IMF essentially providing the equivalent of an alternative reserve currency. The G-20 rejected an official move from the dollar to SFR's at their last meeting in April. However, it's clear that China, Russia, and Brazil are getting their feet wet and treating IMF monetary instruments as a reserve currency anyway.

This will reduce demand for the dollar which will decrease its value. Considering the Federal Reserve is already devaluing the dollar by printing money, the last thing we need is for the dollar to be further devalued by the IMF. A devalued dollar will lead to inflation including more expensive commodities such as oil--which, not coincidentally, again closed at a 7-month high today.

A devalued dollar--and one that is anticipated to devalue further--will also make it harder for the U.S. Government to attract foreign investors to loan it money. Foreign investors aren't going to want to buy $100 in U.S. Treasury bonds if those bonds are only going to be worth $50 after the dollar loses more value. That leads to the second problem...

Specifically, the IMF is competing for a limited amount of world capital. There's not all that much money floating around right now because there's a recession underway. The U.S. Government is already having a hard time finding enough money in the world to borrow--which is, in fact, why the Federal Reserve is printing money to pay for Obama's spending. And yet even though there's not enough money in the world for the U.S. Government to borrow, the IMF is competing for that limited amount of money which means it'll be even harder for the U.S. Government to borrow all the money it needs. That means interest rates will go up further and, if the Federal Reserve continues to print money, we'll get more inflation, too.

But here's the kicker: President Obama wants to send $108 billion to the very same IMF that is competing for the pool of loanable money, and which is effectively providing an alternative to the U.S. dollar! The IMF has become competition for the U.S. dollar and for U.S. Treasuries and yet Obama wants to fund them! Obama wants the U.S. to purchase those very same IMF bonds which compete with U.S. Treasuries. And we don't even have the money to buy the IMF bonds anyway--which means the U.S. has to borrow money in order to loan money to the IMF so that the IMF can effectively compete with the U.S. for the limited amount of money available.

Confusing enough?

If you were the CEO of Toshiba, would you try to convince your board of directors to loan money to your competitor Sony? Would you promote a plan to help Sony that would make your costs higher? That would make your company less competitive? Not only that, would you have your company go out and borrow money to help your competitor, and to weaken your own competitiveness in the process?

That's almost exactly what's happening right now. The Obama Administration wants to borrow money to fund an organization that is competing for a limited amount of borrowable money, and which has the potential to devalue the dollar.

This is an odd problem. The upside is that if countries move away from our dollar then we'll have no choice but to balance our federal budget. But this will only happen at the expense of the dollar's status as the world's reserve currency. The dollar's status is not just a matter of national pride--it's a matter of power and, consequently, national security. By supporting an international move away from the dollar we're sabotaging our very own currency, our very own national security, and our very own sovereignty.

It's not at all clear how this effort by President Obama can be viewed in a positive light from a U.S. point of view. I certainly understand the appeal from the point of view of other countries. It might even be fair from their point of view. But we're not other countries and Obama is not the president of other countries, or of the world. He's the president of the United States and he has a responsibility to look out for our interests.

We're in very strange territory here.

    Update 6/11/2009 (Next Day): An article at CNN briefly says about the same thing:

    Russia and China have both indicated that they are concerned about the unsustainable pace of spending. Russia said Wednesday it would consider shifting assets to other safe havens, like International Monetary Fund bonds.

    "Longer term, the concern over foreign interest is a wake up call to Congress and the President," said Nick Kalivas, vice president of financial research at MF Global, in a daily research note. "The idea that the IMF bond is getting attention is a sign of investor worry over the U.S. fiscal situation.

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