Central Banks

DANIEL LACALLE is chief economist at hedge fund Tressis and author of “Freedom or Equality,” “Escape from the Central Bank Trap,” and “Life in the Financial Markets.” Daniel Lacalle

Strong Dollar, Global Currency Debasement

During times of complacency, central banks boost money supply

Why are market participants scared of a strong dollar? Because, for years, there was a massive carry trade against the U.S. dollar predicated on a bet that constantly printing currency and cutting rates would never create inflation.

The world got used to betting on one thing—massive money supply growth—and the opposite—weak inflation. Cheap money became expensive, as I explained in my book, “Escape from the Central Bank Trap.”

The U.S. dollar isn’t strong. The loss of purchasing power of the greenback is the largest of the past three decades. The U.S. dollar is only “strong” in relative terms against other currencies that are collapsing in a global currency debasement that comes after years of monetary excess.

The pound isn’t collapsing because of a misguided prime minister’s tax plan. It’s collapsing alongside the yen, which also saw the Bank of Japan intervene to try to stop its depreciation; the euro; the Swedish krona; the Norwegian and Danish krone; and most currencies.

In the past year up to the time of writing, the U.S. dollar index (DXY) has risen by 19 percent and reached a 20-year high. The yen is down by 23 percent against the U.S. dollar, the euro has fallen by 15 percent, the pound has fallen by 17 percent, and the emerging market currency index has also fallen by 14 percent. Even in China, the People’s Bank of China has had to intervene, like the Bank of Japan or the Bank of England, to control a massive depreciation against the U.S. dollar.

In periods of complacency, the world’s central banks play at being the Federal Reserve without having the world’s reserve currency or the legal security and financial balance of the United States. Many massively increase the money supply without paying attention to the global and local demand for their currency, and, in addition, governments issue more U.S. dollar-denominated debt, hoping low rates will make the financing of huge deficits affordable. Complacency builds, and all asset classes see massive inflows and elevated valuations because money is cheap and abundant—a monster multi-trillion carry trade with many bets on the long side and one short: the U.S. dollar.

All this, in turn, leads the global demand for U.S. dollars to increase, not because the Federal Reserve is conducting a restrictive policy, but because the comparison with others shows that the alternative fiat currencies are much worse.

This is the hangover from the great monetary binge of 2020, which saw an unprecedented increase in the balance sheet of central banks and the global money supply soar to all-time highs. Furthermore, the massive binge was directly targeted at government current spending. Now, the boomerang effect is vicious: high inflation and currency collapses, as well as an equities and bonds market crash.

“Spend now and deal with the consequences later” was often repeated by Keynesian consensus economists, and now they shrug their shoulders and wonder why their “models did not work,” as Christine Lagarde and Paul Krugman have said recently. Why didn’t they question their “models”? Because the models said what they wanted to hear. However, inflation did appear, it wasn’t transitory, and the trap was set. An overleveraged, massively indebted world with gigantic imbalances built on top of each other due to the placebo effect of monetary laughing gas generated the “bubble of everything”— and now it’s bursting.

The next time you read from Keynesian consensus experts that massive stimulus plans are warranted because the models say there’s no risk, remind them that they built the models to always show that government and monetary excess are nonexistent and, therefore, the models are rubbish. The problem is that policymakers won’t learn because they benefit from inflation and currency depreciation. It’s a form of taxation and wealth transfer from the productive to the politically connected.

Many will blame the Fed for acting too quickly and aggressively, not for doing it too late and after too much. Most will demand more currency debasement and monetary excess. And the result will be the same. U.S. citizens are suffering the loss of the purchasing power of their currency and the collapse of their investments while the rest of the world’s families and businesses are seeing their real wages vanish and their currencies become worthless. Cheap money is expensive. Always.

Now, the boomerang effect is vicious: high inflation and currency collapses, as well as an equities and bonds market crash.