(This is Part 1 in a series.)
Military power rests upon an unshakeable foundation of economic power. Without economic power there can be little or no military power on a sustained basis. It takes a lot of money to maintain soldiers and equipment, especially in far-off places.
The U.S. currently has tremendous military power, but the economic power that underlies it and makes it possible is undergoing grave and increasing decline.
So far, this economic decline is mostly under-the-surface and showing up only in symptoms here and there, such as the decline of the dollar now splashing in the media.
As discussed in some detail elsewhere on this website (see Finance & the economy I and Finance & the economy II), the United States economy is now functioning on large and increasing injections of credit, a large measure of it coming from abroad.
For the most part, these credit injections are not financing investments in productive capacity but instead a wild orgy of U.S. consumer spending (70% of GDP), eye-popping U.S. budget and trade deficits, and asset-inflation in real estate, stocks and bonds.
In all sectors of the U.S. economy, debt levels are at or near all-time levels. Though corporations have recently trimmed their debt levels, the consumer and government sectors are swimming in historic levels of it. The debt-to-GNP ratio is more than double what it was at the peak in 1929 before the Great Crash.
Like all financial bubbles, this great credit bubble will also burst. And judging from the parabolic/blow-off stage that we're in now, that probably won't be long. Whatever the triggering "cause" happens to be—and it could be any of a dozen things—this overripe fruit is, in my opinion, fated to drop from the tree soon.
We see the beginning of this process in the fall of the dollar, which has fallen 35% against the euro since 2002. Foreign investors and central banks have built up trillions of dollars of reserves in U.S. dollars, and as the dollar falls they have become very concerned about their huge dollar holdings.
For instance, Russia has publicly and privately voiced its intent to move some of its foreign reserves from dollars to euros, and indeed has been in process of doing so for some time.
Russia is not the only one. In the last three years the member nations of OPEC have reduced their dollar holdings from 75% of their reserves to 62%. Meanwhile they have incresed their euro holdings from 12% to 20% of reserves. See a trend?
Central banks in Japan, China and elsewhere are watching this development with concern, for nobody wants to be caught with the vast losses that a collapse in the dollar would bring. Yet they all know too that if they begin to seriously sell their dollar holdings that that in itself could send the dollar into a crash, bringing on a worldwide recession or worse.
It is an extraordinarily fragile time, though on the surface everything still seems more or less normal. The image that comes to mind is evening dancing on the deck of the Titanic while below decks the mighty ship plunges ahead in the darkness to its rendevous with the iceberg.
(This is the end of Part 1. Go to Part 2.)
—jim sloman, 12.7.04 for Oct 30
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