February 10, 2008

Hypocrisy rules in the US

Posted in International Economy · 16 comments ·
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The US should be running a current account surplus, have a very strong currency, have no debts and enjoy permanently low interest rates, kept down by its huge savings – but the opposite is the case.

The day the Federal Reserve slashed interest rates, I listened to Latin American economists and business leaders discuss what they thought the future held for the southern neighbours of the US. The Mexican central bank governor, referring to the carnage in Wall Street, the sub-prime crisis and the credit crunch, jokingly remarked: ‘‘At least we didn’t cause it this time.”

He was referring to the fact that, typically, banking crises start in what we term emerging markets. Over the years, western stock markets have been rattled by such episodes as the Latin American debt crisis of the 1980s, the meltdown in the ‘Asian Tiger’ economies in 1997 or the default of Russia in 1998.

All of these stories had one theme in common – the countries were living beyond their means and they were over-dependent on foreign loans, which ultimately caused the entire unsustainable edifice to come crashing down.

Interestingly, the reaction to these crises from Washington has always been vaguely puritanical. In fact, sometimes the language from the US capital is distinctly moral in tone. After a crisis, the delinquent countries are told to take the pain, suffer the consequences of their own aberrant behaviour, reform and be cleansed.

The Latin Americans – more than most – have had to accept regular lectures on economic purification from the Calvinistic northern continentals.

Interestingly, now that the US is going through its own troubles resulting from precisely the same reckless behaviour that landed the emerging markets in trouble in the past, the message from Washington is very different.

Rather than telling the American people that they have to purge themselves after ten years of binging, the American authorities are doing everything in their power to prevent any economic hangover.

The US is scrambling around for financial anaesthetics in whatever form it can find. The Federal Reserve is slashing interest rates, the dollar is being allowed to fall and George Bush is ramming through yet another tax cutting/government spending package to try to stave off the day of reckoning.

The Americans are trying to borrow their way out of this crisis, despite the fact that borrowing got them into this hole in the first place.

So, in terms of the consistency of the global economic message, it’s one rule for the poor and another one for the rich. This weekend, the G7 finance ministers are meeting for one of their regular chinwags. One wonders will any of them highlight this fairly obvious anomaly.

But instead of pointing the finger, the issue is how did America get into the position of resembling a huge emerging market, gorging on consumer goods that it cannot afford and borrowing other people’s money to sustain this lifestyle?

As much as the story of China, India and Russia has dominated global economic discourse for the past 20 years, the long-term erosion of America’s economic hegemony is the flip side of that globalisation coin.

Sometimes with all the razzmatazz of the presidential election, we forget that we might very well be observing the gradual decline of a great power. (This is bad news for Ireland, as America remains our best friend and main economic ally.)

In traditional economics – the stuff you learn in school and university – countries are poor because they lack capital. This capital constraint prevents people from getting the best out of their natural talents. Yet countries face a dilemma – in order to accumulate capital, they need to generate a current account surplus, which usually comes from saving more than they invest.

But if a poor country saves rather than invests, its standard of living falls – which is hardly a national objective. To get around this conundrum, traditionally, the poor countries import capital from the rich ones,which they fuse with their own labour to make stuff.

They can then sell this stuff back to the rich countries and, in doing so, generate the cash to pay back the loan and maybe have a bit left over to re-invest. This, in a nutshell, is one of the principal ideas behind Gatt, free trade and the present trends towards more globalisation. (There are others, but let us stick to this for a while.)

In this globalised world, the US – because it is the richest country on earth – should be a net lender to the poorer regions of the globe. It should be running a current account surplus, have a very strong currency, have no debts and enjoy permanently low interest rates, kept down by its huge savings.

But the opposite is the case. The US is sucking in capital from much poorer countries that arguably need it more. It is running the largest current account deficit in economic history and is allowing its currency to devalue constantly – despite the White House suggesting that it is wedded to a strong dollar policy.

At the same time, it is printing IOUs to the rest of the world in order to finance itself. And, rather than urging the American people to tighten their belts as it does when the other ‘emerging economies’ find themselves in difficulties, the American authorities are telling their people to borrow even more. To put this in context, the US needs to borrow more than $7 billion a day just to sustain its current lifestyle.

We now have the confusing spectacle of the richest country in the world behaving like one of the poorest and most irresponsible. It is trying to maintain a lifestyle that it simply cannot afford and, in doing so, it is creating the conditions for the ongoing decline of American power.

Just consider for a minute the relationship between China and America. What does the huge trade imbalance between the two countries tell us? One way of looking at it is that China is subjugating the living standards of its own people to enhance the living standards of Americans. This seems to make no sense, yet this is what is happening.

The Chinese current account surplus is now close to $200 billion, while the American current account deficit is moving towards $900 billion.

This means that $200 billion of Chinese money that could be spent in China is being spent outside the country, and $900 billion of the rest of the world’s money, which could be spent in poorer countries, is been hoovered up by the US.

If you visit China, it’s not hard to see why the Chinese would be better off spending the cash at home, building infrastructure or simply allowing the Chinese people to benefit materially from their hard labours.

But the Chinese government seems content to let the Americans enjoy themselves with Chinese money, while keeping its own people in relative privation, despite the country’s recent wealth.

However, the rest of the world needs US demand to keep us in clover. They buy what we make. So we have a global conundrum. No country ever borrowed its way to prosperity as the US is trying to do now.

Despite all its talk about rectitude, financial probity and the need for transparency and responsibility, the US is behaving like a large emerging market, and no amount of gushing coverage of its presidential election can disguise this. Something will have to give.

Can it just keep borrowing money and repaying loans in its debased currency? Not likely. The next president will have to find away out of this conundrum. If he or she can do this without a recession, it will be quite a Houdini act.


  1. VincentH

    To my mind this goes back to the late 70s early 80s, when a spate of raiders fleeced the reserves of many corp’s, this with the help of a government policy which was designed to keep wage inflation down. Inflation, at that point just shifted. The same thing is happening here, with the shift from wage to property, or from the unionised class to the middle class. From those without capital to those with it. All without control.
    This can hum along for a while, but eventually what you end up with is a vast undereducated group of unemployed, unrepresented at government level except as a police cost, their work gone to cheaper areas. Where higher profit is achieved, a la China.
    But, as at the moment, the squeals start when that middle class feel the pinch, when paper billions vanish.
    There is a certain flavor of the 20s about all of this, when middle and upper clipped tickets on buses, and only a few years later were putting revolvers where fillet steak went and ‘going down’ had only the slightest reference to lifts.

  2. Rob

    I would like to know if the scenario David has painted comes to pass, does this mean that the American economy will implode? If so is it more important than ever that EU develop and strengthen its own economic bloc?

  3. Ed

    Just back from a trade show in the U.S. – they don’t appear to be overly concerned about their economic situation. 900 Billion over a population of 300 million is about 3,000 per head. When you look at their excellent infrastructure and their minimum rates of pay, it must be possible for them to ride it out. The China factor is interesting – finished product is arriving on their shores at a cost that would be equal their own raw materials costs. The added labour costs are gone, as are the jobs associated with manufacturing, but the end user price is low and so, the volumes are up. The increase in distribution volumes is taking up some of the jobs that would have been in manufacturing and everybody is a winner for now at least. The run down of the manufacturing sector will have consequences in the future as skills are lost and dependency on cheap imports become the norm, but, for now they’re having a ball.

  4. Philip

    Ed, I’d question how good US infrastructure is. Bridges falling down all over the shop, nothing set aside for huge repair and upgrade bills on roads, rail etc. Add health, education into the mix and the terrible bashing they are getting with recent storms and it’s not looking good. The place is a 3rd world country with the exception or a few population centres in the Mid-West and along the eastern and western seaboards.

    When I go back there all I see is more delapidation on the outskirts and more malls. Retail and Logistics is all you get. And they are now loosing it in Software and Semi-Conductors. I am actually fearful for them. Dystopia

    The place is suffering from a lack of renewal and systemic and unconscious consumer greed. I have one hope though. The recent elections show that the current recessionary crisis is starting to bite and waking people up. The trick now is whether their free market can really compete with the Chinese coordinated approach. The next 2 years will tell.

  5. Rob

    I spent two weeks in the States over Christmas, I hadn’t been there in 16 years so it was interesting going back to have a look. For what its worth here are my observations. Petrol: They are completed addicted to the stuff, the bigger the ‘truck’ the better. We think we are bad here with our SUV’s, forget it, people are more or less driving Sherman tanks around the place. Secondly, there seems to be an enormous gulf between the haves and the have-nots, the education system seems completely biased. If you have money in the States, you have serious money. It is a society that on the whole seems more or less obsessed with materialism, it is mental. I couldn’t wait to get back to this rain-soaked, corrupt, alcoholic Island.

  6. jerry

    Another cracking commentary there David. America is slowly crumbling and the knock-on effects will definitely be felt here. Intel are opening in China in a few years to save on manufacturing costs. If you work in Intel’s Leixlip plant, be a tad concerned. Dell’s newest and most advanced manufacturing facility has opened in Poland last month, not Limerick. It won’t happen overnight, but it WILL happen. Ireland will gradually suffer because of America’s growing overdraft, and no amount of over-priced property will help our economy when jobs are lost by the thousands. Still to come folks…

  7. Paul

    Intel CEO has issued two warnings in the last two years to staff in Leixlip. Is he just trying to soften the eventual blow ?, or is he making sure the staff don’t take their jobs for granted and they work harder.

  8. AndrewGMooney

    I’ve recently been absorbing the work of Peter Schiff, the President of ‘Euro-Pacific Capital’ and he, like David, has been another voice crying in the wilderness.

    However he has lately been getting an increasing platform for his views on Fox Noise, I mean Fox News. The boosters of endless American Credit Welfare expansion are becoming increasingly frantic in attempting to discredit his startlingly frank espousal and re-iteration of the basic laws of economic gravity.

    His topics are very similar to those set out by David above regarding over-consumption, living beyond your means, degrading the dollar. He doesn’t label it hypocrisy though, just self-defeating stupidity. And he lays the blame firmly at the doors of the Federal Reserve.

    He suggests gold will soar ever higher and that any fiscal stimulus package will just delay and then exacerbate the inevitable bubble burst when America runs out of credit/credibility with foreign investors.

    He’s more upbeat about the Euro and Euroland economies. From reading him, I’d say that Ireland’s biggest danger is it’s previously lucrative and rewarding ‘intimate alliance’ with American Capital.

    Hopefully, the Political Class in Eire read widely and, having dissed David on property, are seriously looking at strategic options to manage the Downturn. A Downturn which Peter Schiff thinks may well turn into a Depression if the delusional mind-set of American invincibility continues unchecked. The consequences for Ireland could be particularly extreme if he’s correct.

    I’ve always admired the optimism and enthusiasm of America and it’s seemingly endless re-inventions when faced with threats (such as the supposed threat from The Japanese Economy two decades ago).

    But, looking at the cold hard number regarding savings, debt and inflationary pressures: It’s hard not to see serious turbulence ahead with a consequential devastating effect on the American Psyche.

    The Sub-Prime Mortgage nightmare may be only the start of a more generalised unravelling that will see American economic hegemony eclipsed by other trading blocs. Whether Ireland can compete within Euroland is another question altogether.

    A random scan of Google Ireland news today has the following:

    “Staff at ICT Eurotel’s call centre in Belmullet, Co Mayo, have been told that their jobs are safe.
    However up to 50 of the 140 workers at the company are to be put on a four-day week. ”

    and, more disturbingly:

    “Property drives national wealth past €1 trillion –
    Household wealth in Ireland has passed the €1 trillion mark for the first time, according to a report published today by the National Irish Bank. ”

    It seems obvious to me that Ireland’s labour and housing costs may well be it’s downfall, literally pricing itself out of the market so that Intel move to Poland or wherever.
    Just like America, surely Ireland has to reign in it’s optimism and complacency and get back to reality. House prices have to fall or wages have to rise as part of an inflationary spiral.

    Living in England, all of the same issues apply, except that, thank Christ: We still control our own currency and interest rates.

    I cannot imagine ever agreeing to relinquish that incredible power and freedom. And I wonder if the benefits of Ireland’s Euro bonanza will seem so wonderful when the roller-coaster hits the top and then plunges down.

    It’s strange to hear Bertie lamenting his lack of strategic vision over Infrastructure projects. I guess Ireland has the debt-ratio ballast to finally get those projects onstream as part of a stabilisation package when the shit hits the fan. A motorway network linking Dublin, Cork, Galway and Belfast would be a good start.

    As an aside, why isn’t there a joint Anglo-Irish venture to establish a Trans-Penine route to Europe avoiding the gridlock of South-East England? Or has that been covered somewhere and dismissed as impractical?

  9. John Q. Public

    David, you speak of hypocracy and have spoken about third world debt before. Just have a quick glance at this: http://news.bbc.co.uk/1/hi/programmes/newsnight/6362783.stm

  10. shtove

    Schiff is interesting to read, but he doesn’t take account of the fact that credit is contracting with Fed approval (actually, they have no choice in the matter). This is monetary deflation, not inflation. The same may happen in Europe, in which case he’s being optimistic about growth potential here. But at least places like Ireland and Spain have surpluses for fiscal stimulation. The UK? Debt debt debt all round – bankruptcy here we come!

  11. coldblow

    I read the link you give, John Q., and it is shocking. I wonder what has happened in the year since that was written. I have been reading The World We’re In (I think that’s the correct title) by Will Hutton and it chimes with a lot of this. In fact I shudder every time I pick it up. He wrote it a few years ago when Ango-American model was being held up for universal admiration and now it appears that he is being proved right.

    I am disturbed by the dim-witted anti-American posing currently fashionable even (especially?) in Ireland and I’d go as far as saying that, all things considered, America was probably the best thing to happen to the world over the last hundred years, but the way the US has used its economic muscle abroad has not been the most edifying of spectacles. Hypocrisy best describes how they can lecture others on fiscal rectitude while actively supporting a financial system (since the ending of the Bretton Woods one) which is not only harmful to the global economy but crippling its own. Look at what short-term shareholder-value maximization etc has done to the likes of Boeing (to name but one). Well, actually, maybe it isn’t so much hypocrisy as ideological entrenchment.

    Hutton discusses the financial industry in general in a recent article in the Observer, which begins as follows:

    “Never in human affairs have so few been allowed to make so much money by so many for so little wider benefit. Across the globe, societies and governments have been hoodwinked by a collection of self-confident chancers in the guise of investment bankers, hedge and private equity fund partners and bankers who, in the cause of their monumental self-enrichment, have taken the world to the brink of a major recession. It has been economic history’s most one-sided bargain.”

    No sitting on the fence there. You can read it on the Guardian’s website but unfortunately his clear-eyed assessment is not matched by the following pages of dull and tendentious commentary which bore and depress in equal measure (ideological blinkers again).

    Speaking as an unbiased non-ideological (I wish) economic illiterate I’m willing to stand corrected if anyone cares to explain how I have got this all wrong.

    By the way, nice to hear from you again AndrewG.

  12. AndrewGMooney

    Cheers Coldblow, nice to feel welcomed!

    Funnily enough I’ve just ordered Will Hutton’s latest book on China called ‘The Writing on the Wall: China and the West in the 21st Century’ and there’s a pretty alarming synopsis of it here, called ‘New China. New Crisis’:

    http://www.guardian.co.uk/business/2007/jan/07/bookextracts.china

    It would seem that hypocrisy of one variety or another goes with each and every variant of capitalism. From my limited studies of economics I’ve concluded that it’s culture and politics that moulds the ‘economic model’, whatever the stated ‘rules’ may be.

    There’s no ‘economic laws’ out there whatsoever. From the current Socialism for Wall Street bail-out of failed sub-prime Credit Welfare and Northern Rock surreptitious nationalisation, to Bertie’s curiously flexible accountants:

    It’s obvious to me that Power defines Reality, at least outside the realm of physics, maths and chemistry. Even there, the paradigms are defined by the research heavyweights, I guess.

    John Q. Public’s link to vulture funds is so depressing it hard not to feel it’s all pointless trying to change anything. Here’s a provocative little quote for David to ponder:

    “”Economics exists to make astrology look respectable.” J. K. Galbraith

    ouch!

    David’s articles are easily digestible without being lightweight. I can’t be bothered with all that ‘let me impress you with my economic jargon’ crap: Even if jargon can be a fun parlour game every so often.

    What’s going on in the world? How can it be explained in a way that doesn’t patronize or confuse people?
    Are trading blocs taking shape as Orwell foresaw? Will there be wars to establish hegemony?

    Is Ireland still constitutionally neutral after joining Europe!! If so, I must move there with my kids when the big one kicks off. Current mood: Pessimism!

  13. Martha

    I am a born-and-bred Irish woman, a Dubliner and when I walk through Dublin city these days, all I see are glossy high-tech retail stores ready to pounce like vultures on their ready-made prey; the products of Holy Catholic Ireland! There they are, al ready and waiting to be screwed BIG TIME like their parents and grandparents before them. All Good Christians.

    What else can one say about Celtic Tiger Ireland or Christian America? Its one and the same festering sore.

  14. Philip, your article strikes a chord with me with regard to the indie movie ‘CRASH’ with Matt Dillon. In this movie as well, American utilies, ie the Police Force, with Matt as a corrupt officer and the Medical Profession – the medical agent fobbing off the cop’s concerns about his father at every turn.

  15. coldblow

    Thanks for the link AndrewG. I remember reading this in the Observer about a year ago but it was well worth going through it again. I hope to get round to the book in due time. I agree with you about the primacy of culture and politics but I am impressed by Hutton’s insistence that without democratic liberal values, the rule of law, protection of property rights and human freedom, etc you are up an economic dead-end no matter where you are. You could say that these are the essential “rules” and that anyone who ignores or bends them, be they China, the US, the EU or whoever will pay for it. I find this a curiously old-fashioned rock of common sense and decency in a sea of moral relativism and pseudo-economic-political jargon. I am also reading Chang and Halliday’s recent biography of Mao which makes me realize how fortunate I am (to put it mildly) not to have inhabited that part of the world while he was around. Whatever his “legacy” was it should be dumped and disowned asap.

    I agree with your assessment of David’s articles.

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