The threats to the Euro as a global trading currency
Since February, the EU has imposed several packages of sanctions against Russia, including targeted restrictive measures (individual sanctions), economic sanctions and diplomatic measures. The individual sanctions target people responsible for supporting, financing, or implementing actions which undermine the territorial integrity, sovereignty, and independence of Ukraine or who benefit from these actions. In total 7 sanction packages are announced, with economic sanctions in areas of finance, transport, energy, defense, raw materials, and other goods, implying a full decoupling of Russia from Western Europe. (Source)
In 2021, Russia was the fifth largest partner for EU exports of goods (4.1% of extra-EU exports, equivalent to €89 billion) and the third-largest partner for EU imports of goods (7.5% of extra-EU imports, equivalent to €158 billion). The COVID-19 crisis caused both exports and imports between the EU and Russia to fall in 2020, bringing the trade deficit close to €16 billion, the lowest trade deficit between 2011 and 2021 between the EU and Russia. In this decade, the EU’s trade deficit with Russia has decreased from €89 billion in 2011 to €69 billion in 2021. Looking at the breakdown by product, energy was the most imported product by the EU from Russia in 2021. Energy represented 62% of EU imports from Russia last year (equivalent to €99 billion), indicating a significant drop of 14.2 percentage points (pp), compared with 2011, when energy represented almost 77% of EU imports from Russia (€148 billion). Between 2011 and 2021, EU energy imports from Russia were highest in 2012 (€157 billion) and lowest in 2020 (almost €60 billion). (Source)
As a comparison, 2021 EU exports to China amounted to €224 billion, more than 2 times those of Russia. The trade deficit between the EU and China in 2021 was €249 billion, more than 15 times that of Russia. From 2019 to 2021, EU’s trade deficit with China amounted to €597 billion. (Source) The entire M2 money supply expanded from €12.380 billion in 2019 to €14.693 billion, an increase of €2.313 billion. Looking at the trade deficit, we can see that over a quarter of this additionally printed money was spent buying Chinese goods. This reduced the inflation potential accordingly. (Source)
Essentially, the Euro’s establishment has been a late entry by European powers into globalization: My money for your wealth via the free market economy. Ballooning energy prices in the EU amid Russian sanctions have now decreased the Euro’s value when buying commodities in the global marketplace. At the same time, Russia now shares the incremental benefits of the increased energy price with first tier power peers America and China, and has bought the neutrality of second-tier, energy-rich countries in Asia. However, the damage currently suffered by Eurozone countries is only marginal in comparison to what the consequences of an EU decupling from China economically would be. Neither Brussels nor Berlin seem to understand that what’s at stake in both of these situations is the sustainability of the Euro as a global trading currency.
From colonialization to globalization: currency ownership and dominance
Historically, globalization has never been about systemic competition but rather a country’s need to become richer via trading currency ownership and dominance. There have been three waves of globalization that illustrate this, always initiated by western countries seeking wealth: the Spanish conquering South America; British colonization of the India, West Africa, and north America; and more recently, the USD Imperium established by America.
1st Wave of Globalization: Gold and Silver for Spanish buying power
Gold and silver as an universal physical currency representing wealth were a decisive motivation for Spain to explore the new world. The Spanish conquistadors arrived in the Americas in the final decade of the 15th century, and they were most interested in finding gold since it was much more valuable than silver – 1 oz of gold bought 11 oz of silver in Amsterdam in the 16th century. But they were actually far more successful in acquiring silver. Over 100 tons of gold were extracted from the Americas from 1492 to 1560, but the quantity of silver ultimately shipped in the treasure fleets back to Spain dwarfed that figure. By 1600, 25,000 tons of silver had been transported to Spain.
This massive influx of American silver and gold to European markets caused hyperinflation, not then a concept understood by many economists. Prices of commodities increased by 400% over the 16th century, and Spanish exports suffered as a consequence when wages rose to match. As the historian J. H. Parry notes: The flow of silver steadily increased; it irrigated the economic soil of Old and New Spain, and enriched Cadiz and Barcelona. Together with the gold of Brazil, it helped to finance the early industrial revolution of northern Europe; and since the highest demand for silver was felt, and the highest prices paid, in the Far East, it helped also to finance the commercial and military operations of the East India Companies, and to quicken European maritime trade all around the world. (Source)
Spain, peripheral to western Europe in 1500, produced American treasure in silver, which Spanish convoys bore from Portobelo and Veracruz on the Carribbean coast across the Atlantic to Spain in exchange for European goods shipped from Sevilla (later, Cadiz). Spanish colonialism was the cutting edge of the early global economy. America’s silver permitted Spain to graft early capitalistic elements onto its late medieval structures, reinforcing its patrimonialism and dynasticism. However, silver gave Spain an illusion of wealth, security, and hegemony, while its system of “managed” transatlantic trade failed to monitor silver flows that were beyond the control of government officials. While Spain’s intervention buttressed Hapsburg efforts at hegemony in Europe, it induced the formation of pronationalist state formations, notably in England and France. The treaty of Utrecht (1714) emphasized the lag between developing England and France, and stagnating Spain, and the persistence of Spain’s late medieval structures.
Spain’s overwhelming military power over Inca nations gave them complete control over gold and silver as a trading currency. This first wave of globalization secured the Spanish empire for over 150 years. After that, Spain’s policy planners (proyectistas) scanned abroad for models of modernization adaptable to Spain and its American colonies without risking institutional change. By 1759, despite its efforts, Spain could no longer compete successfully with England and France in the international economy. Possession of physical currencies had to make place for a new area of financial innovation, stock exchange and paper currency. (Source)
2nd Wave of Globalization: A trading empire for global wealth
Spain’s focus on gold and silver, instead of sustainable wealth generation for the economy, was a clear lesson for England. To not repeat Spain’s mistakes, a sufficient global supply must now be ensured for establishing pound as a global trading currency. The second wave globalization began with the overseas possessions and trading posts established by England between the late 16th and early 18th centuries. At its height it was the largest empire in history and, for over a century, was the foremost global power thanks to its leading marine power and pound as the dominating world trading currency.
In the 17th and 18th centuries, England exercised control over its colonies chiefly in the areas of trade and shipping. In accordance with the mercantilist philosophy of the time, the colonies were regarded as a source of necessary raw materials for England and were granted monopolies for their products, such as tobacco and sugar, in the British market. In return, they were expected to conduct all their trade by means of English ships and to serve as markets for British manufactured goods. The Navigation Act of 1651 and subsequent acts set up a closed economy between Britain and its colonies; all colonial exports had to be shipped on English ships to the British market, and all colonial imports had to come by way of England. This arrangement lasted until the combined effects of the Scottish economist Adam Smith’s Wealth of Nations (1776), the loss of the American colonies, and the growth of a free-trade movement in Britain slowly brought it to an end in the first half of the 19th century.
Between 1815 and 1914, a period referred to as Britain’s “imperial century” by some historians, around 10 million sq mi (26 million km2) of territory and roughly 400 million people were added to the British Empire. Victory over Napoleon left Britain without any serious international rival, other than Russia in Central Asia. Unchallenged at sea, Britain adopted the role of global policeman, a state of affairs later known as the Pax Britannica and a foreign policy of “splendid isolation”. Alongside the formal control it exerted over its own colonies, Britain’s dominant position in world trade meant that it effectively controlled the economies of many countries, such as China, Argentina and Siam, which has been described by some historians as an “Informal Empire”. British imperial strength was underpinned by the steamship and the telegraph, new technologies invented in the second half of the 19th century, allowing it to control and defend the empire.
By the start of the 20th century, Germany and the United States had begun to challenge Britain’s economic lead. In the Second World War, Britain’s colonies in East Asia and Southeast Asia were occupied by the Empire of Japan. Despite the final victory of Britain and its allies, the damage to British prestige helped accelerate the decline of the empire. India, Britain’s most valuable and populous possession, achieved independence as part of a larger decolonisation movement supported by America, in which Britain granted independence to most territories of the empire. The Suez Crisis of 1956 confirmed Britain’s decline as a global power, and the transfer of Hong Kong to China on 1 July 1997 marked for many the end of the British Empire. (Source)
3rd Wave of Globalization: the USD representing global wealth
As the biggest WWII military supplier, America accumulated USD 20 million of the 33 million that make up the world central bank’s gold reserve. (Source) Adapting best practices from Spain and Great Britain in their previous globalization efforts, the Bretton Woods system was initiated to secure the USD as the trading currency, promising a fixed exchange rate using gold as the universal standard. Under the Bretton Woods System, gold was the basis for the U.S. dollar and other currencies were pegged to the U.S. dollar’s value. The Bretton Woods System effectively came to an end in the early 1970s when President Richard M. Nixon announced that the U.S. would no longer exchange gold for U.S. currency. The agreement involved representatives from 44 nations and brought about the creation of the International Monetary Fund (IMF) and the World Bank, with both key decision-making procedures fully controlled by Washington.
The British pound accounted for 30% of global foreign exchange reserves as late as 1968, nearly a century after the U.S. supplanted the U.K. as the largest global economy. As of 2020, the U.S. economy still accounted for nearly a quarter of global GDP and was more than 40% larger than its nearest rival. It also had by far the world’s largest current account deficit. A large current account deficit is unavoidable for the issuer of a reserve currency. There’s an inherent tension between global demand for investable assets denominated in a widely used currency and the likelihood that issuing such liabilities in volume over time will dent the issuer’s creditworthiness, eroding confidence in its currency. The conundrum, first outlined by economist Robert Triffin in 1960, is now known as the Triffin Dilemma.
Backing currency by the gold standard started to become a serious problem throughout the late 1960s, especially after the Vietnam war. In 1971, concerned that the U.S. gold supply was no longer adequate to cover the number of dollars in circulation, President Richard M. Nixon devalued the U.S. dollar relative to gold. After a run on gold reserve, he declared a temporary suspension of the dollar’s convertibility into gold.1 By 1973 the Bretton Woods System had collapsed. Countries were then free to choose any exchange arrangement for their currency, except pegging its value to the price of gold. They could, for example, link its value to another country’s currency, or a basket of currencies, or simply let it float freely and allow market forces to determine its value relative to other countries’ currencies. The move was inevitably the final straw for the system and the agreement that outlined it. (Source)
Facing this American failure, the Nixon administration (including Kissinger, who was responsible for recycling the Petrodollar) initiated his visit to China in February 1972. This visit became the true initiator of the 3rd wave of globalization, leading to China joining the western economy and lifting over 1.4 billion Chinese out of poverty. The announcement that the President would make an unprecedented trip to Beijing caused a sensation among the American people, who had seen little of the world’s most populous nation since the Communists had taken power. Nixon’s visit to China in February 1972 was widely televised and heavily viewed. It was only a first step, but a decisive one, in the budding rapprochement between the two states. (Source)
In 1979, the United States and China normalized relations, prompting an explosion of trade over the next four decades from a few billion dollars’ worth to hundreds of billions of dollars annually. China pegged its currency RMB to USD, thus contributing 1.4 billion labor force into the USD dominance as the world trading currency. According to the Department of Commerce, U.S. exports of goods and services to China supported an estimated 758,000 jobs in 2019, (latest data available) 475,000 of those supported by goods exports and 283,000 supported by services exports. (Source) The US trade-in-goods deficit with its global trading partners expanded last year to a record US$1.1 trillion, half of the entire M2 increase (USD 2,0Tn), with China accounting for about one-third of that amount, data from Washington shows. The past year’s goods-only deficit with China reached US$355.3 billion, lower only than US$418.2 billion in 2018, the US Commerce Department reported on Tuesday. A US $859.1 deficit in overall trade, including goods and services, set another record. (Source)
Compromising global USD dominance to sustain technology leadership
To sustain these large-scale benefits of globalization, USD dominance and technology supremacy need to be sustained and, where feasible, enhanced. War in the Ukraine and all sanction measures undertaken against Russia have damaged the Euro as a major rival currency. Now America’s focus is on another threat: The rocketing debt of the American administration which, according to a Treasury report released on Oct 6, 2022, has surpassed USD 31 trillion. (Source) To reduce this debt, there needs to be an increase sustainable tax income: more high value-added jobs need to be transferred back to America.
To do this, Washington must now shift its priority towards innovation and high-tech leadership to revitalize Made in America. By eliminating access to cheap Russian energy, the EU has now significantly reduced the competitiveness of all EU manufactured goods: paving the way for Made in America to replace by Made in Germany (and other EU countries) for the middle class, while Made in China will continue to securely supply the low-income population.
American demand for goods Made in China remains strong. From 2019 to 2021 the FED significantly increased the money supply to fund pandemic relief measures and prevent a recession, extending its balance sheet to USD 9 Tn. The American M2 exploded from USD14,4 Tn in Jan 2019 to USD 21,4 Tn in Jan 2021, an increase of 50%, creating a huge inflation potential by stagnating the economy. (Source) With an accumulated goods/trade deficit of USD 1.01 TN with China in this period, one seventh of the money added into the system was spent buying goods made in China, thus reducing the inflation pressure accordingly. (Source)
American investments into technology leadership
An infrastructure law passed last November assigned more than $20bn for new clean-energy technologies such as carbon capture and nearly $8bn for electric-vehicle charging stations. A technology bill approved in July will put $52bn into semiconductors while promising a further $170bn to support research in other fields. An act passed in August allocates $370bn to combat climate change, including investments in clean vehicles and renewable energy. Together, all this may add up to nearly $100bn of annual spending on industrial policy over the next five years. Combined, this could grow to about 0.7% of America’s GDP, catapulting it past France, Germany and Japan, keen practitioners of industrial policy.（Source）
1. Semiconductor manufacturing
On Aug 2nd, President Joe Biden virtually joined Michigan Governor Gretchen Whitmer to celebrate the CHIPS and Science Act, which aims to boost U.S. competitiveness against China by allocating billions of dollars toward domestic semiconductor manufacturing and scientific research. “This bill makes it clear the world’s leading innovation will happen in America. We will both invent in America and make it in America,” Biden said. The $280 billion act includes $52 billion in incentives for domestic semiconductor production and research, as well as an investment tax credit for semiconductor manufacturing. Advocates say it will allow the U.S. to catch up in the global semiconductor manufacturing race currently dominated by China, Taiwan and South Korea.
The U.S. share of global semiconductor manufacturing capacity has decreased from 37% in 1990 to 12% today, largely because other governments have offered manufacturing incentives and invested in research to strengthen domestic chipmaking capabilities, according to a state of the industry report by the Semiconductor Industry Association. Now China accounts for 24% of the world’s semiconductor production, followed by Taiwan at 21%, South Korea at 19% and Japan at 13%, the report said. With the CHIPS Act, the administration hopes to bring as much semiconductor manufacturing to the U.S. as practically possible, said Bonnie Glick, director of the Krach Institute for Tech Diplomacy at Purdue University. The two allies the administration has leveraged are South Korea and Japan, both of which Biden visited in May. In Seoul, he toured a Samsung computer chip factory that is the model for a $17 billion facility that the South Korean technology giant is setting up in the U.S. state of Texas. Last week, the U.S. and Japan launched a new joint international semiconductor research hub under a “bilateral chip technology partnership” to bolster manufacturing for 2-nanometer chips as early as 2025. Washington has also persuaded Taiwan Semiconductor Manufacturing Ltd. (TSMC) to open a U.S. foundry to produce advanced semiconductors. The $12 billion facility in the state of Arizona was completed last month and is scheduled to start production of 5 nm chips by 2024. TMSC also has plants in China. (Source)
2. Renewable energies and electric car manufacturing
On Aug 16th, US President Joe Biden signed the Inflation Reduction Act (IRA) of 2022 into law, marking the largest climate and energy spending package in US history. The massive energy, climate, and tax bill includes $600 billion in spending, $370 billions of which is dedicated to supporting renewable energy and climate resilience. Solar energy is set to play a central role in the decarbonization and onshoring of U.S. energy. By 2030, it is estimated the IRA will lead to the installation of 950 million solar panels, 120,000 wind turbines, and 2,300 grid-scale battery plants. It will boost U.S. manufacturing, create millions of good-paying jobs, expand access and equity for those who need it most, and improve grid stability and resilience,” said Mary Powell, the CEO of Sunrun.
Domestic manufacturing provisions are central in this law. Production tax credits, roughly $30 billion, will be assigned to U.S. manufacturing of solar panels, wind turbines, batteries, and critical minerals processing. And, $10 billion in investment tax credits will be distributed for facilities that make EVs, wind turbines and solar panels. First, it represents a once-in-a-generation opportunity to achieve energy security and to ensure that the fight against climate change is powered by solar technology that represents American values and principles and is produced here, at home,” said Mark Widmar, CEO of First Solar. “Second, it’s an opportunity to ensure that the benefit of this groundbreaking legislation is shared, creating jobs and economic value where needed most. And finally, it will facilitate the cycles of innovation necessary to ensure our country’s leadership in clean energy technology, ensuring that the next generation of solar technologies is developed and made by America.”
The Act would lead to nearly $3.5 trillion in cumulative capital investment in new American energy supply through the next decade, said the report. Annual US energy expenditures are expected to fall by at least 4% in 2030 under the act, a savings of nearly $50 billion dollars per year for households, businesses and the industry. (Source)
Carmakers may need several years to revamp their supply chains to meet new rules, but the legislation is still seen as a win for electric vehicles. The climate and energy package approved by Congress aims to achieve two goals that are not always compatible: Make electric vehicles more affordable while freezing EU and Asia, especially China, out of the supply chain. A feature of the bill that has generated the most complaints would require that by 2024 at least 50 percent of the components in an electric car battery come from the United States, Canada or Mexico. The percentage rises to 100 percent in 2028. And the share of the minerals in batteries that have to come from the United States or a trade ally will climb to 80 percent in 2026. The legislation leaves it to regulators to decide which components would be classified as Chinese. It’s unclear, for example, whether Chinese companies like CATL, the world’s largest battery maker, would be frozen out of the market if they produced batteries in the United States. CATL has reportedly been exploring building a factory in the South to supply Ford Motor and BMW. (Source)
Germany, in the meantime, has already suffered a great setback in its battery ambitions: According to the Wall Street Journal ,Tesla Inc is suspending plans to make battery cells in Germany as it looks at qualify for electric vehicle and battery manufacturing tax breaks in the United States. This move again confirms that the high value-adding jobs needed in America are rather in Europe than in China. (Source)
The Eurozone sanctions against Russia, as well as the North Stream gas leaks, have damaged the Euro as a global training currency. It is no longer a threat to USD dominance. Imposing sanctions on China would have an even larger effect on the Made in the Eurozone economy, leading to a further exodus of high-value jobs towards America.
America, in the meantime, has adapted all the Best Practices from the 1st and 2nd wave of globalization for its 3rd wave: Establishing USD dominance for free access to valuable, global resources and assets, with the economic consequence of being a trading deficit nation and losing jobs to all export surplus nations.
If Washington wants to rely on governmental intervention instead of leveraging USD supremacy via free trade, America might lose its true competitive advantages over China or any other potential rival economy, including Eurozone countries, in the long term. This is now a much more difficult balancing act for Washington to manage strategically: more challenging than war in the Ukraine and the North Stream gas leaks.