A growing number of macroeconomists and financial analysts are sounding the alarm about the exploding US national debt, now approaching US$35 trillion or 120% of GDP. Interest payments on the debt have become the largest item in the US national budget, ahead of defense spending and entitlements.
In early June, former US House Speaker Paul Ryan proposed that the US government should accept stablecoins, asset-backed cryptocurrencies, as payment for US Treasuries. Ryan argued that the measure would create an “immediate, durable increase in demand for US debt, which would reduce the risk of a failed debt auction and an attendant financial and economic crisis.”
Ryan’s proposal can be seen as a sign of how serious the US debt problem has become. Cryptos were conceived as anti-fiat currencies. They are privately issued digital currencies that can be used anonymously throughout the world. Bitcoin, the first cryptocurrency, was meant to be a platform for a new financial system that could start with a clean slate.
Fast forward to 2024 and crypto advocates in the US are calling for asset-backed cryptos (stablecoins) to be regulated so they can be used to purchase US Treasuries and to pay taxes. Cryptos may come to the rescue of the flawed financial system they were supposed to replace.
Two weeks after Ryan made his proposal, US Congressman Matt Gaetz introduced a bill that would allow Americans to pay their federal income tax in Bitcoin. Gaetz said the radical move would promote innovation, increase efficiency and offer more flexibility to American citizens.
Gaetz said in a statement: “This is a bold step toward a future where digital currencies play a vital role in our financial system, ensuring that the US remains at the forefront of technological advancement.”
The question is whether a fiat currency can coexist with privately issued currencies. The dollar lost 90% of its value in the last 50 years and it continues to lose purchasing power at a rate of about 10% per year.
Cryptos vary widely in value, but nearly all of them are priced in dollars. That means they are not immune to a possible (some economists say inevitable) devaluation of the dollar.
Bitcoin Pizza Day
A bit of crypto history. On October 31, 2008, a computer programmer using the pseudonym Satoshi Nakamoto posted a paper on a cryptography bulletin board to announce Bitcoin, the first peer-to-peer cryptocurrency. Users could “mine” Bitcoins by solving complex mathematical problems and be rewarded with the newly minted Bitcoins.
Nakamura pointed at the 2008 bailout of Wall Street with taxpayer money to argue that the financial system was corrupt and benefitted a small elite. Bitcoin would be the people’s money, beyond the control of governments. It would enable people to make payments to anyone in the world anonymously and nearly free of charge.
Only 21 million Bitcoins could be mined, making the digital currency immune to inflation caused by excessive money printing, a typical feature of fiat currencies.
In 2010, Bitcoin recorded its first commercial transaction. A Bitcoin miner named Laszlo Hanyecz offered 10,000 BTC to whoever delivered two pizzas to his home in Florida.
British programmer Jeremy Sturdivant accepted the offer. He had two pizzas delivered to Hanyecz’s home at a cost of $25, and Hanyecz transferred 10.000 bitcoins to Studivant’s Bitcoin wallet. The transaction valued Bitcoin at $0.0041.
Bitcoin’s first transaction, remembered as Bitcoin Pizza Day, generated broader interest in the digital currency. Entrepreneurs invested in server farms to mine bitcoins and opened crypto exchanges to help people buy and sell cryptos. In a mere 15 years, Bitcoin’s price went from virtually zero in 2009 to a peak of $75,830 in early 2024.
Bitcoin failed to make much headway as a payment currency. Only a tiny fraction of Bitcoin transactions are used for retail. The rest involves crypto trading.
Crypto entrepreneurs have launched several variations of cryptos. Among them are stablecoins. Some stablecoins are backed by assets like real estate, corporate debt, and even other cryptocurrencies, others are backed by reserves of fiat currencies held in bank accounts. A crypto named DigixDAO is backed by 1 gram of gold that is stored in a vault, providing “a stable value backed by physical gold.”
The emergence of gold-backed cryptos is ironic. The problems in the financial system, ostensibly the trigger for the development of Bitcoin, were caused in large part by the decision of the US government in 1971 to take the dollar off the gold standard.
The petrodollar
After WWII, the US dollar became the global reserve currency. Under the Bretton Woods Agreement of 1944, the dollar was pegged to gold at a fixed price of $35 per ounce. The British pound, the French franc and currencies of other countries were pegged to the dollar, and thus indirectly to gold. Gold reserves impose fiscal discipline on countries by limiting the amount of money that can be issued.
In the 1960s, several European countries became concerned that the US government was financially overextended, the result of a costly war in Vietnam and the introduction of social programs (the War on Poverty). European economists suspected that the US was printing more dollars than it could back by gold.
The French government made its concerns known in dramatic fashion. It sent a warship to New York loaded with dollars and demanded gold in return. Several other countries followed suit, albeit without warships, and they gradually drained US gold reserves.
At the end of World War II, the US had 21 metric tons of gold. In 1971, only 8.133 tons remained. Concerned about losing its remaining stock, the US government announced that it would temporarily close the so-called gold window, thereby defaulting on the Bretton Woods Agreement.
To keep up global demand for dollars, the US in 1974 convinced Saudi Arabia to sell oil exclusively in dollars in exchange for military protection. The agreement required all oil-importing nations to maintain dollar reserves, creating an ever-growing demand for dollars.
The so-called petro-dollar solidified the role of the US dollar as the global reserve currency. The oil trade represents only 7% of the global economy, but it is essential to the other 93% of the economy.
Exploding debt
No longer constrained by the limits imposed by the gold standard, the US government rapidly increased its debt. In 1971, US debt was $400 billion, in 2024 it reached $34 trillion, or 120% of GDP.
To finance its deficits, the US government issues interest-bearing Treasuries. Backed by “the full faith and credit” of the US government, Treasuries have been regarded as a risk-free investment. The main buyers were private investors, foreign governments, pension funds and insurance companies.
But history is repeating itself. In the late 1960s, France was concerned about the US gold reserves. Today, China is concerned about US Treasuries.
As China became the factory of the world, it developed a massive trade surplus with the US, reaching at one point $1 billion a day net. China used part of its dollar hoard to buy US Treasuries and become the world’s largest creditor to the US, rivaled only by Japan.
But then came the Global Financial Crisis of 2008 and the infamous bailout of Wall Street. China concluded that the US had no intention to reign in spending or to reform its financial or political system. All through the 2010s, China gradually reduced its purchases of US debt. Moreover, it started to lay the foundation for an alternative financial architecture.
De-dollarization
Om 2021, China, Hong Kong, Thailand and the UAE announced they were developing mBridge, a digital alternative to SWIFT (Society for Worldwide Interbank Financial Telecommunication). Notably, mBridge is based on a variant of blockchain, the technology used in most cryptocurrencies.
mBridge is built to accommodate Central Bank Digital Currencies and is the likely template for a financial settlement system for BRICS countries. The Cooperation Council for the Arab States of the Gulf (GCC), comprising Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the UAE, has tested its own CBDC Bridge that will be connected to mBridge.
BRICS is also developing a trading currency unit that could be backed in part by gold, oil, and other commodities. A gold or oil-backed currency would be the biggest challenge to the dollar yet. Gold and oil appear to be strange bed-fellows, but they have retained near-parity for over a century. Their respective prices move within a very narrow bandwidth.
In 1971, when the US closed the gold window, an ounce of gold sold for $35. It reached $2,450 in early 2024. In 1971, a barrel of oil was $3.60. In recent years it has traded between $80 and $100 a barrel. Measured in gold and oil, the dollar lost about 90% of its value in the last 50 years.
If BRICS launches a currency pegged to gold, it could affect the price of everything from oil and gold to copper, aluminum and the strategically important rare earths used in green technology.
An expanding BRICS will not only control a lion’s share of global commodities but will also be the leading producer of many industrial and consumer goods. The total economic output of the current BRICS members already surpassed that of the G7.
In June of this year, Saudi Arabia announced that it would join both BRICS and mBridge. The Saudis were already selling oil in non-dollar denominations but the announcement made clear that the Saudi commitment to the petro-dollar had ended.
The Saudi decision elicited a response from Michael Saylor, co-founder of crypto giant MicroStrategy. Saylor argued the Saudis were making a mistake and should have opted for Bitcoin instead.
He wrote: “Imagine a world where 50,000 banks use bitcoin with P2P settlements with each other. Ask the Bank of Australia, the Bank of Austria, or the Bank of China if they wouldn’t like to have an asset that doesn’t lose 7 to 10% of its value annually. Ask them if they wouldn’t like to be able to make transactions with any other bank in the world, peer-to-peer. It’s an improvement over the existing system.”
Saylor probably knows better. Why would Saudi Arabia, China, and other BRICS countries sell their commodities or industrial products in a cryptocurrency that is valued in dollars while they are moving away from the dollar system?
Crypto or gold?
The US debt problem has been exacerbated by extreme forms of financial engineering. Bringing cryptocurrencies into the financial system is taking this a big step further. Cryptos can be used anonymously and across borders, making it ideal for tax evasion. It could, according to economist Michael Hudson, turn the US into “the new Switzerland.”
Hudson wrote: “The US sees acting as the destination for the world’s tax avoiders, criminals and others as a positive national strategy. The plan is not to condemn tax crime and more violent criminal activities but seeking to profit from being the banker for these functions.”
Macroeconomist Luke Gromen argues that barring a productivity miracle through AI or a breakthrough in cheap energy, the US has three choices, none of them painless: It has to cut defense spending and entitlement by at least 30%, it can partially default, or it can inflate away the debt. The first two options are politically possible only in a national emergency, the latter will cause years of extremely high inflation.
Moreover, says Gromen, the US will have to re-industrialize to reduce its reliance on foreign manufacturers for even the most basic of products. The next US president will have to formulate an industrial policy, or better yet, a national plan to reimagine society.
In the short term, there is no reason for optimism. Former US president Donald Trump gave cryptos his blessing. His reelection campaign accepts donations in cryptocurrencies, and he has vowed to punish countries that stop using the dollar.
That doesn’t sound like a plan. Reserve currencies are on the way out. They are remnants of the colonial era.
