Re a): You were actually clear, and I understood you. Seeing all flows in and out of the US on a single balanace sheet is not, however, a helpful perspective in isolation. Viewing investment and profits without seeing the public and quasi-public debts involved in maintaining the currency will yield a skewed assessment of exposures. It matters, and greatly, _whose_ accounts are in balance or not. As things stand, corporations take the profits and the public takes the debt in aggregate on our external flows. If through the last generation we had had an appropriate corporate tax rate, especially on overseas profits, we would be in a very different position today as a country, but the last seven Administrations did not see it that way.

Re b): Yes definitely, if trade and investment flows are ‘well-behaved,’ most current account numbers, including the present ones for the US, are managable. In the short term. In the long term, the absolute total outstanding obligations do really matter. Our public and quasi-public exposure is far more than the _public_ revenues available to meet them or any rational relation to our GDP. True, chunks of those overseas earnings don’t make it into GDP; not for caluclation, but also not for revenue-generating taxation. Other countries with the kind of public inablity to come into balance that we have now have seen this structural situation end very badly. I do not see corporations and plutocrats stepping up to pledge an appropriately higher share of their assets and revenue to pay off the imbalance. Just for the record, they didn’t do so either in Argentina, Thailand, Russia, or any other sovereign default I can think of off the top of my head. In absence of that, I default to historical comps which say our problems exceed our solutions as things stand. That’s not socialism: it’s realism. And no, we haven’t had any too much of that in the US of A over the last generation, either.

A very interesting point re NIIP and nationalization.

First, let me be clearer on the two points I should have made about NIIP:

a) The NIIP as you know is the international component of the US balance sheet. TO THE DEGREE that the external position of the US represents an exposure, there is some correlation with the degree to which this international component represents a net liability position. It is a net liability position. But it is a smaller net liability position than one would infer by simply adding up the cumulative current account deficits of the US. Essentially, the long term investment performance of assets is better than that of liabilities. There are a number of reasons. E.g. the foreign investment performance of US multinationals; the fact that assets are weighted more toward US risk taking abroad whereas liabilities are weighted to “risk-free” (note quotes) treasuries and agencies; the fact that assets tend to be denominated in appreciating currencies such as the Euro and that liabilities tend to be denominated in dollars.

b) The income associated with NIIP (receipts and payments) is a component of the current account. TO THE DEGREE that this component is well behaved compared to the core current account exposure (the trade deficit), it is very important in determining the sustainability economics of the current account deficit. This component is well behaved. Even though the NIIP is a net liability, the net investment income is close to being in balance and in fact for a number of years was actually in surplus. The main reason is that the US earns more on its foreign assets than foreigners earn on their US assets, and this difference dominates the disadvantage of servicing a net liability position.

All of this represents a marginal advantage, other things equal, in the ability of the US to have sustained its current account deficit so far. For example, in response to an earlier anonymous comment, I never said that the depreciation of the US dollar was a good thing for the US dollar. What I did say was that, for a given or assumed depreciation in the US dollar, it is a good thing rather than a bad thing that one result is a favourable valuation effect on NIIP.

(Brad Setser wrote extensively about these technical aspects about a year ago.)

Now, you make a very interesting point re nationalization. You correctly assume I did not mean to infer this. But I must admit I’d need to think more about the point you’ve made. In the interim:

I posted this yesterday on Setser’s very interesting post (to which you referred and where you’ve made a comment as well):

1. anon Says:
July 24th, 2008 at 8:46 pm

Central banks finance the deficit at the exact point they buy the dollars that the US exports via the deficit. They buy treasuries and agencies because, essentially, they have nothing better to do with the money, and they must do something with it. The exchange rate policy is the preeminent one. It is the critical risk, more so than the funding pattern corresponding to the assets that are purchased with the dollars.

Brad responded:

bsetser Says:
July 25th, 2008 at 2:23 am

anon — technically, you are right. central banks buys dollars ( a us asset) when they intervene. after that they just shuffle between dollar assets. I don’t want to discount that reshuffling — a world where the official sector buys $1 trillion of us equity is different than a world where the official sector buys $1 trillion of us debt. and, of course, just ’cause you buy a dollar doesn’t mean that you hold a dollar — dollars can be sold for euros, if there is a buyer. but I agree that the key decision is the decision to step into the market to begin with and to purchase dollars.

Anon here: Unfortunately, this only brings me to the point of reiteration and technical convergence with your comment, which is more fundamentally geared. Sorry I have no more time to respond here. But I think the balance sheet dimensions in totality are very important to the issue of the likely path of resolution of all of this. It is important to know for example that the NIIP liability is about $ 1.5 trillion, that Gross’s latest estimate of mortgage losses is $ 1 trillion, that US household wealth is about $ 55 trillion (and declining), etc. etc. etc. The US is not a small country, and the foreign account is arguably the one with the greatest degrees of freedom as to how it will get resolved. This is not a small country that will suddenly fall off a cliff, although pricing action in FX and bonds may at points become abrupt (not the same thing as falling off a cliff). Finally, it is very important to know that foreign central banks have also brought this on themselves, to a very great degree.

Re: NIIP, this is not the point. Nor is the issue of US investments overseas? If those investments were in the hands of the Federal government, and their proceeds were turned right around to pay off our _external sovereign and quasi-public debt_, then those ‘balances’ might matter. But those profits go into private hands whereas the payouts for our public and quasi-public debt must be financed from public revenues. Said revenues are manifestly inadequate for the still increasing external public debt. If what you are proposing, then, is that the US nationalize all offshore investment profits if and as they are repatriated, and use that revenue to pay off our sovereign debt, than we may get closer to ‘being in balance.’ It is much not my impression that you suggest anything of the sort. Ergo income and outgo are NOT in balance—because they are billed to quite different parties. Abstarct total quantities obscure more than they reveal; peel them back, and you’ll find different answers.

The Ottoman Empire was thought to be decadent on the eve of _the Napoleonic Wars_, and rightly so. States may go bankrupt, and many times, but they do not go away quickly. A bad patch for the US won’t eliminate us as a major power for any length of time, but we will be more nearly _a_ major power than _the_ structually ensconced presumptive power. To me, this is a good thing, not only for the rest of the world but for us, too: USonians need to take care of business at home, and live right.

Previous changes in the reserve currency have much to do with war-induced financial collapses. Britain was insolvent in 1940 and bankrupt in 1944, but the US simply refused to let if go under and funded WW II _and_ Britain. Take a look at Britain in 1946. This is not a great comparable for the US but something to consider. Life didn’t end, but it changed, and empire ‘went west.’ . . . Which might mean over the International Date Line in this metaphor, but I think back to Europe is more likely. Hard to say.

For a guy who has pushed dynamical issues much in my comments, I am not strongly in the campt that a change in the dollar will be sharply nonlinear, even chaotic, in movement. Dynamical comparisons assume NO OUTSIDE INTERVENTION IN SYSTEM VARIABLES, but as we see there have been massive outside interventions in the US financial system over the last year. Yves comments on this closely, and Brad Setser just put up a good, tight summary Thursday, 24 July for anyone who needs it. I strongly suspect that the dollar would have collapsed last Fall or Winter if left to ‘the markets,’ but the world’s central bankers most explicitly did NOT leave this outcome to the markets but bought dollar denominated public and quasi-public debt massively to support the dollar. But eventually that debt, and all the debt they will be buying once things _really_ go sour for the US economy over the next 12-14 months will have to be paid back: That is the Six Point Four Trillion Dollar Question. Personally, I think the answer will be, “Oops.”

“the US is short its own currency…that is a good thing”

From the perspective of freezing the economy at some point in time, and screwing our creditors, yes, it’s a good thing for the USA. We tell China and OPEC to pound dirt and devalue/print.

Now what?

Read about life in Russia in the early 80s, when citizens were burning their currency in the winter because it was cheaper than wood. That should give you a pretty good idea of what comes next.

(could you please use a handle, it’s very simple, and easier for participants to refer to you)

The point is that the US is short its own currency. It’s international position improves if the dollar weakens.

Actually, even though this has been correct up to now, the rules have changed – the surge in input commoditties. See, you can’t just print your way out of your debt – the market punishes you at the input. So the international position, overall, hardly improves as the USD weakens. What else you won’t find at Forbes is that the Chinese USD reserves grew at a very elevated pace during the 2008 – this can’t go on for much longer, because political risks of having very high domestic inflation will prevent the reserves from further accumulation.

That is a good thing. It is because the US earns more on foreign investment than foreigner investors earn in the US.

By the same logic, people in Argentina should have rejoiced when their peso collapsed, because “the Argentine earned more on foreign investment than foreigner investors earned in Argentine”. Or another argument – you borrowed $20 from Jack and didn’t pay it back – you just earned more on Jack than he earned on you. You do it repeatedly, until Jack doesn’t let you borrow.

Good grief. The point is that the US is short its own currency. It’s international position improves if the dollar weakens. And the balance on investment income is a subset of the current account. It is the net servicing requirement for the US external position. It is roughly in balance. That is a good thing. It is because the US earns more on foreign investment than foreigner investors earn in the US. You won’t find that in Wikipedia.

“The dry measured economic prose of the Washington Consensus does not capture its human elements. It will require reductions in US real wages and living standards on a scale that those who have not experienced it first hand cannot understand. Just ask the average citizen of many Asian countries (post the 1997/ 1998 monetary crisis), Argentina and any other country that has taken the IMF’s “cure”. “

On the other hand, as Buffett points out, foreigners may choose to buy Rockefeller Center and land in Hawaii and US companies at ridiculous prices. That’s happened before, too. Purchases of US companies are particularly good news for the US since often the assets are intangible. Let China buy Nike and Disney, say. They can have ‘em, we’ll make more.

But that is the point – the favorable conditions tend to change to unfavorable. Argentina, Chile, Russia (1998) – all had one thing in common – very favorable currency exchage conditions, due to the “hot” money, prior to the collapse.

The other thing, that the Anon is probably not aware of, is that the current account includes the investment income from abroad, so it is unclear what exactly is meant by being “in balance”. It’s common knowledge that the current account balance of the USA is minus $0.7 trillion for the 2007:

http://en.wikipedia.org/wiki/List_of_countries_by_current_account_balance

Today the rules are being bent backwards to float these insolvent financial institutions.

But, at some point when new debt can no longer be created the system crashes rendering almost all debt uncollectable.

The only hope is a Public Central Bank that is the arbiter and guarantor of all credit and that creates such credit from future revenue streams of taxation so as to create money without debt.

The bankers will crash the financial system or cry for war before they allow this to happen.