Dear Reader,

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As tensions with Iran escalate, something predictable is happening in the markets.

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Money is flowing into the U.S. dollar.

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Investors call it a “flight to safety.”

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When things get messy in the world, capital flees toward the deepest, most liquid financial system on Earth.

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And for now, that still means the U.S. dollar.

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Being the world’s reserve currency has given the United States enormous advantages.

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It has allowed us to borrow more cheaply than almost anyone else.

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It has allowed us to run persistent trade deficits without triggering a currency collapse.

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And it has allowed Washington to finance government spending on a scale that would break most other countries.

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But this privilege also comes with a hidden cost…

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A structural contradiction that essentially forces America deeper and deeper into debt – even without the actions of the populist politicians.

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That contradiction is called Triffin’s Dilemma.

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Back in the 1960s, economist Robert Triffin warned Congress about a fatal flaw built into the global monetary system. He said:

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“If the United States stopped running balance of payments deficits, the resulting shortage of liquidity could pull the world economy into a contractionary spiral…

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However, excessive U.S. deficits would erode confidence in the value of the U.S. Dollar. Without confidence in the dollar, it would no longer be accepted as the world's reserve currency.”

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His argument was simple.

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If your currency is the world’s reserve currency, the rest of the world needs a constant supply of it. Countries need dollars to:

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• Trade commodities like oil
• Settle international transactions
• Service dollar-denominated debt
• Build foreign exchange reserves

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Otherwise the entire world risks being pulled into a contractionary spiral.

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Before 1971 before Nixon closed the gold window, those dollars didn’t magically appear overseas. 

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They had to leave the United States first.

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The main way that happened was through trade deficits – the U.S. importing more than it exports.

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In other words, in order to maintain its status as the global reserve currency…

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America practically had to keep running trade deficits – which ironically eroded confidence in the value of the dollar.

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Imagine the dollar system like a casino where the United States is the only table that can issue chips.

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If the casino didn’t keep handing out new chips, the game stopped – but the more chips it produced, the less each chip was ultimately worth.

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That’s the dilemma. And:

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This Dilemma Broke the Bretton Woods System

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After World War II, the global financial system was built around the dollar.

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Other currencies were pegged to the dollar, and the dollar itself was tied to gold at a fixed rate of $35 per ounce.

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In theory, that meant the dollar was “as good as gold.”

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But the system also meant the world needed more and more dollars as global trade expanded.

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So the United States began supplying them.

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Dollars flowed overseas through foreign aid, military spending, and Americans buying foreign goods. 

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It hollowed out our manufacturing base, and sunk us deeper and deeper into debt.

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In other words, the U.S. started running the very balance-of-payments deficits Triffin warned about.

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Eventually there were more dollars circulating abroad than there was gold in Fort Knox to back them.

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Foreign governments noticed, and they started doing the obvious thing – exchanging those dollars for gold.

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Gold began leaving the United States – fast. Way too fast.

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By the late 1960s the system was crackling.

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And in 1971, President Nixon ended dollar convertibility into gold…

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Collapsing the Bretton Woods agreement, and sticking us with the fiat system we have today.

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The Triffin Dilemma in the Fiat Era

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Today, the US dollar is no longer backed by gold.

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So dollars can now be loaned into existence in foreign banking systems, just like they are in domestic banks.

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These banks press a few buttons and the dollars magically appear.

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So we may not have to run massive trade deficits anymore, but the dynamic of Triffin’s Dilemma is still the same.

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Because countries need to hold our currency in reserves…

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Because most of the debt taken out globally is done so in US dollars…

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Because the U.S. has essentially become the “lender of last resort” for the entire world…

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In order to maintain its position as the world's reserve currency, America is still on the hook to print money and provide liquidity to the world.

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That’s why after every financial crisis we sink deeper and deeper into debt.

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We aren’t just bailing out our own banks.

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We are bailing out the entire global economy.

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But now with the U.S. debt ballooning to the largest levels in history. 

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It’s becoming apparent that we soon won’t even be able to afford the interest on that debt.

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And other countries are beginning to take notice.

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In fact, and Zhou Xiaochuan Governor of the People’s Bank of China issued a warning saying that:

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“The issuing countries of reserve currencies cannot maintain the value of the reserve currencies while providing liquidity to the world. The costs of such a system to the world may have exceeded its benefits.”

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In other words, Triffin’s Dilemma may have finally run all the way to its end. 

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