Currency Wars_ The Making of the Next Global Crisis - James Rickards [111]
When the dollar collapse comes, it will happen two ways—gradually and then suddenly. That formula, famously used by Hemingway to describe how one goes bankrupt, is an apt description of critical state dynamics in complex systems. The gradual part is a snowflake disturbing a small patch of snow, while the sudden part is the avalanche. The snowflake is random yet the avalanche is inevitable. Both ideas are easy to grasp. What is difficult to grasp is the critical state of the system in which the random event occurs.
In the case of currency wars, the system is the international monetary system based principally on the dollar. Every other market—stocks, bonds and derivatives—is based on this system because it provides the dollar values of the assets themselves. So when the dollar finally collapses, all financial activity will collapse with it.
Faith in the dollar among foreign investors may remain strong as long as U.S. citizens themselves maintain that faith. However, a loss of confidence in the dollar among U.S. citizens spells a loss of confidence globally. A simple model will illustrate how a small loss of faith in the dollar, for any reason, can lead to a complete collapse in confidence.
Start with the population of the United States as the system. For convenience, the population is set at 311,001,000 people, very close to the actual value. The population is divided based on individual critical thresholds, called a T value in this model. The critical threshold T of an individual in the system represents the number of other people who must lose confidence in the dollar before that individual also losses confidence. The value T is a measure of whether individuals react at the first potential sign of change or wait until a process is far advanced before responding. It is an individual tipping point; however, different actors will have different tipping points. It is like asking how many people must run from a crowded theater before the next person decides to run. Some people will run out at the first sign of trouble. Others will sit nervously but not move until most of the audience has already begun to run. Someone else will be the last one out of the theater. There can be as many critical thresholds as there are actors in the system.
The T values are grouped into five broad bands to show the potential influence of one group on the other. In the first case, shown in Table 1 below, the bands are divided from the lowest critical thresholds to the highest as follows:
Table 1: HYPOTHETICAL CRITICAL THRESHOLDS (T) FOR DOLLAR REPUDIATION IN U.S. POPULATION
The test case begins by asking what would happen if one hundred people suddenly repudiated the dollar. Repudiation means an individual rejects the dollar’s traditional functions as a medium of exchange, store of value and reliable way to set prices and perform other counting functions. These one hundred people would not willingly hold dollars and would consistently convert any dollars they obtained into hard assets such as precious metals, land, buildings and art. They would not rely on their ability to reconvert these hard assets into dollars in the future and would look only to the intrinsic value of the assets. They would avoid paper assets denominated in dollars, such as stocks, bonds and bank accounts.
The result in this test case of repudiation by a hundred people is that nothing would happen. This is because the lowest critical threshold shared by any group of individuals in the system is represented by T = 500. This means that it takes repudiation by five hundred people or more to cause this first group to also repudiate the dollar. Since only one hundred people have repudiated the dollar in our hypothetical case, the critical threshold of T = 500 for the most sensitive group has not been reached and the group as a whole