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Source link: http://archive.mises.org/4497/deficits-dont-matter/

Deficits Don’t Matter?

December 29, 2005 by

Thosten Polleit wrote recently for Mises.org against the neccesity of US trade surpluses reversing accompanied by a decline in the dollar:

    As long as the United States is perceived by investors as providing the market place with institutions that are conducive to free market economies and which generate favorable growth and capital return rates (compared to Europe and Japan for example), the United States will maintain its position as a favored investment region. As a result, the United States is likely to remain in a position to accumulate capital account surpluses, with the external value of the greenback remaining under appreciating pressure.
In a somewhat similar vein, Louis Vincent Gave (speaking on Financial Sense News Hour about his new book) that the US economy should be likened to a large hedge fund that takes in capital from all over the world because it can allocate resources more effectively to their highest-valued use and can specialize in high-margin activities like product design while outsource low-value added manufacturing.

Frequent Mises.org contributor Dr. Antony Müller writes in The US Trade Deficit: to worry or not to worry? that it is not market forces at all that are driving the trade deficit. It should not be looked upon as the outcome of rational allocation of resources:

    What’s behind the massive capital flows to the United States is not capitalist calculation, but the role of foreign central banks, which are held to slow down the appreciation of their own currencies against the US dollar. The repressed adaptation of the exchange rates favors the export industries these countries. The US manufacturing industry is shrinking, while that of the trade surplus countries is expanding.
    Domestically, the US trade deficit has insufficient national savings at its root. That, in turn, is the result of two other factors: Low private savings result from high consumption relative to income; and the negative public savings are the consequence of high government expenditures relative to government income.

    Trade deficits don’t matter as long as that there is someone who finances the debtor. The looming problem, however, is the impact that these financial flows have on the capital structures of the economies involved. Persistent imbalances bring about changes in the composition of a country’s production structure. Depending on the duration and size of the imbalance, profound transformations of the capital structures occur. The economy of the country with the trade deficit is losing its manufacturing base while the country with the export surplus is overextending its manufacturing industries. This, in itself would not be a problem if the deficits were sustainable; but when the trade deficit comes along with debt accumulation, there is a limit to this process.

The present circumstances are not sustainable and can go on only until the interest on the debt compounds to the point that debt service payments overwhelm the ability of the surplus country to sell more goods. At that point, a rapid readjustment must occur.

Another Mises.org contributor, Chris Mayer, is part of a panel discussion on this topic reported in today’s Rude Awakening letter. Panelist Justice Little states

    But when much of the world’s capital is being parked in US Treasuries rather than wealth-building entities, and when we are spending like mad at home on flat-screen TVs and I-pods, and US stocks have dangerous valuations and entitlement programs are looming large, it is hard to be sanguine about the deficit. In this case, the capitalaccount surplus looks more like a bulge of borrowed money,parked in Treasuries that could be quickly ‘unparked’ at any given time.


Paul Edwards December 30, 2005 at 2:16 am

Nine Myths About The Crash (Rothbard, Making Economic Sense)

Ever since Black, or Meltdown, Monday October 19, 1987, the public has been deluged with irrelevant and contradictory explanations and advice from politicians, economists, financiers, and assorted pundits. Let’s try to sort out and rebut some of the nonsense about the nature, causes, and remedies for the crash.

Myth 4: A major cause of the crash was the big trade deficit in the U.S.

Nonsense. There is nothing wrong with a trade deficit. In fact, there is no payment deficit at all. If U.S. imports are greater than exports, they must be paid for somehow, and the way they are paid is that foreigners invest in dollars, so that there is a capital inflow into the U.S. In that way, a big trade deficit results in a zero payment deficit.

Foreigners had been investing heavily in dollars—in Treasury deficits, in real estate, factories, etc. for several years, and that’s a good thing, since it enables Americans to enjoy a higher-valued dollar (and consequently cheaper imports) than would otherwise be the case.

But, say the advocates of Myth 4, the terrible thing is that the U.S. has, in recent years, become a debtor instead of a creditor nation. So what’s wrong with that? The United States was in the same way a debtor nation from the beginning of the republic until World War I, and this was accompanied by the largest rate of economic and industrial growth and of rising living standards, in the history of mankind.

Don Lloyd December 30, 2005 at 2:20 am


The link ‘The US Trade Deficit: to worry or not to worry?’ doesn’t appear to point to the right thing.

Regards, Don

P.M.Lawrence December 30, 2005 at 2:26 am

Ah, but the debt (not investment this time) must continue to be supplied. That’s the risk that comes from deficits; that they cannot be sustained indefinitely.

Last time round, the USA mostly welched on its debts – which actually mostly started as investments, that time – and had a terrible credit record, contrary to today’s received opinion in the USA. However, it moved onto a more sustainable basis and was able to ignore its past problems; it stopped needing outside investment and could let that past bad track record wash out.

But unless the USA finds some way to turn things around, it will either find itself up the creek without a paddle when it next needs financing, or it will have to resort to a disguised form of levying tribute, i.e. making other countries keep mopping up and sterilising its deficit, or else.

Me, I don’t give a damn about the USA getting its comeuppance, but I do care about being on the receiving end of tribute or being caught in the crossfire if an end to subsidising the USA produces incidental casualties (like us here in Australia).

DS December 30, 2005 at 7:34 am

I’m not even sure that the balance of payments measures the right thing. It makes no attempt to measure profit, it simply counts gross numbers that cross imaginary borders. The easiest way for Amwerica to erase the trade deficit would be for every American company to sell every export at cost (i.e., no profit). The trade deficit would disappear and we would all be worse off. I say lets keep it.

David White December 30, 2005 at 8:33 am

Contrarian Peter Schiff, Founder/CEO of Euro-Pacific Capital, faced off against prominent Wall Streeter Gary Schilling yesterday on CNBC’s “Power Lunch,” each agreeing that a global recession is on the way but disagreeing as to its effects.

Schilling believes that the rest of the world cannnot survive without the American consumer and will therefore take the brunt of the hit, while Schiff believes that the Chinese and Indian middle classes are now large enough to take up most, if not all, of the slack, as these countries’ hundreds of billions in rapidly devaluing dollar reserves are channeled away from US lending and poured instead into domestic infrastructure and other investments, the better to support internal growth.

Me, I’m with Schiff (and Bonner and Wiggin and Donner and Blitzen) for one simple reason: Central banking is a cartel that differs from OPEC only insofar as it’s a much more difficult system to maintain. Both are essentially dens of thieves, and when push comes to shove, as it inevitably will, what do you think the banksters will do, “stay the course,” hoping their counterparts will do the same, or head for the exits at the first opportunity.


William December 30, 2005 at 8:36 am

Trade deficits do not matter to consumers, ergo they DO NOT MATTER PERIOD!

A lot of commentators fail to mention the positive effects of international trade on the consuming 100% majority. The fact is that consumers are better off using their wealth to purchase goods from other countries for their view of the superior combination of price and quality they receive. So these consumers now have excess wealth to spend somewhere else. It is that little bit of excess wealth that grows the economy. And the president we have wants to kill it over socks and bras.

More over, our stupid trading partners in an effort to keep their trade surpluses going are devaluing their currencies. This has the effect of stealing the wealth of their consumers and handing it to suppliers to reduce prices on goods they export. So this also tends to increase the benefit on trade to consumers in our country AND mitigate any negative effects of chronic trade deficits.

David White December 30, 2005 at 9:20 am


Our trading partners are stupid because their central banks are doing the same thing that our central banking is doing — and has been to the point that the dollar has lost over 95% of its value since 1933?

Furthermore, when you have to borrow over $2 billion a day — from the poor countries that are supplying all the goodies — to finance your consumption of those goodies, deficits definitely DO matter: http://www.lewrockwell.com/french/french35.html

Roger M December 30, 2005 at 9:54 am

Most of the discussion on trade deficits reminds me of the old story about the blind men who meet an elephant for the first time. One examines his tail and thinks an elephant is like a snake. Another examines a leg and decides he is like a tree, etc. In a similar way, the factors involved in trade deficits are too numerous for most of us to contemplate at one time, so we focus on a smaller slice that we can easily digest.

What factors affect trade deficits? Savings (home and foreign), investment opportunities, exchange rates, technology, governmen policy, monetary policy, corruption, natural endowments, and more.

Things that others haven’t considered: Africans send us about $90 billion a year for safe keeping because their corrupt governments steal everything. This will cause trade deficits. Should we punish Africans because they want a safe place to store their money?

We can’t make enough of some things to meet our needs. If we tried to be self-sufficient in oil, we would pay about $50/gallon for gasoline. What’s the point? By keeping a sustained trade deficit with Canada, oil largest supplier of oil, we increase our own wealth.

Some things other countries can make cheaper than we can, especially labor intensive products. Should I try to make my own shirts rather than buy cheaper ones at WalMart? Not at all. I will always have a trade deficit with WalMart and the US should always have trade deficits with countries that can make things cheaper than we can.

The problem with national accounts is that they make the US look like a corporation. Obviously, corporations must sell more than they spend, i.e., run a “trade surplus”, or they will go out of business. Trade is their business. But the US is not a corporation and international trade is not the source of our wealth. Productivity at home is the source of our wealth. If buying things from other countries improves our productivity at home, we will always be better off doing so, and we will have the money to pay for them.

SteamshipTime December 30, 2005 at 10:06 am

The trade deficit with other countries is no different than the trade deficit I run with Kroger. However, Kroger continues to sell me groceries because I export enough of my own services to finance my purchases. In other words, ultimately, imports must be paid for with exports. From the statistics I have seen, even the capital inflows (a good part of which are actually loans) only cover 80% of the deficit.

Thus, it would appear that at least some part of the deficit is financed by a combination of monetary inflation and credit. How much a part? I have no idea. Obviously at some point the bills have to come due for that part.

David White December 30, 2005 at 10:58 am


Yes, at some point the bills must indeed come due. As Bill Bonner and Addison Wiggin write in “Empire of Debt: The Rise of an Epic Financial Crisis”:

“Asians now own enough U.S. dollar assets to buy a controlling interest in every company on the Dow. They have enough T-bonds to destroy the U.S. economy on a whim.”

“[O]ne out of every four dollars spent by the federal government is borrowed. And for every dollar that comes in the door from income taxes, the feds borrow 80 cents.”

“Over the broad sweep of stock market history, prices have gone up. From barely 100 following the crash of 1929, the Dow is now over 10,000. Who can doubt that the tendency is up? Yet, adjusted for consumer price inflation, the Dow is only at 500, and most of that increase is merely cycle.”

“The total value of all assets in American is only about $50 trillion. Current U.S. debt is about $37 trillion. Add to it the present value of Federal government liabilities [over $74 trillion: http://www.concordcoalition.org/facing-facts/alert_v10_n2.html and America is broke. Busted. Bankrupt.”

billwald December 30, 2005 at 11:22 am

“Schilling believes that the rest of the world can not survive without the American consumer”

What about the rapidly growing Chinese and Indian consumer classes?

D. Saul Weiner December 30, 2005 at 12:59 pm

“The problem with national accounts is that they make the US look like a corporation. Obviously, corporations must sell more than they spend, i.e., run a “trade surplus”, or they will go out of business.”

This is certainly true over the long run but not necessarily over the short run. Most businesses are run at a loss during their start-up phase. If the business concept and execution is sound, then the venture will be a success and this initial “loss” will ultimately give rise to net inflows which more than compensate for it.

So I think it really comes down to whether our trade deficit represents (on the whole) is indicative of a sound investment requiring start-up capital or whether it reflects the support of profligate spending and waste. I am inclined to believe it is the latter.

Willaim December 30, 2005 at 2:55 pm

Trade a big deal vs. the Feds or the States?

I find it unlikely that the whole world is going to end in an economic cataclysm when all the folks in India, China and the like realize that the money they hold is worthless. I think the more likely scenario will be of a pro-longed transfer of investment wealth out of the US in the form of SERVICES that we have seen with the more modern trading partners like Japan and Germany.

As for the effects of the trade deficit, the consumers really do not feel it. The federal government distributes 25% of GDP, the state and local governments distribute about 20% more. That is a full 45% of GDP in the hands of less than 10,000 people plus the government monopoly on violence and coercion makes any negative effects of a trade deficit to the average consumer minor in comparison.

So if the whole mess crashes in a cataclysm then it is the fault of 1 federal and 50 state governments that caused it and not trading with people from foreign countries.

David White December 30, 2005 at 3:14 pm


You ask: “What about the rapidly growing Chinese and Indian consumer classes?”

That’s precisely Shiff’s point — i.e., Americans will turn out not to be the consumers of last resort, rapidly growing middle classes will generally take up the slack once the American borrowing bubble bursts.


I don’t blame the individual states at all, since they aren’t the ones printing money out of thin air. Instead, I blame the Fed and central banking as a whole for creating “currency regimes” that flout the very notion of money and of a truly free economy.

Roger M December 30, 2005 at 3:31 pm

I did a simple regression recently on the exchange rate between the Euro and Dollar and found that FDI from Europe can explain 75% of the variation. FDI coming into the US from all over the world is huge, second only to China. In many respects, the rest of the world sees us as a young, growing economy and wants to invest here. Yes, some of the trade deficit represents consumption, and some is central bank pruchases, but much of it is FDI. That FDI should generate profits sufficient to keep paying the bill on the trade deficit.

Stefan Karlsson December 31, 2005 at 6:09 pm

I am surprised you didn’t comment my article on this subject.

As I pointed out there, trade deficits do matter, but that does not necessarily mean that they’re bad. A trade deficit simply means that there is aggregate net borrowing from the people in one country to another.

Whether that is good or bad is dependant upon the same analysis of whether or not it is a good idea for any individual to borrow or not. It is a good idea if he or she uses it for productive investments or consumption which is rationally considered more highly valued than future consumption. It is a bad idea if he or she uses it for malinvestments or excessive consumption.

The analysis of whether a credit transaction between individuals is good or bad of course applies to aggregates of individuals like countries.

In the specific case of the United States, it probably to some extent reflects that Americans value current consumption relative to furture consumption higher than others, which is to say they have a higher time preference than for example the Chinese. But it also reflects to a very high extent the distortions created by the U.S. budget deficit and the artificial suppression of interest rates from the Fed.

Paul Edwards December 31, 2005 at 7:28 pm

What happens when the government inflates: malinvestments. What happens when the government spends: over consumption. There is no reason to expect that this truth will not apply to a net capital inflow as well. More of that capital will be consumed than it otherwise would, and more of that capital will be malinvested than it otherwise would. The source of the problem is government inflation and spending. There is nothing to be said about capital inflows that cannot also be said about capital in general. Government activities such as inflation and spending dilute both in exactly the same way. It increases malinvestments and over consumption. Therefore, it is just as Rothbard stated, “There is nothing wrong with a trade deficit.”

Isn’t it a comfort that state, county, city and municipal governments don’t also keep track of their respective trade deficits? Think of the further distractions those issues would impose.

Stefan Karlsson January 1, 2006 at 3:43 pm

Paul, you’re right that the fundamental problems are the budget deficit and the Fed’s inflationary policies, not the trade deficit itself. But nevertheless, the trade deficit is a symptom of Bush’s and Greenspan’s destructive policies and the fact that the deficit have arisen is unsound as it is a result of the destructive policies of Bush and Greenspan.

This, of course should not be taken as an endorsement of protectionist policies like tariffs or quotas to cure the problems created by the budget deficit and the Fed’s money creation, as this would have little or no effect on the unsound transactions while creating far greater distortions in other areas.

tz January 2, 2006 at 11:58 am

If we were on a gold standard, I doubt the trade defecit would have gone on so long or expanded to the depth it has.

As others have pointed out, the USG issues various Treasuries that the foreigners buy because they think they won’t end up like Argentine bonds.

Another thing I agree with is that a defect can be either good or bad depending on where the money is going. But I don’t think it is going for investment.

And as others have pointed out, defecits are no more neutral than inflation. If the central bank prints money, it will cause malinvestments. If they merely lower interest rates (until all the gold drains out), it will also cause malinvestments. So when the foreigners lend to us in what amounts to a loose credit expansionist policy, why do we think it to be any different or any more sustainable? And it makes a difference in the US economy – is Wal-Mart better or a beneficiary of the misallocation? is Ford worse or a victim of the misallocation?

I bring Ford (and GM and others) up for a reason. One problem they have is promises made long ago during a different economic condition. At the time, promising retirement benefits was probably something advantageous. Even non-union shops had retirement benefits.

Many say they were just stupid or mismanaged, but I doubt if they were in the same positions at the same time they would have done different things. This is the same as mutual fund managers just “had to be in tech” in 1999 because if you weren’t, people would move to a fund that was in tech even though it was imprudent over any but the shortest term. A rising market makes a lot of fools appear smart during the period it is rising. And though all the indications were there that it was a blow-off, it just kept going up beyond any measure of rational valuation – valuations – things like P/E, cash-flow, etc. didn’t matter then. Until one day they did.

So today people praise the Wal-Marts and others who are benefiting and playing the Trade-Defecit well. But just as “retirement benefits” were good then but bad now, this play is likely to reverse. When the USD tanks v.s. the Chinese currency, is Wal-Mart going to be able to raise prices large percentages? Where will we get manufactured goods, or will we just pay a lot more?

Or I can also point to the housing bubble which is another beneficiary. Is it the top? I don’t know. Is it sustainable? No, at least in inflation adjusted terms (I’m still split between whether we will go depression or weimar).

Even under a truly free market with a gold standard with conservative businessmen, “this too shall pass” applies. But at least then the damage is contained since there are no huge malinvestments, so when things blow up under they leave very small craters. When the bubbles are supersized via leverage (credit), they tend to be economic disasters of biblical proportions.

Paul Edwards January 2, 2006 at 12:53 pm

I agree with Tz:

“If we were on a gold standard, I doubt the trade deficit would have gone on so long or expanded to the depth it has.”

On gold, China would have begun draining Americans of their gold hoards quite a while ago, which could only continue as long as Americans persisted in desiring to dishoard gold in favor of acquiring Chinese goods, and conversely only as long as the Chinese preferred to increase their gold hoarding over acquiring US made goods.

It is only via US and Chinese central bank monetary interventions with their respective paper currencies can these unnatural trade imbalances occur and persist.

David White January 2, 2006 at 7:49 pm


Precisely. The trade imbalances are unnatural — i.e., artificial creations of the state — meaning that the trade itself is unnatural — i.e., not at all what a truly free market would be engaging in.

That’s why I maintain that libertarians who support “free trade” support the status — as in statist — quo and do the cause of freedom a disservice accordingly.

Is protectionism therefore the answer? Yes, if by that one means the protection of life, liberty, and property amid all this unnaturalness.

How? Even Lew agreed that if we sealed ourselves off, North Korea-like, from the rest of the world, while dismantling Leviathan and letting freedom ring within our territorial confines, our 300 million people would be more than enough to create an economic dynamo the likes of which the world has never seen.

No, it won’t happen, of course, so what to do? Urge the libertarian leadership to join forces in telling the country that our “Empire of Debt” is doomed to collapse under its own weight (or rather, the weightlessness of its paper money) and that while there is going to be hell to pay for all the unnaturalness, one can escape much of the heat by buying gold and waiting for this most precious commodity to reclaim its rightful place in human affairs, after which we can turn our attention to creating a truly Novus Ordo Seclorum — http://www.greatseal.com/mottoes/seclorum.html — free of that which has prevented its arrival.

Paul Edwards January 2, 2006 at 8:26 pm

Hi David,

As long as i remain able to buy cheap goods made in china without interference from Washington, i’m with you.

But seriously, my answer is this: dismantle the fed and put Washington’s spending on a tight leash and leave the consumers alone to freely choose what and from where to buy. In your words, i’m in favor of “dismantling Leviathan and letting freedom ring”. Dismantle the domestic tyrant’s machinery. Don’t advocate further encroachments on liberty in the form of even more protectionism. That’s just more bad news for liberty.

Paul D January 3, 2006 at 7:48 am

“Don’t advocate further encroachments on liberty in the form of even more protectionism. That’s just more bad news for liberty.”

Not to mention, further restraints will just serve to distort the economy in even more ways. It’s unlikely to the point of oblivion that any trade restrictions Mr. Bush imposes will magically counter-balance the trade deficit encouraged by the central banks.

Roger M January 3, 2006 at 9:19 am

I don’t agree that a gold standard would have eliminated the trade deficit. If you look only at merchandise trade, yes we would lose gold to countries we purchased from, but we would receive gold from countries wanting to invest in the US or park their money here for safe keeping. Also, increasing productivity would have increased the purchasing power of gold, so what little we sent overseas to buy oil, for example, would hardly be missed.

The US could never survive without trade. If we had to produce all of our own oil, clothing, copper, etc., the cost of living would rise so high as to plunge us into deep poverty.

Paul Edwards January 3, 2006 at 9:59 am


What i meant was that rather than sending an ever increasing amount of gold in exchange for imports, we would, on balance, and necessarily, tend to export a corresponding amount of value in goods in exchange. There would be lots of trade, just more trade in goods and less net one-way trade of gold for goods.

Roger M January 3, 2006 at 11:58 am

Paul, I think I understand what you’re saying, and that seems to have been the case during the century of the gold standard. But I’m wondering how much that balance of trade resulted from gold and how much from old fashioned protectionism, or from the fact that nations who traded were very similar in their econ structures.

Let’s look at oil. We can’t produce enough for ourselves, so we must import most of it. If we only traded in oil, we would lose a lot of gold each year to oil producing countries (Canada being our largest supplier). As a result, our money supply would contract, and the economy would slow to the point that we no longer needed to import oil. Which would be disastrous.

However, if we export US stocks and bonds, and allow oil exporters to buy US companies (FDI), they will have to send gold to the US to pay for those. In that case, it’s very likely that we could run a huge deficit in the oil trade from now on without a net loss of gold.

Paul Edwards January 3, 2006 at 12:59 pm

I’m with you on that; we can export our stocks and bonds, in exchange for gold (or essentially for oil), which is absolutely fabulous. That trade imbalance would follow the pattern of the history of the US during its prosperous and increasingly productive times in the 19th century: a time when there was a net investment in the US and a gold standard. This is the ultimate situation where one is driven to conclude that there is nothing wrong with a trade deficit.

However, in the longer term, as people suggest on this and other threads, a nation cannot indefinitely fund imports with the sale of investment securities. Eventually, the increased productivity resulting from these domestic investments made by foreigners, these trade deficits, must result in increased domestic production which must eventually be viable for trade to the countries that produce the oil and other goods they specialize in. (We’re living off of the benefits of these previous investments made here during that earlier time.)

As long as these investments are productive, and not wasted by state induced market distortions, all will pan out. In a free market and with honest commodity money, it all pans out. I like the expression “it pans out”.

On the question of how protectionism affects things, in my opinion, it is this way: it reduces the supply of imports via quotas or by adding costs to foreign suppliers, via tariffs. The reduced supply of imports to us means a reduced supply of currency to foreigners. This means they must buy less of our domestic products, and our investment securities. Protectionism isn’t conducive to either maximizing domestic well-being or to real domestic economic growth because it hinders both trade and investment.

Roger M January 3, 2006 at 1:26 pm

But I would argue that a country can pay for imports with the sale of securities indefinately. (Choosing just securities as our export makes the case harder, because if you allow foreigners to buy stocks and make FDI, then their gold becomes ours and increases the productive capacity of the country.)

Let’s pretend that we produce nothing that foreigners want, except our bonds. If we trade just two items, US bonds for oil, at what point would the debt become burdensome? That’s impossible to know unless we add some other variables. Let’s look at productivity. If our productivity continues to grow at a sufficient rate so that the real economy grows, and the imports as a % of the economy remains the same, or shrinks, I see no reason why we can’t pay for oil with debt from now to eternity under a gold standard.

Paul Edwards January 3, 2006 at 2:40 pm

But how long would anyone continue to lend and invest in firms that appeared to have no prospect of ever producing something of value in the future and therefore of paying back capital and interest?

If there are three individuals (firms or nations), A, B and C; B and C trade together, but they only sell to A, who pays with the funds provided by B and C through capital investments in A, how long before B and C will realize the futility in such investments? If B and C are not states or their central banks, it won’t be long at all.

It is not sustainable to trade goods for capital indefinitely. People invest today to reap payoffs in the future. Not to fund someone’s elevated lifestyle.

Roger M January 3, 2006 at 3:49 pm

Why would they realize the futility in such investments? If A’s economy grows as fast as the interest rate on the loans (not a huge problem since interest rates are the flip side of profits)it should be able to service the debt forever. As long as A can service the debt, B and C will trade A’s debt with each other. For example, if B wants to cash out, he can sell his debt to C.

Remember that in order to make the problem manageable, I assumed just two trading items, oil and bonds. Adding more items would complicate the situation, but not change the pricinples much.

Say that an oil exporter decides that they have purchased too many US bonds and refuses to sell us more oil for bonds. What would happen? The price of domestic oil would sky rocket, but the price of the exporter’s oil would plummet. With no other goods to trade and no other trading partners, the oil exporter would be swimming in oil. He can’t eat it. He would have to lay off all of the people in his oil industry. Eventually, the price of foreign oil would fall and the interest rates on US bonds would rise until the oil exporter would be forced to trade again.

Roger M January 3, 2006 at 3:54 pm

Plus, in a gold economy, prices would fall every year, assuming no gold production within the US. That would make purchasing the oil easier each year, requiring us to borrow less each year for the same amount of oil.

Roger M January 3, 2006 at 4:11 pm

I’m also assuming that the oil exporter has a full blown economy like that of the US and doesn’t depend completely on oil exports for its income. In that case, oil exporting companies could sell US bonds to other citizens, such as lawyers, in the oil exporting country for cash.

Paul Edwards January 3, 2006 at 4:13 pm

“If A’s economy grows as fast as the interest rate on the loans (not a huge problem since interest rates are the flip side of profits)it should be able to service the debt forever.”

But what are the specific implications of A’s having a growing economy? Certainly one implication is that A’s productivity in producing things that B and C want to buy has increased.

Without that, what is the meaning of this growth? A must use some of its increased productivity in trade with B and C to be able to reciprocate the earlier advances of goods from B and C and in this way A can service its debt.

In the final analysis, all trade must resolve to exchange of real goods, rather than exchanging debt for goods. Just as you and i cannot perpetually increase the size of our mortgage each year and never pay back principal and interest, so applies this rule to a nation and nations of individuals. Eventually, all imports of real goods must be paid back with exports of real goods, in a gold money environment.

Roger M January 3, 2006 at 4:26 pm

Not necessarily. In the real world, there would be all kinds of trade going on and much of the trade deficit would be resolved with the trade in goods. But in the world I assumed, our trading partner doesn’t want anything we make, so we can’t export any goods. However, our standard of living could still increase because of productivity increases within our country. We would have to pay the oil exporter interest on the debt, or that would be a sign of default on the loans, so we would ship them amounts of gold equal to the interest payments. Then in the US, prices would fall as a result of increased productivity and because of the reduced money supply. The price of oil would fall, too, making the amount we had to borrow each year for oil less.

I’ve made this imaginary world especially rigid to illustrate the point that trade has little to do with our own wealth, except when imports reduce the cost of living. The key is productivity increases, which the imported oil fuels because it’s cheaper than what we can produce it for.

Paul Edwards January 3, 2006 at 4:43 pm

I’d be happy if we just got back to honest gold currencies. Whatever the market gave us then would for sure be better than what we’ve got today.

This discussion was good food for thought.

Cheers Roger.

David White January 3, 2006 at 5:40 pm

Paul and Roger,

We are agreed, are we not, that in a sound money, limited government world, trade deficits wouldn’t matter because borders wouldn’t matter? After all, even though the fifty US states aren’t limited governments, they are far more limited than the federal government, and trade among them is therefore carried on without any thought of “trade deficits.” Neither does protectionism come into play, the point being that government fiat currencies so distort the marketplace that international trade is altogether different from interstate trade.

Bottom line: Once the fraud of central banking finally collapses under its own weight (and oh, what a fine start gold has gotten off to for the year!), the world will be rid of its greatest evil, save for the state itself.

P.S. Roger, our imported oil is only cheap because it’s so heavily subsidized — http://washingtontimes.com/commentary/20030722-093718-6082r.htm

Paul Edwards January 3, 2006 at 6:04 pm

I think we agreed that trade deficits do not cause us harm. Our disagreement is mostly on the question of the sustainability of ever increasing deficits even under a gold standard. I argue that the deficits must eventually balance out or at least reach equilibrium via mutual trade in physical goods, and Roger maintains that they could persist and grow indefinitely, ruling out the absolute necessity for eventual reciprocal trade. If i have understood Roger’s position, he is saying it is conceivable that one nation could perpetually pay for imports by exporting pure debt. That was the central point of our disagreement.

Paul Edwards January 3, 2006 at 6:06 pm

(that’s trade deficits)

billwald January 4, 2006 at 1:49 pm

If money is a commodity (an asset) – as some of you think – then there is no trade def because the Americans are only trading one form of property for another form of property and we know that a trade doesn’t occur unless each party comes out ahead.

billwald January 4, 2006 at 1:54 pm

You ask: “What about the rapidly growing Chinese and Indian consumer classes?”

That’s precisely Shiff’s point — i.e., Americans will turn out not to be the consumers of last resort, rapidly growing middle classes will generally take up the slack once the American borrowing bubble bursts.

OK. I agree. Then the problem boils down to the same argument the people who want zoning laws use, “We have ours and you can’t have yours.”

America must be the most wealthy nation as well as the most powerful nation. Gun boat diplomacy.

Paul Edwards January 4, 2006 at 1:55 pm

Bill!!! Well said.

Paul Edwards January 4, 2006 at 1:56 pm

(wrt your first of two posts)

billwald January 4, 2006 at 2:00 pm

“the dollar has lost over 95% of its value since 1933?”

In 1933 half of our life’s energy went to obtaining sufficient food to stay alive and now we spend less than 10% on food. Back then less than half the people had indoor plumbing or electricity. The average life span was around 55.

Why is the artificial value of the dollar more important than standard of living?

billwald January 4, 2006 at 2:07 pm

In the 1800′s we had a trade balance def but it was used to provide infrastructure such as the railroads and bridges. These days it is used to buy toys. When the crash comes the people who will suffer the most are those who buy toys on credit. They will lose their toys and their credit. The rest of us will come through OK.

David White January 4, 2006 at 2:28 pm


“Why is the artificial value of the dollar more important than standard of living?”

I didn’t say it was; I just said, and continue to say, that the dollar’s loss in purchasing power plunders the people. If I had borrowed a dollar from you in 1933, and you had agreed to let me repay you in 2005 at no interest, you’d have gotten less than a nickel back in real terms. Your loss, my gain, which in terms of inflation means the people’s loss, the government’s gain.

This has nothing to do with productivity increases, as they are unrelated to currency values, and you may be assured that under a gold standard, we’d be paying far less than 10% of our incomes on food, just as we would on virtually everything else. For instead of price INflation, we’d have been experiencing price DEflation, just as we presently are in the computer sector (because its productivity is so extraordinary that it vastly outpaces the weakening dollar).

We’d be a WHOLE LOT richer, in other words, and enjoying a far higher standard of living — with a great deal less income disparity and thus class warfare.

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