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Martin Wolf Says Big Stimulus Programs by Big Debtor Countries Will End in Tears

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One thing I have found troubling is the near-unanimity in the US that we must Do Something about the burgeoning economic crisis, and that Something is big time monetary and fiscal stimulus.

Near unanimity is almost never a good thing in the political and policy realm, since conditions and options are sufficiently complicated so as to make it unlikely that there is a magic bullet.

Not to beat a dead horse, but we have been struck by the number of analogies made to the Great Depression that strike us as wrongheaded. The first is the idea that throwing money at “stimulus” will actually do the job, I see a lot of back of the envelope calculations of what % of GDP it will take to do the job.

But as the misguided tax rebates showed, it is quite possible to devise programs that are largely ineffective (roughly 80% of the rebates went to savings or debt reduction, which is a form of savings). A lot of money has similarly been thrown at the “get credit markets working again” program. And what are the results? Consumer and small business credit slashed, private securitizations a thing of the past, almost no debtor in possession financing (crucial for Chapter 11 bankruptcies), letters of credit scarce and costly, A2/P2 commercial paper at record spreads, and the Fed and Treasury still seeming to create, increase, or extend programs on virtually a weekly basis.

So what economist Tom Ferguson calls the “hydraulic Keynesian” approach might not be as successful as its advocates suggest. And that assumes it is the right remedy. We have argued that Keynes himself would not be on board with the idea of the US leading the stimulus charge:

The operating assumption behind US policy now is seeing the US situation as parallel to that of the US in the Depression, and taking the view, based on the fact that the US seemed to finally shake off the slump with the demands of wartime production and the unprecedented budget deficits that accompanied them. But there were considerable worries in 1946 that the US would fall back into Depression. The conventional view is that pent-up demand carried the US through, after a sharp but very short downturn in 1946.

However, would this strategy have worked in a peacetime setting? The US also emerged from its slump to a world with a tremendous amount of industrial production destroyed by the war. Thus, the US, whose problem in the late 1920s (which didn’t look like a problem at the time) was that it was a huge exporter, to the point where it sucked up so much gold as to be destabilizing to the financial system, could with 50% of world GDP, revert to its preferred old role with less damaging side effects. Had the rest of the world gone into wartime levels of stimulus along with the US, without the loss of productive capacity, would there ever have been an end of the beggar-thy-neighbor trade policies of the 1930s? International trade didn’t just fall, “collapsed” is not an uncommon characterization of the degree of contraction….

Similarly, as we have said before, the US was a world-dominating exporter, as China is now, and had the biggest gold reserves, as China now had the largest FX reserves. Thus it is China that needs to undergo a huge-scale stimulus program to make up for the loss of demand from the US. Keynes, in the 1930s, advocated that the US make up for the demand loss rather than expecting the US’s overindebted European trade partners to continue overconsuming….

Yet what is being advocated as a Keynesian remedy is in fact the opposite of what Keynes called for in his day. Keynes’ prescription then would lead to a global rebalancing, with the US depending more on internally generated demand and less on its foreign partners (who were defaulting on their government debt). But if it were successfully deployed in the US now, it wold lead to a continuation, of our excessive consumption and China’s underdevelopment of its internal demand.

Martin Wolf, in today’s Financial Times, comes to a similar conclusion:

With businesses uninterested in spending more on investment than their retained earnings, and households cutting back, despite easy monetary policy, fiscal deficits are exploding. Even so, deficits have not been large enough to sustain growth in line with potential. So deliberate fiscal boosts are also being undertaken…

This then is the endgame for the global imbalances. On the one hand are the surplus countries. On the other are these huge fiscal deficits. So deficits aimed at sustaining demand will be piled on top of the fiscal costs of rescuing banking systems bankrupted in the rush to finance excess spending by uncreditworthy households via securitised lending against overpriced houses.

This is not a durable solution to the challenge of sustaining global demand. Sooner or later….willingness to absorb government paper and the liabilities of central banks will reach a limit. At that point crisis will come. To avoid that dire outcome the private sector of these economies must be able and willing to borrow; or the economy must be rebalanced, with stronger external balances as the counterpart of smaller domestic deficits. Given the overhang of private debt, the first outcome looks not so much unlikely as lethal. So it must be the latter.

In normal times, current account surpluses of countries that are either structurally mercantilist – that is, have a chronic excess of output over spending, like Germany and Japan – or follow mercantilist policies – that is, keep exchange rates down through huge foreign currency intervention, like China – are even useful. In a crisis of deficient demand, however, they are dangerously contractionary.

Countries with large external surpluses import demand from the rest of the world. In a deep recession, this is a “beggar-my-neighbour” policy. It makes impossible the necessary combination of global rebalancing with sustained aggregate demand. John Maynard Keynes argued just this when negotiating the post-second world war order.

In short, if the world economy is to get through this crisis in reasonable shape, creditworthy surplus countries must expand domestic demand relative to potential output. How they achieve this outcome is up to them. But only in this way can the deficit countries realistically hope to avoid spending themselves into bankruptcy.

The UK is closer to the endgame than the US, so it is easier for them to perceive the risks (Willem Buiter has detailed the parallels between the UK and Iceland). The US, with the advantage of its deep Treasury markets and the reserve currency, has more rope with which to hang itself and its hapless creditors.

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89 comments

  1. Anonymous

    What’s left out of this picture is a section in Wolf’s article you didn’t quote:

    “Some argue that an attempt by countries with external deficits to promote export-led growth, via exchange-rate depreciation, is a beggar-my-neighbour policy. This is the reverse of the truth. It is a policy aimed at returning to balance. The beggar-my-neighbour policy is for countries with huge external surpluses to allow a collapse in domestic demand. They are then exporting unemployment. If the countries with massive surpluses allow this to occur they cannot be surprised if deficit countries even resort to protectionist measures.”

    The policy choices should not viewed as huge American stimulus OR rebalancing by Americans saving more and consuming less.

    The policy choice is huge American stimulus PLUS large dollar depreciation, to restore American manufacturing.

  2. Yves Smith

    Anon of 2:39 AM,

    With all due respect, how do we “restore manufacturing” in this country? Blue collar work is demonized; look at the outrage against the UAW versus white collar workers in investment banks that have created products that have on balance proved detrimental, drove their companies into the ground, and took out vastly greater comp? Objectively, they did far greater damage and earned far greater rewards.

    We no longer have factories, related infrastructure, or managerial expertise in many industries where we were once meaningful players. The shoe business is my favorite example. There is no reason we should have ceded it entirely, but we did.

    And you don’t just need workers, you need managers. How many capable people want to run a factory, or have the skills? My father ran paper mill startups in the coated paper business (very fussy manufacturing, unlike newsprint, and with a startup, you go from zero to 500 to 1000 people in 2 years, people who for the most part never operated this massive equipment. And getting all the custom machinery to work is no piece of cake either. Something is always botched. A two year startup, where the startup costs are 20% of the capital costs, which today would be $1 billion plus, is a good outcome. A bad start up is an ongoing hemorrhage).

    Despite being a difficult character and not a good marketer, he had a very robust consulting business in his later years because pretty much no one in the industry could shake down operations like he could. And how many people want to live in the boonies, which is where manufacturing plants are located (you don’t put them on expensive land).

    Investors would have to believe a cheap dollar was more or less a permanent condition to bet on manufacturing on a sufficient scale to get our trade balance back in order. And even then, we have major rebuilding before us.

    Note that the recent improvement in our trade balance was largely commodities.

  3. ndk

    Martin thinks; others blindly apply principles without looking at conditions. I’ve been screaming about what a huge mistake further intervention and stimulus here would be at the top of my lungs for the last month, and I’m sorry to everyone who had to suffer through the repetition. Stimulus focused on increasing US demand can only make the situation worse, and we’re ignoring our vulgarly obvious national insolvency.

    The beggar-my-neighbour policy is for countries with huge external surpluses to allow a collapse in domestic demand.

    Bingo. There can be no solution until this fundamental misalignment is fixed, and because that fix would induce tremendous pain for an already bleeding China, I don’t think it’s going to happen unless there’s a true miracle of diplomacy. Given how trusted Hank was by China, and his strong attempts in better times to make them revalue, I don’t believe in this miracle.

    Yet what is being advocated as a Keynesian remedy is in fact the opposite of what Keynes called for in his day.

    Krugman better read this. Nobody has disappointed me more than he, because while many bad economists don’t, he does know better. I’ve come to believe he’s just seizing an opportunity to get admittedly needed domestic priority adjustment done under a false flag. He’s better than that, and it makes me sad.

  4. rahuldeodhar

    I dont see any reason why exchange rate realignment + concerted international financial regulation cannot solve this problem.

    Global banking regulation needs reform and Shiller has also highlighted this his new book (I just saw the interview – waiting for the book). There is something fundamentally wrong with accounting policies that let banks lower capital requirements based on “perceived” asset price increases. The same regulation also creates holes in balance sheets as asset prices falls. This regulation needs to be suspended for sometime – (upside suspension), banks be forced to take all the write-downs marking the assets to agreed upon prices (lets call them steady state prices) – and then made to raise capital enough to sustain them.

    Secondly exchange rate realignment is absolutely must. I have been harping about this on this blog comments for long now. US must become producer and China and surplus countries must become consumers. Without this there is no resolution of this crisis.

    Finally, there is likely to be a diplomatic war to protect and isolate the consumers an keep the consumer to itself. Such a trading barrier game will be detrimental to global prospects and will decrease the total pie.

    If a big ship(US and EU) is sinking – one way is to protect your resuce boat – or save the ship. Former saves you comfortably but leaves the world with just a boat! and latter is difficult but the Ship stays so we are better off.

  5. ndk

    Investors would have to believe a cheap dollar was more or less a permanent condition to bet on manufacturing on a sufficient scale to get our trade balance back in order. And even then, we have major rebuilding before us.

    We need to rediscover our competitive advantages beyond excellent farmland in Iowa and a greater propensity to lie. Turning on the spending booster jets before pointing ourselves in the right direction isn’t a great idea.

    The Internet has fundamentally busted a ton of business models. Margins have been permanently slashed, knowledge is now incredibly slippery and difficult to sell or leverage, and everyone around the world is now equally well positioned to do many jobs.

    It’s going to take a lot of industries and individuals a long time to adjust, and the citizens of the richer countries are generally the losers. Let’s see policies put into place that will protect and help them, rather than just hitch them more tightly to the debt yoke in hopes that even more leverage can pull us through to another few years of prosperity.

  6. Yves Smith

    rahuldeodhar, Anon of 2:39 AM,

    Another data point, Until the second half of this year, we have seen a protracted decline in the value of the dollar. Yet our savings rate continued to fall and the current account deficit rose to new highs. Now you can argue this is due to China’s peg, but the point is that in a floating rate regime, we cannot simply revalue our currency (and too precipitous a fall, which we may unwittingly engineer thanks to all our debt creation, would create a destabilizing currency crisis).

    And Cerberus, which bought the Mead-WestVaco paper mills (now called NewPage) in 2005 has been closing mills and cutting costs aggressively in those mills, to the point of cutting maintenance, which is an unsafe practice. That in a weakening dollar environment in a capital intensive, high skill manufacturing business.

  7. ndk

    Secondly exchange rate realignment is absolutely must. I have been harping about this on this blog comments for long now. US must become producer and China and surplus countries must become consumers. Without this there is no resolution of this crisis.

    I agree, but I don’t think China’s going to do this. They’re suffering plenty of internal problems and a revaluation will instantly bankrupt the PBoC, leading to a need to recapitalize it through taxing angry Chinese citizens. Not only that, but there’s a lot of other peggers out there, and if only a few of them revalue, they lose out to the ones who preserve their peg. It’s the OPEC problem in drag.

    This is likely to lead to the real deal Smoot-Hawley, as indebted uncompetitive nations feel they have no choice but to stop the mercantilism through trade restrictions.

    All of which is to say, this only gets worse.

  8. ndk

    the point is that in a floating rate regime, we cannot simply revalue our currency (and too precipitous a fall, which we may unwittingly engineer thanks to all our debt creation, would create a destabilizing currency crisis).

    One point there, Yves. There are two ways to re-align currencies. Nominal devaluation is only one of them. You can also run different inflation rates, and still revalue in real terms.

    Takes a whole lot longer, though. Inflation in China was mainly focused on food, commodities, and housing, which are all coming back down now. With their structural oversupply of, well, everything, I don’t see domestic inflation happening any time soon. And we hope to use inflation to get out of our own problems, per Rogoff.

    Competitive inflation sounds like even more fun to me than competitive devaluation.

  9. River

    Yves, NDK, et al, thanks for the great comments. I have been thinking of the problem of a fiat currency, like the dollar and many others, that requires a quick revaluation to maintain stability in markets.

    My conclusions are that any fiat currency based on nothing is at a huge disadvantage when the necessity arises for revaluation (devaluation in this case). Of course, the need for devaluation in extremis was probably not given adequate thought when the current system was devised…another example of inadequate stress testing based on the belief that the situation would not arise.

    Bernanke is on thin ice with his current moves, and has admitted as much in talks prior to becoming head of the Fed. We are all living in a test tube in Ben’s lab. I expect dislocation in treasury markets if Ben holds to his current coarse. I expect Mr Market to make an irrevocable decision in the near future, at which point we will go from the test tube to riders on the storm.

  10. Anonymous

    No fooling? I see that unfunded SS and Medicare disappearing within the next 4 years hope the Boomer’s are ready for that one.

  11. Rivers

    anon of 4:16…Do you really believe that you, or anyone, is ready for a dislocation in the treasury market? Your comment seems gleefull…I think you are not understanding the consequences that all people are going to suffer.

    Boomers indeed! Wake up! You are in the same lifeboat.

  12. alexblack

    To DoctorofLove;

    Very good. 8-)

    And our future Chinese Hitler, due to China’s one-child policy and its preference for boys, will soon have tens of millions of coming-of-age men who have no access to girlfriends, and possibly no jobs as well. What to do with all that frustration and testosterone? Give them guns, and a mission… If nothing else, they need a lot of war brides.

  13. mmckinl

    Martin Wolf had it right especially the omitted portion .

    NDK is right on the money.

    What will happen is that you will have foreign companies open up shop here to take advantage if no American companies do. Making it here is better than importing it even if a foreign company does it.

    The U.S. does indeed have a broken economic model. I do see infrastructure spending as part of breaking that model, but only a small part. The vast bailout and stimulus must steer towards an economy that produces most of what we consume. Unless and until we balance our trade deficit and become much more self sufficient we will inevitably end up in big trouble as we are now.

    Then there is the debt we have, 50 trillion in aggregate U.S. debt.If it was onerous before it is unpayable now with a shrinking GDP. Much if not most of this debt will have to be resolved and borrowing more to fix the problem is like fixing a hole in a boat by punching another hole beside it to let the water drain out.

  14. alexblack

    To ndk –

    Excellent posts, as always. But there’s one problem with using inflation as a solution. The vast amount of Alt-A mortgages, indexed to various inflationary measures, are due to convert to adjustable-rate mortgages in 2010 and 2011. They’re the camel’s hump; subprime was just the camel’s tiny butt.

    If you think foreclosures and the deflationary spiral of housing prices is a problem now, what happens when tens of millions of mortgages, currently at, oh, 4.5% fixed rates, interest only, suddenly reset to 8 or 9%, principal and interest? Monthly payments double, and with minimal or no equity left in their house, who will choose to pay that non-recourse mortgage, when they can rent the identical house next door for 30% of their new monthly mortgage payment?

    I seem to recall that soaring foreclosure rates (and the consequent fall in housing prices) were the initial cause of all this funk. Do we really want a second wave, much bigger than the first?

  15. ndk

    What will happen is that you will have foreign companies open up shop here to take advantage if no American companies do. Making it here is better than importing it even if a foreign company does it.

    Absolutely agree, especially since it’s part of the recipe for a sound fiscal future anyway. Discussion about that is much more productive than warmongering, which has absolutely no place in our modern world, much less an economics blog.

    But there’s one problem with using inflation as a solution. The vast amount of Alt-A mortgages, indexed to various inflationary measures, are due to convert to adjustable-rate mortgages in 2010 and 2011.

    You’re right, alexblack, but that’s just one of the many problems with using U.S. inflation as a solution (Rogoff’s proposal, and certainly not my preference). We have many indexed expenditures, and that’s one of them. Higher inflation will also help to break banks holding a lot of longer-dated fixed-coupon liabilities, as well as creating more inefficiencies in the economy.

    I still want to see debt writedowns and bankruptcies to reduce the total debt load on our economy, for China to sterilize their currency interventions less, since they can’t really revalue and we’re apparently incapable of diverting their investments towards anything but consumption and bankers.

  16. Anonymous

    @axleback 4:48, at least the Chinese understand the population problem, they just could not influence the social problem of cultural male dominance.

    BTW concur with most of your thoughts just not that one.

    Skippy

  17. wintermute

    Fantastic article Yves.

    A printout of it should be stapled to the forehead of every politician and economist making the macro-financial decisions to “solve” the credit crisis.

    Only then might they (and their underlings) get the message.

  18. Anonymous

    All of the discussion above seems to assume that the US trade deficit can only be altered by devaluation and/or inflation. However, I believe that GATT allows a member nation that is “experiencing balance of payments difficulties” to impose nondiscriminatory import restrictions. It is an extreme understatement to say that such action by the US would be disruptive (and less importantly embarrassing–like admitting prospective insolvency), but this could still provide leverage to force the necessary trade adjustments.

  19. Anonymous

    “Even so, deficits have not been large enough to sustain growth in line with potential.”

    Excuse me, but what potential of what growth? Surely there is a lot of ‘potential’ for growth in the real estate market, with all those empty houses, vacant office space and unemployed real estate agents…but I just cannot envision that industry go grow at ‘potential’ any time soon again!

    I really do think the current situation defies the language we have been using over the last century or so.

  20. RN

    Such uncharacteristically disappointing comment by Yves here, that shows remarkable absence of a deeper analysis, something I’d normally expect from her. Let us pray future policymakers have a more thorough understanding of the situation.

    No one would disagree that the global macro imbalances need to be remedied. Increased debtor nation savings, greater domestic consumption among the surplus countries.

    And yes, ultimately the US labor needs to compete more equally on the global stage.

    But the principal point is, none of this can happen if fear in the credit and other markets generates such constrained economic activity that no adjustments can be made. Accrued Interest expressed the perils of the current situation best, I thought, explaining that recessions are important, because they allow smart capital to flow to purchase distressed assets and inefficiencies get squeezed out of the system. But smart capital needs credit to do so, and in the absence of credit flow, the whole system just sits there rotting. Look around you; this is where we are now.

    It doesn’t help anyone to have massive fear block credit and other spending flows.

    With the well-to-do like Yves and the Austrians among you, I share outrage at the moral hazard rampant in bailouts and stimulus packages. But with good policymaking, that can be at least somewhat sorted out on the other end.

    In the meantime, what we need to worry about is famine as boats can’t unload grain shipments because their letter of credit is not accepted, and violence, as people around the world come closer and closer to not finding a way to stay afloat.

    The historians among us will know that situations like the one we’re in have the potential to start world wars. Let’s do avoid that, shall we?

    Borrowing from the future in order to ensure we GET a future seems prudent.

    Like you, I do pray that when things are flowing smoothly again, we bring some longer term solutions to bear, AND go whatever distance we can to undo the huge moral hazard issues all this will inevitably cause.

  21. fresnodan

    I agree with the thrust of the article and comments. I find it amazing that anyone cannot see that the problem is not a lack of demand for stuff, its the money to PAY for stuff. One point I would add about why it is different now than during the depression is the amount of imported oil. Maybe we will all be tooling around on our solar powered bikes – I really would be for that. Not getting Chinese t-shirts would be annoying – But 10$ gas will cause some truly horrific dislocations.
    And one final point – it is really annoying that there is this idea that there was some simple solution to the depression or Japan – and those people were just to dumb to see it. I think we will soon have a lot more empathy and an understanding that there are no easy solutions.

  22. Anonymous

    I doubt that American manufacturing can get us out of this. The debt hole is much too big, by orders of magnitude. Depreciation of this debt is required. Fortunately by coincidence it is USD denominated, so we can do that.

    UK is perhaps not so lucky. There may be no solution for them beyond explicit default.

    Beggar-thy-neighbor is a fact of life. It’s happening already. China wants to devalue now against the dollar. No point complaining about it, get used to it.

    If the US cannot depreciate its currency against the yuan or other so as to get the debt to manageable size, default is the only choice.

    Wolf’s statement that we have to export and it’s up to us how to do it, is wrong. It’s the statment of a hard-money guy who wants all the debt paid. I say to him: go fish!

  23. Anonymous

    Two fundamental problem with Yves’ view and argument here: that blue collar work has been demonized and cannot return, and that all manufacturing is as complicated as his paper mill example.

    Blue collar work has been demonized by those forces that wish to gut unions and wages and aggregate as much profit as possible in the hands of owners.

    If you present viable manufacturing jobs to most counties in the US, you will have lines of potential employees around the block. Sure, certain super high skill manufacturing jobs will be harder to site, like the paper mill example. But this is not representative.

    I think Martin Wolf is very smart, but may not know that much about the U.S.A. As for Yves and the thoughtful commenter NDK above, I’m a little surprised.

  24. Anonymous

    It’s funny to watch guys like ndk and rahuldeodhar say we have to pay down all this debt in strong dollars for the common good, save the ship, etc.

    We don’t. We can’t. We won’t, and if it seems that is the path, I’ll find a way not to participate. I think many will join me.

  25. Robert

    my impression is that the U.S. has been trying to save a failed industry- finance. Maybe we can push on to better things than trying to be the finance center of the world- like make a few things for a change. It is disparaging- and I find it odd that no-one else comments on this- that the federal government is in earnest trying to preserve the consumption model and views the population as “good little shoppers” regardless that the purchasing comes from over-extension of credit. What is the end game of this economic model? In the end- how much junk do you really need? It might as well end now so we get the pain over with and push on to new things.

  26. Cent21

    Three countering points.

    First, the federal govt (US) is still able to get credit at very low cost, while others are not. I’d suggest the feds get as much long term financing as is offered, as long as they’re able to get it at a negative real interest rate. In the long term, US Treasury can assure that inflation is not negative.

    As well, the federal govt can and should monitor the macro picture. In the macro picture, certainly there is greater capacity than demand right now. I’d caveat any infrastructure stimulus with two conditions; first, it should only be done where it does not push commodity demand above supply, and second, it should be done with forward looking rather than backward looking goals. Roads, in general, are backward looking. Bridges are necessary because of their state of disrepair. In the USA, Mass transit and other efficiency measures will be necessary for the US economy to remain competitive in the long term. In general, I think it’s reasonable for the FED and treasury to support closing the interest rate and credit availability gap, to support a reasonable long term macro expectation.

    And third, states can’t run budget deficits, and they are all facing revenue falling significantly short of the rolling average. While this could offer an opportunity for states to contain costs, this isn’t good timing for states to contract the govt share of GDP. Thus, block grants for general revenue support, plus infrastructure grants for qualifying projects that can either be accelerated or which meet a long term goal are reasonable.

  27. K T Cat

    This is madness. We’ve financed an orgy of self-gratification with a mountain of debt. People are waking up to this and are now doing the prudent thing and saving money. After they’ve managed to pay down their debts, they’re going to wake up and find that the government debt, which we all owe, has just exploded.

    And in exchange for what? Have any of you taken a look at the kind of garbage the state of California spends its money on? It’s crazy. Another example is found in education where spending and performance decoupled long, long ago.

    The money borrowed by the government is borrowed by you. We all owe something like $35,000 per person right now. We’re about to see that blast into orbit.

    Lastly, who is going to administer these mammoth spending bills? Have any of you worked in government contracting? Where are the experienced, combined legal, contracting, administrative and oversight teams necessary to process hundreds of billions of dollars of spending with even a modest hope of some kind of performance? You can’t ramp up from 0 to $1T overnight.

    This is going to be a massive feeding frenzy by lobbyists in DC the likes of which we have never seen, all done while economists stroke their chins and talk about Keynes and monetarism and aggregate demand.

    Reality and rhetoric have become completely disconnected.

  28. MarcoPolo

    Yves: “how do we “restore manufacturing” in this country?”

    Not by trying to bring back the shoe industry. The whole idea of off-shoring those labor intensive industries was about comparative advantage and we will never be able to compete on the basis of labor costs.

    The solution is to a great extent on the other side of the equation. Demand from developing economies. Demand for technology. Demand for those things which we still produce in the US. There are those things; energy efficiency equipment, job place safety equipment, health care technology.

    The mistake was to think that increasing wealth in the emerging economies would produce demand for those things. It hasn’t. And barriers to those goods, especially intellectual property rights which has proven a singularly developed world concept, are as rigid as ever.

    And I would suggest that it is much easier to get people to stand in front of a paper machine than to get engineers who understand the process. But either way all that can be imported! One thing I’ll never understand is our absolute determination to break down barriers to international capital flows while we fortify our borders against imported labor.

    So, for a direct answer to your question I don’t have a good one myself. But I’m developing a protectionist streak. Damn the consequences.

  29. Keenan

    Yves and all posters:

    Your observations are always insightful but never moreso than in this piece. I’ve forwarded it to my nephew in college for discussion in his macroecon class. To borrow River’s reference to Ben’s lab, the younger microbes must understand that there is no pretested formula for restoring a harmonious balance to the world petri dish.

  30. cindy6

    DoctorofLove:

    If we follow Yves’ analysis, there is a higher chance of an American Hitler rather than a Chinese one. A industrialized, massively in debt, close to default, thinking of inflation as an way out, but will end with hyperinflation, nation with a democracy just seems to beg for a charismatic demagogue to take them off the cliff…and into the deep end.

  31. lineup32

    NDK says:
    “The Internet has fundamentally busted a ton of business models. Margins have been permanently slashed, knowledge is now incredibly slippery and difficult to sell or leverage, and everyone around the world is now equally well positioned to do many jobs.”

    Excellent point about the internet but lets also understand that manufacturing today is volume driven with tight margins that require 24/7 operations with less direct factory labor required with higher levels of automation waiting to be installed. Yes more US based manufacturing does help unwind the trade inbalance but it doesn’t solve more fundamental problems of manufacturing over capacity and the ability of the consumers to absorb the outputs.
    The financial sector tends to see its problems as the only problem and if the balance sheet looks good then problem solved but our crisis today as you suggest will take much longer to play out and go beyond the balance sheet.

  32. Anonymous

    Maybe this is too obvious a solution, but why don’t you shift the burden of repaying the massive government debts to those most able to pay? That would at least start to redress one of the global imbalances. Even a revenue-neutral tax shifting would arguably be stimulative for the economy and consumption as well, averting a meltdown depression that would not be as dislocating as a recession that does sometimes trim the fat but also sometimes cuts too close to the bone.

  33. Anonymous

    $50 trillion worth of defaulted CDS (or any realistic fraction thereof) is too much for even the upper income folks to handle.

    The financial system has blown up. Start over.

  34. Anonymous

    “And barriers to those goods, especially intellectual property rights which has proven a singularly developed world concept, are as rigid as ever.”

    Not in China.

  35. ndk

    It’s funny to watch guys like ndk and rahuldeodhar say we have to pay down all this debt in strong dollars for the common good, save the ship, etc.

    I’m the one who just said bankruptcy and default is my preferred option. Inflation is not the only way to destroy debt.

    First, the federal govt (US) is still able to get credit at very low cost, while others are not. I’d suggest the feds get as much long term financing as is offered, as long as they’re able to get it at a negative real interest rate. In the long term, US Treasury can assure that inflation is not negative.

    Cent21, if we borrowed for long periods of time now, we would be locking up more capital and making it more difficult for private sources to get that capital. It would immediately make deflation worse. Also, basically every real interest rate is high and positive right now.

    The whole idea of off-shoring those labor intensive industries was about comparative advantage and we will never be able to compete on the basis of labor costs.

    Italy has an excellent shoe industry, as just one example. You can compete on quality. But I do agree that we should develop and capitalize on our technological advantages. We have to reform some of our own export policy laws before we can do that fully, though.

    Artioli said most Italian manufacturers no longer competed in the low-cost shoe market and denied that they benefited from anti-dumping measures. The duties, he said, are “a question of principle.”

    Yes more US based manufacturing does help unwind the trade inbalance but it doesn’t solve more fundamental problems of manufacturing over capacity and the ability of the consumers to absorb the outputs.

    I agree, lineup32. Domestic demand stimulus in China, by increasing social safety nets, healthcare, and welfare programs — ain’t that what the best parts of communism were about — would be perfect. They could very much use enhanced government spending and make a lot of lives better quickly.

  36. Ted Blood

    You quote Martin Wolf:

    Sooner or later….willingness to absorb government paper and the liabilities of central banks will reach a limit. At that point crisis will come.

    I’ve been trying to get my head around what this would look like. If the Fed can buy Treasuries why can’t it absorb excess paper? Yes, the Fed will be expanding the money supply in the process but in a deflationary environment this does strike me as a problem – at least in the short term.

    Thanks for Naked Capitalism – it is an invaluable part of my daily reading.

  37. Anonymous

    Good analysis/debate as usual. I will not participate as I’m tired of thinking.

    Childish speculation is more fun! Obama/Chamberlain? A Japanese Stalin? MADness!!

  38. lineup32

    NDK says:
    “Domestic demand stimulus in China, by increasing social safety nets, healthcare, and welfare programs — ain’t that what the best parts of communism were about — would be perfect. They could very much use enhanced government spending and make a lot of lives better quickly.”

    just a quick note, I was visiting with a friend a few years ago that did his PHD at Stanford on the movement of citizens from the rural area’s of China to new cities that the central gov’t was building. This involved moving 75 miillion people into new homes, creating vast cities. We can’t imagine the scale here in this country.
    We cannot depend on emerging markets to absord our manufacturing excess, not going to happen in a world with energy cost north of %50 barrel for oil. The US did the bulk of its built out roads, bridges etc during a period of very cheap energy and as we are discovering today even keeping them maintained is a huge expense!

    Enjoy your posts NDK. thanks

  39. ndk

    I’ve been trying to get my head around what this would look like. If the Fed can buy Treasuries why can’t it absorb excess paper? Yes, the Fed will be expanding the money supply in the process but in a deflationary environment this does strike me as a problem – at least in the short term.

    We can always create a hyperinflationary environment if we try hard enough, but I don’t consider that a serious solution. Because the Fed’s balance sheet is terrible, and there’s a shocking amount of wet, unloved money out there that could catch fire at any time, inflation would be difficult to fight once it gets started without a large salvo of direct additional taxation and fiscal surpluses, which would continue to cause their own damage.

    Inflation also inherently does nothing to affect the solvency position of the country. It’s entirely possible for a debt-free economy to go broke as a joke. It’s all about projected revenues and projected expenditures.

    Direct debt purchases from overseas are investments, a fresh asset for the country to grow its productive infrastructure(or McMansions in the Inland Empire, your choice). Buying your own treasuries just changes the form and number of your liabilities and will generally lead to issues.

  40. doc holiday

    This is probably the wrong place to ask question to get feedback, or a place to get a response, but can anyone out there explain the 6% conversion factor here and tell me if this is a normal range??????

    (¯`♥’¯)
`*.¸.*´
¸.•´¸.•*¨) 
(¸.•´ (¸.•

    Re: Revised U.S. Treasury Conversion Factors – March 26-27, 2008

    Conversion factor tables for U.S. Treasury Bond and Note futures have been revised to include conversion factors for the following government securities that were auctioned on March 26-27, 2008 by the U.S. Treasury Department….

    > If not, no BIG deal.

  41. tompain

    Isn’t the fiscal stimulus as much about dealing with a coming wave of unemployment as it is about “stimulating demand”? You are soon going to have a lot of people out of work. You are going to have to help them out. You can just give them money, or you can create a job for them doing something that is somehow useful to the economy. You ought to try to create that job as a temporary fix rather than by creating a permanent government position, of course, but surely creating the job is better than paying two years of insufficient unemployment benefits, is it not? Especially at a time when there is in fact a legitimate need for investments that would in any case have to be publicly financed: infrastructure repair and expansion, alternative energy development, education improvement, etc.

    Many of the comments here about the importance of manufacturing are based on an underlying assumption that manufacturing jobs are high wage jobs. That’s not necessarily so. It looks that way, but the reason it looks that way is that the low-wage manufacturing jobs disaappear. If you still had shoe manufacturing here, the wages would be horrible. Meanwhile, the “high wage” manufacturing is becoming lower wage all the time. Look at the auto industry for example.

    What happens is that over time there is a substitution of capital for labor in most manufacturing industries. As that occurs, unskilled labor wages in that industry will decline over time. Forces will arise to slow the decline (unionization is the most obvious) but the root cause of the problem is that there is too much unskilled labor relative to the demand for such. Whether that labor is deployed for manufacturing or to provide services doesn’t matter all that much – the labor is still going to draw low wages. It’s not that we have too many low-wage service jobs and too few high-wage manufacturing jobs, it’s that we have too many unskilled laborers trying to scratch out a living in a reasonably efficient economy whose invisible hand is doing exactly what Adam Smith said it would do. It’s maximizing economic efficiency – by making serfs out of any laborers it can.

    The real question is what our society wants to do to address income inequality. One approach is to say screw it, let’s create two Americas, one for the unskilled laborers, and one for everyone else. There’s no possible way that is sustainable in a free and democratic society.

    Anything else you do falls in some way into the category of “spreading the wealth.” You can help labor extract higher wages by allowing them to unionize. If we are talking about unionization in a industry that produces tradable goods, you will have to have some form of protectionism to force consumers to finance that by paying higher prices. Another way to spread the wealth is through the tax code.

    Over the long term, you can make some effort to try to shrink the pool of unskilled labor, by improving the quality of and access to education. But technology moves ever forward and it is likely that there will always be more unskilled labor than there would have to be to get the invisible hand to deliver to them what most of us would consider decent wages.

    You can also try to increase the demand for unskilled labor. In principle you should be able to do this by adopting policies that encourage entrepreneurship and capital investment. At least some of those policies, however, will tend to increase income inequality even if they succeed in boosting the wages of unskilled labor. Some will say that should not matter – it doesn’t matter how rich the CEO and the hedge fund manager and the entertainer becomes as long as the people on the bottom rungs of the economic ladder are doing even the tiniest bit better than they otherwise would.

    That sounds reasonable, but in practice human societies simply do not work that way. Think of what our conception of poverty is today versus what it was 50 or 100 years ago. Most of us would agree that a lot of the people living in public housing are indeed poor. Do we say they are not really poor because, hey, they have a roof over their head and a tv in the kitchen and their kids had enough Spam last night at dinner, and that’s a hell of a lot better than the poor people were doing in the tenements in lower Manhattan a century ago. No, we and they look at their lives and we say they ought to be able to do better, because our modern conception of an acceptable standard of living is driven in part by how well the better earners in our society – the people we call the middle class – are doing.

    When that gap gets too big, the society comes under stress. We are seeing one form of that stress today as subprime borrowers say to the rest of the society: screw you, you are not letting me earn a high enough wage to pay for this modest house you convinced me to buy (in ways both explicit and subtle), so here are the keys, I ain’t paying, and you can also keep the flat screen tv that your advertising convinced me to buy, because, ha, I paid for it with a credit card you convinced me to take. (Some readers will object to this characterization, with observations about personal responsibility etc, but whether that is a fair burden to put entirely on the shoulders of even the uneducated and unsophisticated is a discussion for another time, we are way past that now, unless you are prepared to just tell them all to eat cake). We will see other forms of stress arise as unemployment rises and unemployment benefits run out.

    Of course another alternative use for unskilled labor is to send it off to war. It did seem to help end the Great Depression once and for all. It addresses the problem by increasing demand as well as reducing supply of unskilled labor through premature death. Anyone favor that approach? No? Ok, maybe we can just get them to die quicker by getting them to smoke and eat junk food, but we’d need to keep them from getting good medical care to really make a dent. No, that would be wrong…

    The underlying problem that we will eventually have to deal with is how to construct our economy in such a way that it enables the unskilled among us who work hard and follow the rules to extract a reasonable standard of living.

  42. jcvh

    Fix the economy

    No more bailouts period.

    Provide a guaranteed income supplement of $40.00 for each person that fills out an income tax return, receives a pension or is unemployed.

    Begin a VAT of 10% on all purchases

    Begin a $1.00 per gallon tax on all gasoline and diesel

    Purchase a bank with national exposure (assets only not liabilities) or more than one if required to provide national exposure and turn them into one bank or start a new bank if not feasible

    Capitalize said institution with 1 trillion dollars and give one share (preferred share value $100.00paying a 5% dividend) each to every man woman and child in the U.S. (citizens) and list on major stock marketso

    Shares are not free trading until owner reaches age 21

    Mandatory health insurance for every man woman and child with the Dutch system as the model.

  43. spare some change?

    Anon @ 9:52

    Manufacturing is necessary. But we have to allow the losers to fail if we’re ever going to compete in the world economy. That’s what the debate over GM is about.

  44. Anonymous

    Painful or not, you guys want slow growth or no growth while the banking system repairs itself.

    This banking system can not survive on no growth. As the reserve currency we will have to default and pass the baton (was Britain’s prior) to another country while we rebuild out of the smoldering ruins.

    You can’t force consumers to spend so the whole economy will come to a halt as any extra money will go towards current debt, past debt and future debt.

    Even if we all turn into farmers to survive and sell the excesses, it will take decades to pay down the debt outstanding.

  45. Anonymous

    I am anon, first commenter in this thread.

    Michael Pettis has some good comments on this very issue, as relates to France and China. There’s a movement in China to boycott French goods. Substitute USA for France. Pettis:

    “An interruption of the trade relationship between the two countries is actually likely at the macro level to be good for France in the short term (or, in what amounts to the same thing, it is easy enough politically to make the argument), and bad for China in both the short and long term. Remember, for France any interruption of international trade means they need to increase production to meet domestic demand. That means hiring workers. For China it means reducing its ability to export overcapacity, and this usually means closing down factories. I know, I know, France is not necessarily likely to produce at home what China sells, but in this world, finding a new supplier is a lot easier than finding a new customer.”

    Get it: that means “hiring workers”.

    Bringing back manufacturing is not just about having an industrial sector to brag about. No, it is about jobs, jobs, jobs.

    Next year, mass layoffs. Mark my words.

    Also, I think that many in the finance community, based in NYC, simply have no idea of the deep skills and expertise re: manufacturing that still exist in this country. It has (too) often been employed in the last decade in building factories in China, but it does exist.

  46. S

    few comments:

    1. Inflation (explicit policy at least) has front end benefits of writing off gov't debt through the pernicious tax but long run implciations on rates and US ability to borrow. As rogoff says stuimulating inflation is no sure thing as we draft into the secular changes of higher savings and a remolding of the consumer economy.

    2. The later is an important consideration. See Roach editorial in FT today (and dare I say Pimco Gross yesterday) on the paradigm change and lower leverage throughout.

    3. The US is currently loading the boat on the front end of the curve. Sure it is cheap, but the long end is cheaper. And that window for LT financing will not be there forever. But theFed/Gov is instead buying the long ter, debt (insuring losses). Understand the rationale, but perverse nonethless. Former sec fisher reccomends stiffing genz with a 100 year bond. This is what passes for creative thinking these days in the US.

    4. Inflation does nothing for wages and acts to punish the already strapped middle class. McDonalds is raising prices into a deflation. Sign of things to come.

    5. it is not shocking that the academics love the Keynesian bridge building. I read with interest this morning that China Mobile was up on rumors that Chian was to spend $110 billion on wirless infrastructure. We will instead rebuild the 59th street bridge and then put a toll on it.

    6. Harvard's Porter was on a show recently duiscussing what the US needs to do. First and foremost he said develop a strategy. Such a strategy is not throw money at failed auto makers or build roads to nowhere. Personally i owuld rathe see that money spent on R&D with potential for future cash flows and employment. Porter also emphasized education. The problem with the next gen economy/investment is the practice is itself exclusionary per NDK re internet / techniology diffusion and smaller competitive advantage windows. perhaps the structurally hgiher eunemployement rates of Europe are what we have ahead. And yes we can just pay them provided we are more productive on the higher end.

    7. The entire debate is so wed to the past (Depression soltuions, manufacturing, stimuls etc. that is is no wonder we can't think about the future.

    8. Equity marketsreflect nothing close to fundamentals. And if they succeed in priming the inflation pumps then the rising stocks will be worth nothign more than the headline they generate. The masses who are still involved may feel better for a few minutes until they go to the grocery store or see their heating bill. The US has entered the ideologically bankrupt culdesac; it's what happens when you have a free lunch for so long.

  47. mmckinl

    Anonymous said…

    It’s funny to watch guys like ndk and rahuldeodhar say we have to pay down all this debt in strong dollars for the common good, save the ship, etc.

    ~~~~

    I may be wrong but that is not what was said. My interpretation was that debt will have to be written off. There is no way for our shrinking economy to pay for 50 trillion in aggregate U.S. debt.

  48. Lord

    I do wonder whether it was the stimulus of war spending or the redistribution of wealth that really did the trick. Stimulus doesn’t really do much if it doesn’t raise employment and wages and not temporarily.

  49. Benny

    The Wolf article (and many others similar in thesis) ignore something very important in the surplus/deficit global imbalances…How exactly do you think surplus countries can increase demand? If they are underdeveloped countries, then there is an arguement for infrastructure and what not. But if they are developed countries such as Germany and Japan, there is little need for more things. Keep in mind, the governments of these countries has been trying to increase demand very much so for a long time (Japan’s fiscal deficits are massive), but the private sector has no wants/needs to consume more than they already are. There are two basic ways to increase demand. 1) destroy existing capital goods and thus they have to rebuild. 2) convince them they ‘need’ things that they previously didn’t want or need (US style marketing focusing on the base physcological drivers of consumers might work).

    The other solution (and the one i think is best) is to accept the fact that there is over capacity in certain industries and in certain regions, and to idle that capacity by decreasing hours worked (while retaining the same number of employees). Basically reducing peoples’ salaries and giving them more free time. More vacation, shorter work days, etc.

    As Marx foresaw, we have developed massive over capacity. The same capacity is not at all needed aas a society matures into a developed nation. It must either find other external markets for that capacity (and vendor finance those markets), or idle the capacity.

  50. S

    overcapacity = lower wages/pressure = limits inflation solutions

    Bankruptcy or default is an equally bad anwser. So not only don;tyou have a business plan for the future, but now you have opened the kimono unclothed and killed the funding window that was built on the those clinging to the appearance of solvency. better to contineu to pay the debt and hope the time and innovation fill the void.

  51. tompain

    The idea that we have reached Marxist excess capacity is demostrably false. There is plenty of potential demand in the world. Billions of people in the world still lack food and shelter, not to mention flat panel tv’s and Iphones. Nine months ago we had shortages of copper, oil, steel and everything else you can think of, and the demand outlook was said to be strong as far as you could possibly imagine, just because of the insatiable demand from China and maybe India. Those people are still there and the world did not in the last 9 months did not significantly boost its productive capacity.

    The problem is one of wealth and income distribution, how to get people trading with one another, and what we want that enormous pool of global unskilled labor to do.

  52. Anonymous

    The problem is not the bailouts per say but the incompetence of the Bush Administration. Their philosophy that any government intervention with the free market is what let to this mess. This approach is why the bailout money was free with no strings attached. The inmates are running the asylum.

    It’s an academic exercise to discuss economic theory, when the present government operates via benign neglect.

    We have, 50 days until the adults take over, until then who knows what shit will fall from the sky.

    It’s my belief that any coherent approach to this crisis will be better than what we have now and targeted spending to improve the lives of working Americans must be done quickly and efficiently.

    Economic theories at this time are rather meaningless, who knows what will and will not work in this new world economy. But you cannot have a stable society with a disproportionate segment of society unemployed or underemployed.

    I would like for the deficit hawks to explain how they will keep calm in the streets by paying down the federal debt? Theory and application always smack you in the face when you get out of the classroom and into the real world.

  53. Anonymous

    The problem is not the bailouts per say but the incompetence of the Bush Administration. Their philosophy that any government intervention with the free market is what let to this mess. This approach is why the bailout money was free with no strings attached. The inmates are running the asylum.

    It’s an academic exercise to discuss economic theory, when the present government operates via benign neglect.

    We have, 50 days until the adults take over, until then who knows what shit will fall from the sky.

    It’s my belief that any coherent approach to this crisis will be better than what we have now and targeted spending to improve the lives of working Americans must be done quickly and efficiently.

    Economic theories at this time are rather meaningless, who knows what will and will not work in this new world economy. But you cannot have a stable society with a disproportionate segment of society unemployed or underemployed.

    I would like for the deficit hawks to explain how they will keep calm in the streets by paying down the federal debt? Theory and application always smack you in the face when you get out of the classroom and into the real world.

  54. S

    Yves,

    The new treasury “plan” to bring rates down demands comment.

    a 4.5% rate today ensures a capital loss in 5 years. So you get a lower rate/payment for a virtually guaranteed loss when you sell in 5 years. The wage labor arbitrage ensures that any inflation will simply add to your misery on sale. This is merely a plan to saddle people in homes for 30 years and keep the MBS afloat and banks from taking wore writeoffs. This program comes on the back of the UK saying they will allow mortgage deferrals for 2 years and suspend repos until you are 6 months in arrears. Got to love all the anglo innovation.

    The markets continue to trade on the conviction that an annoucnement of a new program will be forthcoming every day. The “annoucements” have replaced the constant rate cutting speculation considering we have tapped out that narrative.

    So now we get 4.5% mortgage subsidies and proposed 100 year bonds! Can we officialy declare outrselves a banana republic.

  55. S

    “I would like for the deficit hawks to explain how they will keep calm in the streets by paying down the federal debt”

    That will not matter much when the rest of the world decides that they would rather stimulate spenidng domestically (see Martin Wolf today in FT) than offshoring their savings to the US for out cheap mortgages, plasmas, and structured finance solutions. The problem s not acadamia it is physics and those laws are not changing.

  56. Anonymous

    To the historical comments above about Hitler. My money is the next one likes shopping on other peoples accounts and at big name shops. Sorry all could not resist that one.

    To those above that say this is more of a social ethos problem than a spreed sheet one, you have my vote. The day I first heard the common man wish that the country was run as a business, sent a chill up my spine.

    Skippy

  57. dearieme

    Your start-up father and working “in the boonies”: many men wouldn’t do that today because their wives also want to work, and the boonies might not have the right sorts of jobs available. I speak from experience on that one.

  58. blended purple

    It’s not overcapacity per se, but when overcapacity butts up again the competing interests of nation states.

  59. joebhed

    friggin excellent.

    all of this.

    My focus is on the last paragraph quoted:

    In short, if the world economy is to get through this crisis in reasonable shape, creditworthy surplus countries must expand domestic demand relative to potential output. How they achieve this outcome is up to them. But only in this way can the deficit countries realistically hope to avoid spending themselves into bankruptcy.”

    How to achieve this outcome is through the alternative of a debt-free money system, as such a system was proposed to FDR in light of the crisis facing him of similar proportions.

    We are obliged by present circumstances to consider all of the alternatives available to avoid spending ourselves into bankruptcy via the debt-money system.
    We need money to provide the means of exchange for the production and consumption in the economy.
    We provide it with Treasury-issue government money issued in a quantity that is called for to accomplish the goals of the policy, including tax and fiscal effects.
    The Chicago Plan.
    Before they quantitatively ease us out of existence.

  60. Don

    The argument that, “Keynes, in the 1930s, advocated that the US make up for the demand loss rather than expecting the US’s overindebted European trade partners to continue overconsuming” does not hold water. See for example Brad DeLong’s econ 161 course notes (http://econ161.berkeley.edu/TCEH/Slouch_Purge15.html). Hjalmar H.G. Schacht, the first central banker and then finance minister under Hitler, pursued deficit spending in a way that no other government did — including Roosevelt. One could argue that Schacht was the only Keynesian finance minister of his time. Although, Germany in 1932 was saddled with extreme debt, the program was fabulously effective — Germany’s unemployment rate problem was quickly solved — the only industrialized country to achieve that goal. Ironic that the insightful financial master who worked for the devil incarnate had the middle name Horace Greeley.

  61. Anonymous

    Great discussion. Some random thoughts of my own:

    1) Of course expenditures have to be prudent (and I am concerned with the lack of government management of the banking system, as well as talk of a broad-based tax cut, a proposal which would have a diffuse impact at best), that goes without saying, but it should not be used as an argument to stifle stimulus proposals, as

    2) The American economy does need dramatic stimulus right now just to tread water during the deleveraging process, and

    3) The transition to a healthier economic model (shifting the burden of healthcare, investing in long neglected infrastructure) is going to be costly.

    4) It’s my sense that a considerable devaluation in the dollar is already “baked in the cake”, for multiple reasons, and that another trillion or so in stimulus debt isn’t going to really impact that devaluation in any way.

    5) Moreover, considering that massive amounts of debt already held, obsessing on the final additions to that debt does not seem to be a reasonable position, although it will no doubt produce a fervent debate for generations for those who wish to blame our economic woes on government spending.

    6) Kudos to the commentator above who pointed out the Alt-A loans losing their fixed rate status, and the impact that will have in an environment where inflation is rising. Is it too much to speculate that in years to come, the government will actually tolerate a significant level of inflation, by keeping interest rates relatively modest? (in order to grow out of the debt problem, while simultaneously avoiding another downturn).

  62. Anonymous

    Yves,

    The work week must be reduced. It is the only real card left. O and his band of Clintonites will continue the damage wrought by Shrub.

    Please go back and look at the debates over how to address the Depression. Examine the arguments for the Connery-Black legislation. This is not a far-fetched idea.

  63. Anonymous

    Tompaine said: The idea that we have reached Marxist excess capacity is demostrably false. There is plenty of potential demand in the world. Billions of people in the world still lack food and shelter, not to mention flat panel tv’s and Iphones.

    Tom, that is not potential demand. That is human need. As you know very well, need minus dollars does not in any way equal demand. You need to stop confusing the two.

    Certainly there is a NEED for the things you describe, but it is pretty clear that market conditions are such that demand does not exist to provide for them. If, however, you are so quick to violate these market conditions in hopes it will provide the necessary stimulating boost to the economy you might go all the way and question the market itself, since it has so miserably failed to satisfy this “potential demand.”

    You cannot have it both ways – either demand directs human activity, or need must.

  64. Mark Foley

    Anon is not so wrong, Yves. There is nothing like the prospect of being hanged in a fortnight to concentrate the mind. It is time to reinvent ourselves. Attitudes will soon change. Blue collar work will be undemonized pretty soon. You sell our managerial asets short, too. There are quite a few of us boomers who have been riffed along the way that still have lot’s of managerial and technical knowledge and more fire in the belly than commonly understood. Perhaps experience will start to count again.

    Why wouldn’t persisitent dollar weakness linger as we refocus and retool? It certainly looks as though the Fed printing money for the forseeable future is the only path that will be chosen. That would persuade people that the dollar would be weak for the period required to get back to manufacturing. Letting our manufacturing base be hollowed out was strategically stupid and we can correct that mistake if we like.

  65. Anonymous

    Benny said: As Marx foresaw, we have developed massive over capacity. The same capacity is not at all needed aas a society matures into a developed nation. It must either find other external markets for that capacity (and vendor finance those markets), or idle the capacity.

    Well put, sir! Imagine a crisis which might only be resolved by working less. It might be the very same crisis as the one which destroys another trillion dollars of wealth every time a new scheme is announced for adding a hundred billion dollars to soothe Mr. Market.

  66. Anonymous

    I have never seen any evidence the WWII debt was ever paid!If I’m right, we have ample evidence a nation can borrow it’s way out of debt and never look back . . . Well, unless income becomes insufficient to pay the interest.

  67. Duck Diversified

    Tompaine said: There is plenty of potential demand in the world. Billions of people in the world still lack food and shelter, not to mention flat panel tv’s and Iphones.

    ‘Demand’ is cash or barter that you exchange to buy someone else’s goods or services at the price offered. It does not mean stealing or begging or mooching — which, when you think about it, sounds a lot like government. Cut off SSI, Medicare, food stamps and AFDC, there would be a sharp fall in Marxist command for cigarettes and booze.

  68. rahuldeodhar

    A declining dollar hurts the mfg and export industry in China, India and other countries. There is no doubt. But to move the mfg locations takes time – it takes structural change and confidence (that it wont be a passing competitive advantage). That confidence is coming to companies that US mfg will stay competitive for sometime to come. China’s low CNY was more of guarantee that helped manufacturers to shift production. Again, China is also on productivity gain curve – so we still have margin to cut cost. The labour costs were increasing and China also responded by creating labour movement from rural to urban areas. Now you can only shift new labour to cities – till the old displaced labour finds employment. Trust me, you don’t want wealthy unemployed labour used to specific lifestyle – bad for social unrest. The other way is to increase capital intensity of mfg. This has happened in tech mfg to a small extent. Here the capital intensity of mfg was increasing. So tech mfg should be closer to moving back into US. (But tech mfg did not fully move out of US did it? we can do with some evidence here). On the flip side this does not create jobs in volumes that US needs. This is the same problem with China – China needs to retain volume jobs. The dollar devaluation of last few years never tipped the scales to realign manufacturing. Theoretically, had it run for some more time, you would have had a tipping point where sustaining low wages would become difficult.

    Secondly, either we (US China and world together) engineer a revaluation or turn a Nelson’s eye to it – devaluation is going to happen. To control or not to control is the question (a la Shakespeare).

    NDK makes a great point about running differential inflation. But I have two worries – first market participants will preempt this by rushing to gold or commodities and the like – creating strong one-time devaluation catastrophe. Second – even if this is managed – it puts US and world through super-slo-mo pain and distress that may be difficult to address in social context.

    A note, one anon commentator believes I am suggesting strong dollar – but its other way round. Further, there is a debate about manufacturing – which should be about any “producing” activity rather than manufacturing. In sum, US should produce something that world wants – it may be shoes or it may be website design services – so long as the relation of producer-buyer is unaltered it will work.

  69. Anonymous

    What is going to work?

    My neighbor and I both lost our jobs in 2002. Neither one of us has found a new “real” job. We both have 4-year college degrees. We are both now over 50 years old. We both cashed in 401K’s, etc. just to have money to live on.

    I don’t know about her, but I am one step away from living in a tent — if I can find ground to live on.

    The USA threw away it’s manufacturing jobs. They decided it was better to have service positions.

    Outsourcing is cool. Send everything that can be done overseas to India because they can do it cheaper. (I recently read a blog where the blogger outsourced 15 250-word articles for … are you ready for this? $30. And those articles were readable and made sense.)

    Technology companies need more H1B visas because they don’t want to hire US born employees who want to make over $30K a year.

    The problems in the US have nothing to do with debt, credit, etc. They have everything to do with salary stagnation. Salaries have totally died while inflation has crept into everything over the last 20 years.

    I currently rent but rents have climbed into the stratosphere for those of us who aren’t working/get no raises.

    Anyway, the problem in the US is that all the “wage payments” have been awarded to very few players instead of being rewarded all around.

    The USA needs to wipe out debt and work towards achieving realistic pay scales before it will ever solve it’s problems.

  70. Anonymous

    1 year and 4 months ago, most economies throughout the world were firing on all cylinders with money to be made everywhere.

    I remind you this is a financial crisis first and foremost the aftermath is minor details on a numbers scale. On a human level it’s criminal.

    You can’t fix the problems unless you start with the cause. Happy talk and patches worked for tens of years and now only work months and weeks soon to be days and hours.

    The final blow will be a loss of confidence in just about everything around you.

    The debt has to be isolated with a payment plan put in place. If that leads to depression, riots, wars and starvation then guess what, that gonna happen anyway you slice and dice it.

    I won’t argue the banking system angle just to say it needs controls so it doesn’t get out of control or this is the results you see today.

    Some things never change.

  71. River

    There are approximately 50 million rental storage units in the US that are crammed full of purchased but unused stuff, not to mention garages, attics, yard storage sheds and basements. Some people that are renting these units will soon stop paying their rents and the storage units will be emptied into landfills or garage sales.

    Like excess homes, in a depressed market excess stuff must be used up before the market for new stuff can improve, Madison Ave or no.

    Since we are going to experience a lot of pain in any case why don’t we change the consumption model to a more sustainable and realistic one while we endure the economic contraction? I am not a Malthusian but I do recognize that this planet is finite and so are it’s resources.

    The other elephant in the room than none wish to discuss is population. The capitalist model depends on constant expansion but how is that to be accomplished on a finite earth?

    The difficult questions are not tackled in good times because there is no pressing need to do so and they are not addressed in bad times because the focus is to return to status quo asap.

    Something to consider.

  72. Anonymous

    There are two separate thrusts of argument here which are getting slightly mixed. The first argument is that a Keynesian stimulus may not achieve what they set out to do or at least be an ineffective use of treasury money. The important point is about what a Keynesian stimulus should set out to achieve and what happens when it is withdrawn.

    My interpretation of Keynes view was that the fiscal stimuli in downturns should take the form of reducing the size of the surplus rather than running a deficit. Analysis also shows that once implemented it is hard to withdraw a Keynesian stimulus as the economy adjusts as do those who live from pay packet to pay packet to the stimulus. Quite clearly from this the US and Europe are not the ones who should be applying a stimulus as it will actually have the effect of making things worse.

    The second argument is about funding of deficits. On FTAlphaville today is some comments about how an Italian politician views the risks of government default. This is perhaps more important to them because their ability to print money is more limited than in the US. The US Fed has already indicated it is not averse to buying treasuries with printed money if needs be. The problem is I and I guess others are not convinced that the FED can act quickly enough on the other side to stop the printing and soak up liquidity.

    China’s problem is not really the US it is that their other big markets Europe and India are seeing their currencies devalued against the dollar. They will have very little choice but to start using their surplus to maintain those markets and since they are now bigger than the US market, china may have to make a difficult choice. Perhaps a big Keynesian stimulus funded from the sale of US Treasuries as China looks to its biggest customers and itself leaving the US to fend for itself.

    Brad Setser hints at the problem in his Wednesday post when he mentions the basket of currencies but fails to join the dots between the size of Europe and India as export markets and the currency values. It seems sensible for China to now peg against a wider basket of currencies rather than mostly against the dollar.

  73. Anonymous

    “I don’t know about her, but I am one step away from living in a tent — if I can find ground to live on.”

    If that’s the case, I think it’s very wasteful spending on your part to be paying for an internet connection to post here.

  74. Anonymous

    December 4, 2008 9:07 AM writes:

    “‘I don’t know about her, but I am one step away from living in a tent — if I can find ground to live on.’

    If that’s the case, I think it’s very wasteful spending on your part to be paying for an internet connection to post here.”

    Wow, you must be a Republican. The ones who love to hate the American people. Condemn the struggling. Spit in the faces of the down and out. Do I feel resentment? You bet. But not towards my fellow struggling Americans. I feel it to the insuffereable incompetent corrupt and cronyistic crew who have run this country into the ground.

    Btw, dude, your crew never got around to closing the libraries. Hah, ha. Even poor people can have access to the internet FOR FREE. How inconvenient for you!

  75. tompain

    10:47 and Duck: Human need, combined with an ability to work, is, as I described it, “potential” demand. To make the need into real demand you need an economic system that can find a use for the labor that those in need will exchange for products and services rendered by others. If you lock unskilled laborers out of your economy, they will be miserable and you won’t be able to sell them anything.

    By trading with China, we were admitting those unskilled workers into the economy, and it was mutually beneficial because they were willing to provide their labor to us now in exchange for something we will provide to them in the future when they start redeeming their treasuries for dollars. You can look at this as a horrible, unsustainable debt, or you can look at it as an intertemporal exchange of labor whose ultimate exchange rate is unknown. If the dollar devalues, will the Chinese people then wish that they had never exported stuff to us in exchange for dollars? They might think that, but in truth their overall wealth will turn out ultimately to be higher than it would have been if they had never participated at all in our economy. Now, if they are unhappy about that anyway, then we can at least be relieved that they live on the other side of the world from us and that we don’t and won’t feel (apparently) any sort of national moral obligation to address their claims of unfairness. Back here at home, however, we have unskilled laborers who definitely feel are unhappy about how the wealth has been distributed. Can a free and democratic nation ignore that? I don’t think so.

    There are still potential providers of labor here and all around the world that will be sources of demand if and when we make it possible for them to exchange their labor for the various things we would like them to demand of us. As long as that is true, the opportunity for continued economic growth is virtually unlimited, if only we can figure out a way to distribute the wealth in a manner that puts labor to productive use and keeps social unrest at bay.

  76. Anonymous

    List the countries.
    bbc Quote ‘which one
    is the begger-er,
    which the begger-EE?” sic bbc
    talk not a fake quote!

  77. Juan

    YS: One thing I have found troubling is the near-unanimity in the US that we must Do Something about the burgeoning economic crisis, and that Something is big time monetary and fiscal stimulus.

    Correct, there are real limits to what has been ongoing crises management, limits beyond which it does more harm than good. It is not ideological to say that the capital system cannot avoid episodic purges of potentially catastrophic scale, i.e. that crises of overaccumulation and overproduction are _inherent_ to this particular system.
    A system which persistently strives to eliminate its own basis in productive living labor is necessarily cyclic and, in cumulative fashion, must arrive at absolute limits which no policy actions or amount of money can overcome but resolve, if resolution remains possible, through devalorization of sufficiently large masses of capital, both fictitious and real.

    tompain.

    Capital fulfills needs only to the extent that doing so is profitable, and profitability depends on more than demand. In any event and as recent ILO reports make clear, conversion of ‘potential’ into monetarily effective demand hits limits manifest as the inability to reduce the global number of under and unemployed even during a period of expansion.

  78. Anonymous

    @River, Malthusian prophesy or not, you can only put so many head of cattle on an hectare. Here in Australia it has been the Government policy for decades to grow up wards around 40 million people, to support the currant economic model. Australian resources can only support 8 million, so if any thing happens to offshore supply, well it would be bad. As we speak, the Victorian State in South Australia is finding it difficult to balance growth vs economy/lifestyle.

    http://www.theage.com.au/environment/if-everyone-lived-like-victorians-wed-need-four-planets-20081204-6rph.html

    It seems that the world economy was/is merely groaning under it’s own weight, until one slip, was all it took to collapse. If it wasn’t sub prime, it would have been some other component to pull the rug out from under us. How bad would it be for developed country’s to use a 20 hour work week, find ways to encourage human activity that actually benefits us all socially, environmentally and economically. Reduce consumption of non renewable recourses and give the old planet bit of a rest to heal up, fish stocks, species depletion plant and animal etc. Mono-Theocracy’s do seem to lay waste to their environments/populations, in a very selfish way.

    Having said that I’m not complaining about the Industrial revolution. It has given us tremendous scientific knowledge but, at a high price and we just got the bill. We need not only to soften this blow/economic fallout but, to examine our traditions and there continuing worth, short and long term. To fix this market problem and issue a collective sigh, then turn around and do it all over again is unthinkable with the wealth of knowledge we have accumulated to date.

    Some one above commented on Germany’s Econoimic plan during the depression. I would recommend looking into the plan and how it was implemented on the ground, sans the great economic numbers it posted.

    Skippy

  79. Anonymous

    You people are so stoopid. Just make it illegal for women to work and there will be plenty of jobs available, and wages will go up due to shortages. Women will stay home and look after kids, sick, and old people, solving our crime, healthcare, and pension problems. Then, make it illegal for any goverment to spend any money outside the US and on stupid shit, put ordinary engineers in charge and bring the troops home. Downsize the military by 80%.

  80. River

    Skippy…I agree. I view the greed we are witnessing as nothing more than a ‘Tragedy of the Commons’…The financiers attempted to move one more cow onto the commons than the grass would support…Hence, all the cattle, owned by all the people, starve.

    What we are now witnessing is a punishment of all those that were grazing cattle successfully on the commons prior to the financiers moving the final cow onto the commons.

    To paraphrase J K Galbraith: ‘Finance does not easily lend itself to innovation.’

  81. R.Jl

    The suggestion that countries with large external surpluses should encourage domestic demand seems sensible enough, except that doing so is apparently not so easy, as Japan’s experience over the last 15 years illustrates.

  82. DirkJohanson

    alexblack makes an interesting point. Too often left out of the discussions of the financial crisis are related social upheavals. I, too, have had visions of angry Chinese men in a bachelor society crossing the Bering Strait to claim what they lent us and, after years of envying our relatively decadent sexual culture, take our women (or, alternatively,our women choosing to emigrate like mail order brides in other countries do now).

    It just goes to show that there really is a possibly win-win silver lining at the end of all of this – the undersexed and underloved Chinese men can take our women, and we can get rid of them at the same time! LOL.

  83. Ken Stremsky

    The least that should be done to grow the economy and create jobs is the indexing for inflation of capital gains, interest from savings accounts, and dividends. If the capital gains tax is not indexed for inflation, people may pay the capital gains tax when they have actually lost money because of inflation.

    If the federal government is serious about growing the economy and creating jobs, it should stop taxing capital gains, interest from savings accounts, dividends, and estates. Businesses especially small businesses will have an easier time obtaining loans and investments for hiring workers, training workers, research and development, and plant and equipment. People will have an easier time saving money for down payments on homes and fixed rate mortgages, college tuitions, and retirements.

    The federal government and state governments should reduce the minimum wage over time and eventually eliminate it. Teenagers and former prisoners will have an easier time obtaining jobs and skills. If the minimum wage is increased, many people will lose their jobs, many people will work fewer hours, many salaried workers will work more hours for the same pay, and prices may increase. If the minimum wage is decreased, businesses may be more likely to make investments and investors may be more willing to invest in companies. Banks may be more willing to loan money if the minimum wage is decreased.

    The federal government should sell a lot of the land it owns to raise capital, reduce the national debt, help fund Social Security and Medicare, help fund passenger rail, help fund buses within cities, help fund buses between cities, help fund energy development, help fund energy transmission, and do other things. Some of the money the federal government obtains from the sale of federal government owned land should go to State governments. If you type federal government owned land on a search engine, you might be surprised at how much land the federal government owns.

    Congress may want to allow many casinos and hotels especially hotels for the wealthy to be built in many national parks. The federal government could obtain property taxes from these casinos and hotels, a percent of sales from these casinos and hotels, and a 5 percent rooms and meals tax from these casinos and hotels. State governments should obtain some of the money the federal government obtains from these casinos and hotels.

    If Congress had learned from the Savings and Loans Crisis and regulated properly, the mortgage mess might have not taken place. Congress needs to require down payments on homes and fixed rate mortgages to reduce the probability of future mortgage messes.

    Banks may want to turn many foreclosed homes into low income apartments and middle income apartments. Banks may want to turn many foreclosed homes into apartments for disabled Veterans and other Veterans.

    I hope the federal government will spend more money on buses within cities and buses between cities. People may have an easier time getting to jobs and from jobs which may help reduce the need for food stamps and Medicaid. There may be less need for many families to have 2nd cars and 3rd cars which could help them have more money for non transportation related expenses. We might use less foreign oil.

    Article 1, Section 8 of the United States Constitution says Congress has the power

    “To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures”

    If people are less worried about inflation, they may be more likely to save and invest. If businesses are less worried about inflation, they may be more likely to invest and hire workers. If banks are less worried about inflation, they may be more likely to loan money.

    Congress should seriously consider backing our currency with gold, silver, and other commodities.

    Congress should eliminate the Federal Reserve or veto many of its decisions. If the Federal Reserve continues to exist, 2 members of the House of Representatives and 2 United States Senators should sit on the board of the Federal Reserve. If 3 of these members of Congress wants a Federal Reserve decision to be vetoed, it should be vetoed. If the majority of the House of Representatives wants a decision to be vetoed, it should be vetoed. If the majority of the United States Senate wants a decision to be vetoed, it should be vetoed.

    I graduate from the University of New Hampshire in 1992 with a BA Degree in Political Science and a minor in Economics.

    I ran for United States Senate from New Hampshire in 2002.

    My website is http://www.myspace.com/kennethstremsky

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