The situation looks like a replay of the 1997 East Asia crisis. Countries like Russia are trying to defend their currencies by buying up their local currency (like rubles) with dollar and other reserves. In essence, they want to maintain a dollar peg even though their banking systems have inflated even more than the U.S. The funds become exhausted rather quickly because this scheme only provides an opportunity for traders to sell them more of the local currency for dollars. The IMF will lend them even more dollars to continue this ploy which will fail, inasmuch as the equilbrium exchange rate has fallen. The banking systems of the affected countries are no doubt in dire shape as was the case in 1997.
These schemes to hold up currency exchange rates are akin to the futile attempt to hold up home prices. They are all variations on indexation. The attempt is to index some price (of homes or currency)to an old and high price level of goods that is now out of date because a deflation of prices has set in that is worldwide.
The root problem is that almost every nation-state has its own central bank and its own currency, many of which are tied to a handful of reserve currencies that are themselves none too stable. Central banking with currencies lacking fixed measures of conversion into gold is a system that produces inflation and periodic crises. We need to end central banking altogether. If states would then choose a fixed gold unit of account, like 1/735 ounce of gold per dollar, and allow free banking, then banks could issue bank notes convertible into gold and stability might emerge as it did with the short-lived gold standard before World War I. At the same time, all alternative forms of issue should be legal so that other money instruments might come into existence.
6:12 pm on October 24, 2008
