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Economist Warns: U.S. Fiscal Policies Could Be An 'Achilles Heel' For The Dollar

AInvestTuesday, Mar 5, 2024 7:24 am ET
2min read

Recently, the near-record highs of both gold and bitcoin prices have attracted the attention of many financial market participants.

While there are individual factors behind the upswing of these two asset classes such as the impending Bitcoin halving and geopolitical situations causing risk aversion, some insiders have also flagged an undeniable backdrop: the staggering scale of U.S. government debt.

In fact, whether it's Bitcoin or gold, they are seen by a small group as having the possibility of replacing the US dollar, or at the least, as multi-asset allocation options.

Well-known economist Daniel Lacalle, who once served as Vice President at Pacific Investment Management Company (PIMCO), recently warned that while the real threat to the US dollar's dominance might not be Bitcoin, unsustainable fiscal policies are bound to be blamed.

Lacalle pointed out a phenomenon noticed last weekend by U.S. media: the staggering rate of growth of U.S. government debt now stands over $34 trillion. The size of U.S. debt has grown so much that it's expanding by a trillion dollars every hundred days.

For instance, according to data from the U.S. Department of Treasury, after breaking the $34 trillion mark briefly on December 29 last year, U.S. debt had permanently broken this threshold by January 4. U.S. debt reached $33 trillion on September 15, 2023, and $32 trillion on June 15, 2023.

Compared to the past, the rate of U.S. government debt expansion is showing an accelerating trend. The expansion from $31 trillion to $32 trillion took about eight months.

Lacalle believes this trend is unsustainable, especially amid an economic recovery marked by strong job growth and income increases.

Key to Lacalle's argument is that the speed of U.S. debt accumulation against the growth of Gross Domestic Product (GDP) is the worst since 1930. He emphasized that while the U.S. economy appears strong on the surface, the scale of national debt is expanding at an unprecedented pace, a paradox.

Lacalle questioned the idea of economic recovery, pointing out that wage purchasing power is declining, U.S. households face more significant economic pressures, and negative real wage growth is intensifying these conditions.

Lacalle criticized Modern Monetary Theory (MMT) as a controversial economic theory interpreted by some as a stop-gap measure allowing unlimited government spending. According to this theory, the only real limit to government spending is inflation.

However, Lacalle opined that despite a 20% cumulative increase in the U.S. inflation rate over the past four years, the U.S. continues fiscal expansion, indicating a disregard for the long-term health of its economy and the U.S. dollar. He warned that the ideological lure of MMT masks the severe dangers engendered by its practical application and would eventually burden households with the consequences of fiscal irresponsibility.

Lacalle also pointed out that cryptocurrency's rise is not the primary threat to the U.S. dollar's status as the world's reserve currency. Instead, a dwindling faith in U.S. fiscal and monetary policy poses a higher risk.

He warned that the loss of currency sovereignty might occur suddenly when confidence in fiscal discipline vanishes, leading to a vicious cycle of higher borrowing costs and increasing inflation. It could ultimately topple the U.S. dollar.

It's worth noting that strategists at Bank of America also stated last weekend that the U.S. government's debt is increasing by $1 trillion every 100 days, which helps explain why assets like gold and bitcoin are trading near historic highs. Led by Michael Hartnett, BofA strategists estimated in their report last Friday that the journey from $34 trillion to $35 trillion would take just 95 days.

According to Bank of America, the consequence for markets is that as gold and bitcoin prices have recently risen, trades related to bond devaluation will become attractive.

Disclaimer: the above is a summary showing certain market information. AInvest is not responsible for any data errors, omissions or other information that may be displayed incorrectly as the data is derived from a third party source. Communications displaying market prices, data and other information available in this post are meant for informational purposes only and are not intended as an offer or solicitation for the purchase or sale of any security. Please do your own research when investing. All investments involve risk and the past performance of a security, or financial product does not guarantee future results or returns. Keep in mind that while diversification may help spread risk, it does not assure a profit, or protect against loss in a down market.