Sunday, February 21, 2010

1973, QE, Debt, Wages, Waste, and To Boldly Go

"Interesting article," JBMoore writes. "States that the US has a structural economic crisis." JB provides a link to a post by Izabella Kaminska of the Financial Times. Text within the URL is urgent but confusing. I click... I read:

“The US is not a viable concern anymore” – Duncan

...I bristle at the title. Recently broken, hastily repaired, our economy is extremely fragile right now. It must not be battered carelessly. It could break again.

The post turns out to be a review of the economic ideas of one Richard Duncan, partner at an asset management firm, as expressed in his book The Dollar Crisis.

The careless title is Kaminska's, not Duncan's. In the first paragraph, Kaminska writes:

while he is pretty pessimistic on the US, Duncan says there is a way out if policymakers make bold decisions.

Kaminska is willing to break the US economy if it gets attention for her writing. I decide I don't like her much. Now, as for Duncan, Kaminska writes:

In the Dollar Crisis, published in 2003, Duncan explained how the collapse of the Bretton Woods system in 1973 was always going to lead to a global financial crisis due to the trade imbalances it encouraged....

Simply put, according to Duncan, the breakdown of the gold standard allowed too much paper-money to be created in the US.

In Duncan’s words, the collapse of Bretton Woods represented the moment “capitalism became corrupted by government debt”. From that point on “US policymakers abandoned the core principles of economic orthodoxy: balanced government budgets and sound money”.

So far, so good. But then Duncan's argument -- or possibly Kaminska's reporting -- seems to fall apart. Kaminska quotes Duncan, who fits together recession, massive deficits, and quantitative easing "to prevent economic collapse." Then Duncan says, "This policy response is supporting the global economy but it has not even targeted the structural flaws responsible for the crisis."

The structural flaws responsible for the crisis? As Duncan has it:

wages in the US are up to 40 times higher than those in developing countries like China. Therefore, the United States makes very little that the rest of the world cannot buy somewhere else much more cheaply.

As Kaminska has already explained, the 1973 collapse of Bretton Woods and the consequent excessive creation of paper money allowed government debt to ruin capitalism. Now it turns out the underlying problem is that U.S. workers are overpaid.

Where did that come from?

Duncan is pointing at any problem he sees, calling it the underlying problem. Going off gold allowed us to print too much money. Okay, I get it. But then somehow this money becomes government debt, so we have too much money and too much debt. The magic of too-much-money becoming too-much-government-debt eludes me; but I let that go, because Duncan is focused on monetary problems and that's the right place to focus.

Then, suddenly, the structural flaw responsible for the crisis is pay differential, not Bretton Woods. And when Kaminska presents Duncan's "bold" solution, it only makes matters worse:

And so, like any troubled company, the US too must restructure itself if it is to remain operational, says Duncan. How it goes about it, though, will be crucial to its success. The best policy according to the author would be heavy government investment in so-called ‘future’ industries — everything from solar, biotech, nano-technology and so on. Trouble is, a move like that would take more government spending not less.

Apart from the cotton-candy word restructure, Duncan's plan is to further increase government debt and deficits on the development of new high-tech products, which China can then make for us for a fraction of the cost.

the lesson the US must learn from Japan is not to waste that money building bridges to nowhere, but instead to use the money wisely to restructure the economy to restore its viability.

The key this time for Duncan? Waste not.

If you don't mind, I'll just dismiss most of Duncan's argument outright. Just prune them suckers. Leave the strongest shoot. Duncan's strongest argument is that the collapse of Bretton Woods was the key event in a long process of decline and disaster.

Kaminska provides a fuzzy graph, noting "One chart reflecting the situation well according to the author is this one:"

"In Duncan’s eyes," Kaminska writes, "it clearly shows the breaking of the global financial system’s imbalanced back."

From her comments, I don't think Kaminska sees what Duncan sees in that graph. I sure don't see much in it. It's just another graph showing increase. But let's try to evaluate it.

The key for Duncan is the 1973 Bretton Woods collapse. We can look for a trend-change in his graph somewhere around 1973. But look for yourself: His graph starts at 1980, and shows a gradual uptrend beginning perhaps in 1985. No way this graph shows any connection to the Bretton Woods collapse. And this is Duncan's strongest shoot.

Or maybe Duncan wants us to see the uptrend suddenly die in 2007-2008. Okay, I can see that. And no doubt that death is the result of something. The result of something. But what? The 1973 Bretton Woods collapse? The Chinese wage-rate? The excessive printing of money that somehow becomes excessive debt? Waste?

Perspective is important. For perspective I compare Duncan's views to my own: Duncan wants "bold decisions." I want decisions based on a correct analysis of the problem. And as for analysis: Duncan's is a potpourri of everything handy. My analysis is that economic policy has created a monetary imbalance, resulting in the excessive reliance on credit. And my graphs show something.

There ya go, JB. Waddaya think?

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