Too big to fail. The concept that if major corporations collapse the U.S. economy will follow may come true soon, according to an ex-IMF official. The bankruptcy of large companies will cause the U.S. dollar to collapse, he says.
The International Monetary Fund (IMF) is an organization of 189 countries, whose goal is to promote global monetary cooperation, secure financial stability, and facilitate international trade.
There’s no denying the coronavirus pandemic has put additional pressure on the U.S. dollar, causing major economic stress.
And the U.S. economy may implode from the pressure, said Zhu Min, who was deputy managing director of the IMF from 2011 to 2016. According to Min, the U.S. dollar’s position as the dominant global currency was at risk of being eroded because of mounting US government debt, South China Morning Post reported.
All the more need for a second stimulus package, some say. Experts point out the stimulus will increase spending and cause a needed injection into the economy. Currently, Congress is considering a fresh round of relief to support the economy that is likely to cost at least $1 trillion on top of the more than$2 trillion passed earlier this year.
“The concern isn’t whether the U.S. dollar will see an accumulated decline of 30 percent in the future, but whether there will be a blow-up event that causes a sudden loss of confidence in the U.S. dollar, and its market to collapse,” said Zhu, currently head of the National Financial Research Institute at Tsinghua University in Beijing.
What exactly is a dollar collapse?
“A dollar collapse is when the value of the U.S. dollar plummets. In that scenario, anyone who holds dollar-denominated assets will sell them at any cost. That includes foreign governments that own U.S. Treasurys. It also affects foreign exchange futures traders. Last but not least, it will hit individual investors,” The Balance reported.
Still, major companies have taken big hits during the pandemic and this has caused major concern for economists.
“So, the question of whether there will be a financial crisis will depend on whether a major company will be the next to go bankrupt, and thereby result in a jump in the corporate default ratio, leading to a sovereign debt crisis,” Zhu said.
This will have global ramifications as the U.S. became the lender of choice for many countries that were willing to buy U.S.-dollar-denominated bonds. “This provided the U.S. with what’s been dubbed an ‘exorbitant privilege’ to run with soaring public deficits and debt, as international funds have chased the safe-haven status of U.S. dollars and assets during times of turmoil,” South China Morning Post reported.
“Past an unknown critical threshold, [using monetary policy to deal with public deficit] could see the collapse of U.S. dollar currency hegemony as people lose faith in it,” Michael Every, a global strategist at Rabobank, said. “All systems can only be pushed so far. Does the world still want a U.S.-dollar-centric system if U.S. dollars are openly printed to fund the state spending that drives the external deficit?”
This is particularly important in regard to the U.S.-China relations. According to Steven Englander, global head of G10 currency research and North America macro strategy at Standard Chartered Bank New York, the slide in the U.S. dollar’s share of global reserves in the past two decades represents the combination of a lower U.S. dollar share in China’s reserves and the selling of U.S. dollars by reserve managers.
“The U.S. dollar looks worse as a reserve currency when financial markets are tranquil,” Englander said. “When the liquidity is no longer required, unneeded U.S. dollar balances will be put back into the market, and the U.S. dollar will likely fall.”
But other economists say not to panic yet. “The dollar is not exhibiting an underlying weakness. Between January 2008 and 2020, the dollar has strengthened by 30 percent, from 89.2 to 115. The coronavirus pandemic strengthened it a further 10 percent, rising as high as 126.4 on March 23, 2020,” The Balance reported.
The global economy will probably be very hesitant to turn away from the dollar. “There is no viable currency alternative for everyone to buy. The next most popular currency after the dollar is the euro. But it comprises only 21 percent of central bank reserves,” The Balance reported.
“Altogether, foreign countries own more than $6 trillion in U.S. debt. The two largest are China and Japan. If they dump their holdings of Treasury notes, they could cause a panic leading to collapse,” The Balance reported. Most likely they will not dump their holdings. The economies of Japan and China are heavily dependent on U.S. consumers.
But because of the world’s dependency on the dollar, the IMF recently declared the dollar a threat to the world economy.
According to the IMF, the U.S. economy lost 37 percent in the second quarter and by the end of the year, GDP is expected to fall by 6.6 percent, Free News reported.