East is East and West is West

In my most recent post I recounted the story of John Law, the 18^th century central banker that set out to save France via a scheme that involved paper money and a stock market bubble, but that wound up in an inevitable state of collapse.

One of the more interesting aspects of that period was how Law acted as the bubble inflated. As the apparent wealth and power of France rose with the overvalued share price of the Mississippi Company, Law became more jingoistic and threatening toward France’s two major rivals, Britain and Holland.

Financial bubbles mislead not only investors into believing that they have far more wealth, power and influence than they actually do, but politicians as well.  And for politicians, power not utilized is power wasted.

As the US and the West seem to be on an apparent collision course with Russia over Ukraine, I can’t help but notice that today’s politicians in the West seem to be behaving as badly as did John Law with regard to threatening other countries. I will argue that while the causes of this current bellicosity may be many, the financial bubble in the West is surely one of the main drivers.

The West just flat out believes that its financial power and influence is so great that its wishes and demands cannot be refused by other nations. Russia must bend or be financially destroyed by sanctions, or worse. China, with their actions in the South China Sea also appears to be on Washington’s naughty list and they will certainly be targeted next. To the Austrian oriented analyst however, much of the West’s economic power is nothing but a mirage as decades of malinvestment fostered by central bank interference with market interest rates has created an economy that is far weaker and more vulnerable than most believe. 2008 was not a one-off event.

Here is where the tale gets interesting; Russia and China appear to have no interest in backing down, perhaps due to an understanding of the West’s inherent economic weakness.

As I recounted with the John Law story, the dissonant voice during bubbles gets silenced. In Law’s day, the primary loser was Britain’s ambassador to France, the Earl of Stair.

Stair saw through the smoke and mirrors of Law’s scheme and said so. British politicians thought it unwise to antagonize someone as powerful as Law and Stair was sacked.

Being right doesn’t help much in these instances, at least in the short term. Things are no different today. Reason and logic always take a back seat to fashion during a bubble, at least here in the West. While freedom of speech (generally) exists in the West, it can be powerfully silenced by fashion. Today, what is fashionable is to claim faith in the bubble.

While the West often clings to the fashionable, those in the East have learned a different lesson that they may be applying here. The lesson that Russia has learned from history is that when challenged by the Western powers you should give ground to your enemies until he is hopelessly overextended. Then you can counterattack and defeat them. This worked on Napoleon and Hitler.

Napoleon actually made it all the way to Moscow and captured what was then nothing but a burned out shell of a city. He was left there starving with his troops through a bleak Russian winter. He left France with 500,000 men under his command and returned with but 25,000. The Germans fared no better in WW II.

Today, infinite dollar creation has made the US supremely vulnerable to a dollar-selling counterattack.

The questions before us then are: Does Russia understand just how vulnerable the West has made itself economically via nearly infinite fiat money and credit creation? Are they willing to play the dollar card as a way to reduce the West’s ability to interfere in their traditional spheres of influence? Is China willing to go along with Russia here, recognizing that the West’s wrath will soon be directed its way?

While the following story appears to have been denied by Russia and China, Hank Paulson, US Treasury secretary in 2008, claims that China said that Russia had approached it about dumping US bonds during the crisis.

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=afbSjYv3v814

Perhaps Paulson was just looking to burnish his reputation as an economic firefighter, or perhaps the story is true, either way, it does highlight the very real potential for economic calamity should these two act in concert against the dollar.

To this analyst, the US appears to be acting in a fashion similar to that of John Law nearly three centuries ago during another financial bubble. Russia and China do not appear to be too afraid, however. Perhaps this is because they believe that they hold the ultimate card in this game of poker with the potential to create a dollar crisis.

Unfortunately, the US, clinging to the mirage of infinite economic power that has been engendered by the financial bubble has made itself acutely vulnerable here. What is worse, Washington’s actions towards Russia and China just may force these two powers to pull the pin on the dollar hand grenade.

Disclaimer: Nothing on this site should be construed as investment advice. It is all merely the opinion of the author.