Greenspan/Guidotti Says The US Dollar is Dead

By Alan Greenspan and Pablo Guidotti's standards for prudent fiscal policy, the United States of
America is effectively bankrupt.

Before I proceed any further, I would like to make note of the fact that this is by no means a complete
picture of what has come to be known as the Greenspan/Guidotti rule as an indicator of sovereign
vulnerability. One should delve further into the subject if he is inclined to do so.

With that said, this article does give a simple introduction to the rule and exactly what it implies for
the United States from a fiscal standpoint going forward.

Introduction

What eventually would go on to become known as the Greenspan/Guidotti Rule arose from the
inherent difficulties involved in using traditional models to obtain a satisfactory explanation for
various economic crises, namely the crisis observed in South East Asia in 1997.

This lead to the conclusion that alternative models had to be found to provide a clearer understanding
of these crises. As a result, multiple authors and economists namely Furman and Stiglitz (1998) and
Radelet and Sachs (1998) began to emphasize that the excessive accumulation of short term external
debt was a common denominator in all of these crises.

This model (international reserves/short term external debt ratio) grew in prominence as a leading
vulnerability indicator as more distinguished economists (A. Greenspan, 1999) attached more
importance to it. In addition, the International Monetary Fund (IMF) has incorporated this model
into the series of indicators used in its early warning systems and the Bank of International
Settlements (BIS) is also placing an increasing emphasis on this ratio (Hawkins & Klau, 2000)

This all supports the superiority of the international reserves/short term external debt ratio over other
variables such as the monetary aggregate/reserve ratios.
United States Fiscal Vulnerability

The international reserves/short term external debt ratio as the IMF recommends it pertaining to
sovereign countries entails as a starting point, a ratio of international reserves to short term external
debt measured by residual maturity equal to 1.

This of course assumes that a country is seeking to not only limit but decrease their fiscal
vulnerability. I do not wish to speculate, but this is something which appears not to be considered in
the current US fiscal policy.

The reason I say this is because the current reserve/short term debt ratio of the US stands at 25%
and growing. As in, it only holds 25% of the currency necessary to fulfill all of its short term debt
obligations. (defined as debt maturing in 12 months or less) these said obligations currently total over
$2 Trillion dollars and growing or over 45% of all outstanding US Treasury debt. (See below)

And now for the bad news, the above mentioned quarter of short term obligations which the US is
thought to be able meet assumes that the US Treasury Dept. currently holds approx. $500 billion in
hard currency on hand. This is by no means a proven fact, as this $500 billion is assumed to be in
the form of 8,000 plus metric tonnes of gold that the US is thought to hold. I would like to discuss
this assumption further, but this is not the place. The point to be derived from the above is that the
US could very well face a short term liquidity crisis in the very near future.

These days when we think of sovereign crises, we think of debt default, we think of inaccessibility to
capital to meet current obligations. In the case pertaining to the US though it is somewhat different.
The United States, one must remember is able to, via its central bank (Federal Reserve) legally
manufacture currency to meet its fiscal obligations, in this sense there need not be a formal
declaration of default per se. Because the printing of paper currency is dilutive to the value of the
existing currency in circulation, the new currency being returned to the lender is worth less than its
original value at the time the loan was made.

In this sense, and in the case of the US there seems to be an ever greater chance of default by
debasement. Despite all of the headlines and television talking heads touting a “recovery” it appears
as though the US, through the protracted process of debasing its currency has more or less formally
begun its default process.

On this note, I would like to end this article with what I feel is an appropriate quote from a timeless
economist:

"There is no means of avoiding the final collapse of a boom brought about by credit expansion. The
alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of
further credit expansion or later as a final and total catastrophe of the currency involved.” - Ludwig
Von Mises

Sources: The ratio of international reserves to short-term external debt as an indicator of external vulnerability: some
lessons from the experience of Mexico and other emerging economies. By Javier Guzman Calafell & Rodolfo
Padilla del Bosque | Bank of International Settlements Joint BIS-IMF-OECD-World Bank Statistics | Alan
Greenspan Currency Reserves & Debt (April 29, 1999)

About the author: Theodor is a financier and portfolio manager. Having started his first business at
the age of 15, he has gone on to hold business development and management roles with several large
and mid-size companies. Theodor has been managing his own and private client's money since the age
of 18. His investment philosophy is strictly grounded upon value investing principles and he analyzes
companies on a deep value basis.

Theodor is a principal in the merchant banking firm of THG Finance Group Ltd.