Eric King:  “What we are looking at right now is a financial war between the U.S. and China.”

Dr. Steil:  “That’s right.  In the 1940s the U.S. was the world’s largest international creditor, and Britain was the world’s largest international debtor.  Today, China is the world’s largest international creditor, and of course the United States is the world’s largest international debtor. 

And it’s fascinating to see that the United States today takes the same position in terms of identifying the flaws in the global monetary architecture that Keynes and the British took in the 1940s.  For example, former Treasury Secretary Tim Geithner, in 2010, proposed imposing caps on persistent current account surpluses.  Of course that was aimed at disciplining Chinese economic behavior....

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“This was exactly the sort of position that Britain was taking in the 1940s, Harry Dexter White and the FDR administration condemned.  So where you stand depends on where you sit at the time.”

Eric King:  “This is also a quote (from Dr. Steil) ‘At present, the United States has no need to accommodate calls for it to sacrifice its exorbitant privilege (having the world’s reserve currency) to some vague vision of the global good.  It will only waver when the market initiates a clear shift toward alternatives.”  What about that (Dr. Steil)?”

Dr. Steil:  “Well, in the 1940s there was a deal to be done between the United States and Britain.  It was a harsh deal, and it was an imbalanced deal as I explained, but nonetheless it was a deal to be done.  Britain needed financing to get through the war, and the Americans needed British acquiescence to make the dollar the global unit of account. 

But the situation with China today is not the same, and let me give you just one little anecdote to illustrate this:  In 1956, the Eisenhower administration forced the British out of (the) Suez (Canal) by threatening to withhold emergency IMF support. 

Now, the United States, at the time, could afford to provoke a sterling crisis at no cost to itself because in 1956 U.S. holdings of British securities amounted to only one dollar per U.S. resident.  Now, compare that to today, where Chinese holdings of U.S. securities amount to over (a remarkable) $1,000 per Chinese resident.

So China cannot afford to provoke a dollar crisis today because it would be hurting itself at least as much as it would be hurting the United States.  And that’s why there is really not, in my view, a deal to be done right now between the United States and China to remake the global international architecture ... As you quoted, China has a vast stash of dollar-denominated assets, and it doesn’t want to do anything that would undermine the global purchasing power of this hoard.  So they are in quite a bind.”

Eric King:  “What about the Chinese accumulating so much gold?”

Dr. Steil:  “No doubt they are, and one reason is that they view gold as being a potential alternative reserve to the U.S. dollar.  Gold, similarly to the U.S. dollar, tends to do well in a crisis, and can play a similar role to the U.S. dollar when a country gets into financial difficulties.”

Eric King:  “Dr. Steil, obviously you know Alan Greenspan, Paul Volcker, both the former Fed chairmen, and I’m just curious -- the difference between them as you see it?”

Dr. Steil:  “They have very different intellectual temperaments.  Paul Volcker tends to see the world from 35,000 feet.  He is a big-principles guy and believes that details really get in the way of seeing what’s important.  That’s his approach, for example, to the Volcker Rule, trying to eliminate proprietary trading at the big international banks.  He thinks that all of this obsession with the detail in the legislation, implementing this, is nothing more than a diversion.

Alan Greenspan is very different.  Alan Greenspan loves data.  He does his own data analysis.  If he’s interested in a particular article I wrote, he will sometimes even ask me for the Excel spreadsheet so he can play around with it himself.  And he loves to talk about historical data relationships.  So he’s a much closer-to-the-ground sort of analyst than Paul Volcker.  I think they are both fascinating men, both brilliant, but brilliant in very different ways.”

Eric King:  “What has you worried about what the Fed is doing, Dr. Steil?”

Dr. Steil:  “Here’s my big concern, Eric.  As you know, by the end of the year the Fed will own about $1.5 trillion of mortgage-backed securities.  Ben Bernanke has virtually pledged not to sell those securities.  So normally you would expect Fed monetary tightening to take place by selling securities into the market, but here you have the Fed saying it’s not going to do it.

It’s going to do things like term deposit auctions.  In other words, trying to get banks to lock up their reserves for a period so they don’t lend them out and create an excessive credit boom.  But we already know from experience in Europe that the central banks are unwilling to let the market determine rates as they would have to in a term deposit auction.  

So the ECB, for example, has run such auctions while putting caps on the rate it will pay.  Therefore, many of its auctions have actually failed.  In other words, the ECB has failed to withdraw the number of euros from the market that they pledged to the market that they would. 

Now that hasn’t caused any crisis because the ECB is not in a tightening mode.  But if the Fed were to make such promises to the market, and renege in the way that the ECB is doing now while the Fed was in a tightening mode, I think you would have a serious crisis.  So I’m very worried about the Fed’s exit strategy.”

This is an incredibly fascinating interview with one of the most well respected individuals in the world when it comes to international economics, which covers the financial war between the U.S. and China, China’s large dollar hoard and their acumulation of gold, as well as what the future of global currencies will ultimately look like.  The interview with Dr. Benn Steil has now been released and you can listen to it by CLICKING HERE.

© 2013 by King World News®. All Rights Reserved. This material may not be published, broadcast, rewritten, or redistributed.  However, linking directly to the blog page is permitted and encouraged.

The audio interviews with Stephen Leeb, Dr. Benn Steil, Eric Sprott, Andrew Maguire, John Hathaway, Dr. Paul Craig Roberts, MEP Nigel Farage, Rob Arnott, Egon von Greyerz, Gerald Celente and Art Cashin are available now.  Also, other outstanding recent KWN interviews include Jim Grant and Felix Zulauf by CLICKING HERE.

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