Posted on 11/29/2007 7:11:00 PM PST by LowCountryJoe
Pat Buchanan's recent attempt to diagnose the sinking dollar demonstrates that ignorance of basic economics is not limited to the Left. Buchanan points out the plummeting value of the dollar relative to other currencies and major commodities such as gold (up 24% this year) and oil (up over 50% in 12 months). He then declares that "the prime suspect in the death of the dollar is the massive trade deficits America has run up" to "maintain her standard of living and to sustain the American Imperium." This diagnosis offers a tantalizing glimpse of the truth, yet shatters it with protectionist bromides.
First, let's deflate the protectionist rhetoric. What are trade deficits and surpluses?
A trade deficit means that in sum, American dollars are going abroad in exchange for foreign goods. Consider what this means. If foreigners never cashed in those dollars, Americans would essentially be getting foreign goods free of charge. Protectionists like Buchanan condemn this as "borrowing," but this is actually a form of investment — both in US industry and in US dollars. Foreigners have been investing in the United States for decades for two primary reasons: the superior returns due to the growth potential of American capitalism, and the dominance and (relative) stability of the US dollar, which made them useful as a means of exchange apart from their purchasing power of US goods. Americans are not living "beyond our means," as Buchanan claims; we are simply a more profitable investment, with a more stable currency, than the foreign investors' own countries.
A trade surplus on the other hand, means that in sum, US goods are being sent abroad in exchange for foreign currency. A trade surplus is a form of investing in other countries, since (fiat) foreign currency is only worth the foreign capital it can purchase. This happened after World War II, when the United States sent capital to shattered foreign economies and reaped returns as the value of their economies — and thus their currencies — grew.
So are trade deficits preferable to trade surpluses? In a narrow sense, yes. A nation that has strong economic prospects will attract foreign investment and therefore experience trade deficits. Conversely, when the domestic economy is stifled by regulations and monetary manipulations, investors will send their savings abroad and their country will run a trade surplus. (This explains why the US deficit has consistently fallen during recessions and grown during periods of expansion.) However, the broader lesson is that trade inequalities indicate the net flow of foreign investment, and the benefit of the inequality is ultimately validated by the profitability of those investments. Profitable foreign investment results in GDP growth and positive currency valuations, whereas unprofitable foreign investment erodes economic growth and devalues the currency of the investment's recipient. Could a sufficiently large and wasteful investment be responsible for the current dollar crisis?
A large part of the US trade deficit comes from the bonds (treasury securities) the US government has been selling to foreigners to finance the growing federal budget deficit. The value of these bonds depends on both the strength of the US economy and the loss of value caused by expansion of the money supply. When the US Treasury sells bonds to individuals, it diverts savings from private investments; this diversion is a form of taxation. When it sells bonds to the Federal Reserve, it exchanges bonds for newly created dollars, which is a form of monetary expansion (inflation). Additionally, when the government sells debt to foreigners, it creates a liability against the US economy. Foreigners buying deficit debt are in essence betting on the ability of the government to provide a return on the investment in the form of positive economic growth. What happens when the investment fails to turn a profit?
The primary reason for the $9 trillion federal deficit is the so-called "War on Terror," including the spending on Homeland Security, Afghanistan, and Iraq. Unless you believe these funds averted an economic meltdown due to terrorism, these funds represent a near-total loss. Tanks, bombs, and bureaucratic paper pushers consume vast funds, yet they contribute nothing to the economy, aside from benefiting military contractors. This economic destruction is one of the biggest reasons for the declining dollar. (Perhaps the major reason is the credit bubble created by the inflationary policy of the Fed since the early 2000s, which is now collapsing and making the economy less attractive as an investment target.)
The falling dollar will make it increasingly expensive for the US government to accumulate more debt. Eventually, it will be forced to either cut spending, explicitly shift costs to US citizens by increasing taxes directly, or (most likely) increase taxes through higher inflation. Investors have already anticipated this and flocked to other currencies and to gold as a refuge. The slide will likely continue until some kind of budget reconciliation is evident.
The overwhelming response to the problems created by the government's financial irresponsibility has been to call for more protectionism, as Mr. Buchanan is doing. Because it creates barriers to trade and investment, protectionism makes the US dollar less valuable to both foreign consumers and investors, thus accelerating the fall of the dollar. Investors have certainly anticipated this as well — but don't blame them for betting on the gullibility of Americans to the protectionist rhetoric of economic ignoramuses like Paul Krugman and Pat Buchanan.
If we can avoid the protectionist trap and reconcile the budget, the falling value of the dollar will eventually attract investors and stimulate exports. As the developing world becomes richer and freer, the US dollar is unlikely to enjoy the unchallenged superiority it once had, but maturing foreign markets will attract products and services designed in America, and we will once again become a recipient of foreign investment. Free markets and American ingenuity made the United States the greatest economy in the world. They are the only way we will keep it that way.
This was a clear and lucid explanation of the trade deficit and what needs to be done. The government must balance its budget and stop borrowing.
Nice pro-Paul piece.
Some people are only happy if they are miserable. They flock to threads with appropriately negative headlines in order to share their misery with others that feel the same way. It’s a pathology.
Wrong. Protectionist ACTION will cause economic harm. You can’t “talk down” an economy, contrary to popular belief.
BRING IT ON.
Think about it . . . it’s easier to wring one’s hands and ask “what does the U.S. export, anyway?” or say “the U.S. has the export-profile of a Third World nation.” No homework required. That should be Buchanan’s motto, by the way.
Time for a good trade war.
If you are an investor, whenever there is a larger than usual budget deficit, buy stocks the next year. Budget deficits augur for a rising stock market while budget surpluses augur for a declining stock market.
As far as the current account deficit would you choose to be like Germany and Japan? They both have large surpluses and no or little growth economies.
Buchanan panders to those who emotionally equate increased foreign trade with weakness. They are stuck with stone age, reflex thinking that one should keep everything in the tribe. It never works and every effort to kill foreign trade results in an increasing likelihood of economic stagnation or worse.
What the Buchananites never tell you is that 40%+ of the profits of $&P 500 are the result of foreign sales. Foreign trade results in a situation where 20%+ of our employment depends on it.
Abolitionalists of Smoot-Hawley (Tariff Act 1930)argue that it angered major trading partners who retaliated. Canada for example raised its tariffs and forged closer economic links with the British Commonwealth, and U.S.-Canada trade plunged. France and Britain protested and developed new trade avenues. Germany developed a system of autarky. Imports plunged two-thirds from $4.4 billion (1929) to $1.5 billion (1933), exports fell from $5.4 billion to $2.1 billion, in both cases far more than the 50% fall in Gross Domestic Product. The tremendous drop in foreign trade was a stunning shock to the proponents of Smoot-Hawley and effectively destroyed advocacy of high tariffs in the U.S.
I had the same reaction when I first read that title. It's just a poorly worded title though. The article doesn't claim that rhetoric alone causes harm.
No more excuses.
Time for a good, old-fashioned trade war. NOW!
The current situation is destroying America.
You misspelled “spam”.
No homework, no final. Happy now?
I will be happy when we treat all inbound Chinese tanker ships full of goods for Walmart ... precisely the way the Kitty Hawk was.
Let them sell to Vietnam.
Questions?
They forgot to mention that it transformed the recession of 1929 into the Great Depression.
Having trouble with the economy? Hey, let's cut trade by sixty percent. That'll fix it.
How exactly?
It certainly cannot be worse than what’s happening now.
Let’s roll.
No. Please continue. The thread needs some good slogans.
Yes, I have one. Why don't you ask your representitive to draft legislation that would make it a crime to trade with anyone from China...and Mexico, too. Sound good? I'll help you write it.
Of course it can be worse and has been in the past. It can also be better if we continue to tear down trade barriers.
20 Billion Dollars every month, is flowing from America to China.
How many of those new SSBN’s China is outfitting with ICBMs, will $20 Billion buy?
You know. Like the one which popped up in the midst of that exercise recently?
How much does one of those puppies cost? How many more (will) be paid for, with our “free trade” foolishness?
Twenty Billion Dollars.
Every. Single. Month.
Exactly.
Only if the trade barriers are torn down with reciprocity.
We are the only ones.
That’s not trade. That’s surrender.
Why Free Trade Works for America.Although in a small victory, the protectionists stopped calling Heritage a "socialist" think-tank after Robert Rector published his study on the real costs of illegal immigration.
Don’t want the help of anyone making excuses for treachery.
Thanks anyway.
Ah, 1rudeboy, I must point out that the “growth” in your per capita chart occured after we left the metallic standard, is that real growth, or merely monetary inflation with a diminishing purchasing power?
And does that growth cut across all segments of the economy, as in everyone has seen real wage growth, or have salaries concentrated at the top of your curve?
You Free Trade folks seemed sort of lonely, so I thought I’d toss a softball...
Protectionist are funny like that. I take a different tact on immigration, though. I side with the late Julian Simon on that issue.
That appears to be an argument we hear a lot.
Exports of what, Joe? Scrap metal, chicken feet, waste paper, hardwood logs. How about hot air and hyper capitalist cant?
You and your ilk are an excellent example of hubris. Everyone who laments the destruction of our industry is an ignoramus. Everyone who is sincere in his belief is a rube.
Joe, why don't you go push on a string and then going forward catch a falling knife?
Interesting. No Wal-Mart defenders on this thread.
It would be wise for China to lower their protectionist barriers. But our behavior should not be tied to theirs. We should do what is best for ourselves which is free trade. If the Chinese government wants to rob their peasants through tariffs in order to favor a handful of favored industries it's reprehensible, but it's not our problem.
No, the economists at Heritage never, ever, use real figures. You protectionists catch them every time! /sarc
What about Wal-Mart? Pat wants to nationalize it, or something?
Once upon a time it was difficult to bring up China without someone offering “What do you have against low prices?”
Of course our behavior should be tied to the behavior of our trading partners.
Duh.
Of all the vapid assertions...
We don’ make nuthin’ nowheres no how. (Bumper sticker on Buchanan’s Benz).
Just 25 years ago the Chinese weren't exporting anything. If we change the things that are keeping us uncompetitive industry will flourish here again. It's not a one way gone forever proposition.
Who will bring those jobs back?
“American” companies?...
Aww . . . and then you found out the real story about the tooth fairy, I bet.
It’s just interesting the way attitudes change.
No, it’s interesting how protectionists try to change the subject when they run out of bullets.
So in inflation adjusted terms the trend lines diverge at different rates - but they still diverge and in the same directions. Right?
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