Saturday, September 5, 2009

Commentary, Crash Proof, Chapters 2 & 3


Actually, the first few pages are not too bad. But, then he gets to his assertions.

p. 27: “Our trade deficit…threatens to ruin us.”

This is a recurring refrain. But, it is an assertion. He claims that we cannot pay, as if we produce nothing of value to the world, are completely worthless, and once the bubble is burst, we will completely default. Nonsense. This is an insult to Americans. We are productive and competent.

We would suffer for the years of inflation that has driven up our trade deficits. But, BUT!!, many of the reasons why foreigners have bought our debt and kept our dollars still hold. Even if other countries begin to solve their own problems and no longer need or want our dollars, it will take years, and the dollars will come back to us over time. We will see price inflation for that, but a collapse is not imperative.

There is no explanation, really, of why or how we became a “service” economy. How did the decisions leading to that result go wrong, Mr. Schiff?

A methodological error or maybe an intellectual policy decision that Schiff makes is to tell us repeatedly what the deficit is, but not what the total trade figures are. Well, here are some numbers for 2008.

With the release of December 2008 U.S. International Trade in Goods and Services report by the Department of Commerce’s U.S. Census Bureau and the Bureau of Economic Analysis, U.S. exports of goods and services grew by 12.0% in 2008 to $1.84 trillion, while imports increased 7.4% to $2.52 trillion.

Exports comprised 13.1% of U.S. GDP in 2008. To put in historical terms, exports were 9.5% of U.S. GDP five years earlier (2003), and 5.3% 40 years ago (1968).

Capital goods represent the largest goods export category (end-use) for the U.S. with $469.5 billion worth of exports in 2008. The U.S. trade surplus in capital goods rose $12.8 billion to reach $15.7 billion in 2008, up from a surplus of $2.9 billion in 2007.

Services were just less than a third of our total exports.

I do not regard a trade deficit of $700B as insignificant. It is huge! We will suffer at some time for this gap. But to keep Schiff’s discussion of the situation in mind, realize that the US is still exporting a tremendous of goods. Something around 80% of the total of exports is goods, imports more like 90%. Therefore, we are still a significant exporter of manufactured good. (There are some foodstuffs there, too.)

The deficit really represents three things, first, our continued exportation of our inflation, and, two, other countries unwillingness to let the dollar slide to a position of market equilibrium, and, three, foreigners willingness to hold dollars instead of their own currencies (there are actually three small countries who dollars as their currency).

Schiff is correct only insofar as our inflation is concerned. The other portions of the trade gap is the result of the decisions of foreign central bankers and individual businessmen and individuals.

p. 29: “Inflation:….” Here, Schiff does not actually discuss inflation. He makes some statements, talks about the CPI and PPI, goes back to talking about dept, again. He says that he talks about inflation in Chapter 4.

p. 31: “The Housing Bubble” This is already past history. At the point that Schiff is writing the mess was beginning. He says that he will discuss it in Chapter 6.

p. 32: More on inflation. (Why is he talking about it here for several paragraphs when he says that he will talk about it in a later chapter?) What bothers me about this section is that he seems to be equating inflation with increasing prices. Then, sometimes he connects inflation with the housing balloon. Then he equates inflation solely with prices. I hope he clarifies his points later. Then (p. 62) “highly inflationary monetary policy of extremely low interest rates”? I know what he means. I am not certain if most people have a clue. Schiff often does not explain himself. Did he have an editor?

And on he goes about the measuring of prices, what is core, what effects certain parts of the CPI, and on and on. Anyone who worries about this is missing the point. Really!

Yes, he is attempting to say that the stated CPI numbers attempt to hide the “real” rate of inflation and make people feel safe. This is Schiff’s brand of a conspiracy theory. The federal beaucrats are not particularly competent. I am very hesitant to think that 10s of thousands of them, along with the entire last four administrations are involved in a conspiracy. Schiff has a few pet peeves we get to experience. Thanks, dude.

p. 36: Two points. First, oil. He sort of implies that oil prices will continue to be high. Now, he did not foresee that oil prices would fall during the recession that began after he wrote his book. That’s okay. I did not see any of that either (I only mean that foresight is almost impossible). I think that to a certain extend of what he says about high oil prices is still valid. I do expect oil prices to go back up, way up.

Second, he is wrong to discuss oil as being inflation. Inflation is not some particular price going up. Nor is price inflation some particular price going up. Claiming so just adds to the confusion. Inflation is the expansion of the money supply. Price inflation is a general increase of prices as a result of the expansion of the money supply, of inflation. Oil prices are going up because of a world wide enforced restriction of the supply of oil. Supply and demand, restrict the supply, and prices will go up. Nor is this just a case of inflation impinging upon the supply restriction. No, this is mostly the increase of demand because some major parts of the world population, India and China, for example, are starting to become a little more productive. If the populations of India and China increase their demand only slightly, the pressure on the oil market will be enormous! Inflation will make it worse.

p. 37: “The Deflation Ruse” Now here, finally, is a section that I agree with. This discussion is pretty much correct. Well, except that he reveals his confusion and limitations in his understanding of inflation. He says that “inflation results from an expansion of the supply of money and credit”. No, inflation is that expansion. Not realizing that, he is confused about our trade deficits, the bubbles in stocks and real estate we have experienced, and prices generally.

But you can forget about deflation fears. We should be so lucky!

If you accept that deflation means falling prices, deflation is actually good. During the last half of the 19C, when the US experienced the greatest increase in standard of living and had the greatest freedom that the world has ever seen, deflation was a constant, both prices and wages constantly fell. Wow, were we well off! If deflation means a contraction of the money supply, especially in a sharpe, sudden manner, then you can look at 1929 and the following few years. Slow, moderate contraction of the money supply probably would not be so bad, but it would be unfair to borrowers. Level is good. Actually, since the amount of gold is not a constant, but changes depending upon consumption and mining, the amount of money connected to gold tended to raise, especially as new mining techniques and technology evolved.

p. 38: “The Productivity Myth” Well that was short lived. Schiff has this tendency in his arguments to state that there is a shortcoming in a certain way and then declare that the thing does not exist. My statement is poorly put, so an example, a portion, not a small portion, but only a portion, our balance of trade is a deficit, therefore, Americans are a sham (see pp. 14-17 or pp. 21-23, both insults). So he does the same here, the way improvements in computing production is measured is screwy and computers have not added to the productivity in other industries has been overstated, so any increase in productivity in American industry is a myth. This is just poor thinking.

p. 41 to the end of this chapter: GDP. Consumer Confidence. Not worth discussing.

The thought that pops into my mind, thinking about the underlying theme of this chapter, is: profits. Why didn’t he talk about profits. In a capitalist economy, the surest sign of health is profits. All of the rest of that is merely government prattle. The Treasury reports, the Commerce Department, all of them, their stuff is prattle. Is Schiff saying the same for the thousands of companies in the US that are reporting profits? That is where productivity shows up. If price inflation was as significant as Schiff says it is, we would see a decline in profits. Does Schiff know that the bubbles he has talked about in stocks and residential real estate wipe out a good part of the inflation previously created?

Chapter 3

p. 64: “The declining dollar is the result of an American economy characterized by declining production, inadequate savings, reckless consumption, soaring household debt, ballooning federal budget deficits, and an overly accommodating Fed.” (Italics in text). Ahh. No. Schiff has not actually presented proof about the declining production. As I have mentioned, he does not show a very consistent reasoning pattern. The US economy does have problems with consumption, consumer debt, the Federal Budget, and some others, like enormous regulatory apparatus. Where is Schiff on that? But, the declining dollar is a consequence of inflation. No inflation, no huge export of dollars, no problem. Inflation is the creation of money by the Fed. Soaring household debt and reckless consumption are symptoms of the same thing. This is hard of Schiff to recognize in part because of his confused ideas about inflation and money creation. They do not seem to be straight in his head.

p. 65: the end game. “dollars that are on deposit in China and Japan and elsewhere are going to come flooding back”. Why? I mean, he has built a case for people to trust dollars less. But, why flooding? I mentioned it before, but he doesn’t really have an explanation as to why foreigners, including a lot of private banks, businesses, and individuals, have kept dollars in the first place, and continue to do so. Without an answer to that, we really do not know what would change their mind, and if, even then, they are willing to go through the mess that would result if they were to flood the US. Schiff just does not have, or I should say, he has not presented an argument as to why they would flood the US. I think that he may think that he has shown at least a basis, but, I hope you see, his thinking is badly flawed, and the international community knows better. I mean, they understand that it is not in their interest to flood the US with the dollars they hold. Instead, they will continue to let the dollar slide. If the slide becomes too steep, they will tend to pull it back a little. The consequence for us will not be good, either way. Schiff is right that these deficits are bad for us. The consequences will come.

Why will central banks stop lending to us? Look, for the central banker, the issue isn’t, “Should I invest in the US or not?” The question for him is, “I have money sitting here, where should I put it?” Now he has certain requirements as a central banker. The investment must have very limited probability of default, it must be “safe”. It must provide an income (the central banker does not have to worry about taxes) that is relatively competitive. It must have a market large enough that his investment will not affect it. When you run through the options, you have got to realize that there is only one market that meets these requirements. The US Government bond market. No other bond market in the world is as large or is considered as safe. The Central Banker may put some of his money in another market, maybe Germany, or England, but he has to be careful. No other countries debt has a market as well supplied with securities and as organized as the US market. The central banker’s major choice is then, the US government bonds, or cash, i.e., dollars. People proposing Euros or Yen, or a basket of currencies come into the same problem as the bond suggestions. There aren’t enough. To transit from a dollar denominated international reserve to anything else is going to require time planning and some means to move without destroying all of those assets. Wild dumping of dollars makes no sense to anyone, except, apparently, Schiff. The central banker may not be rational, in that he doesn’t understand economics, he thinks the world is putty in certain respects, but he really is not crazy. Even the Chinese central bankers aren’t crazy. Now, the Chinese Communist leaders are crazy, there is a crack in the money dyke.
Here is a good overview of some of the issues surrounding the trade issues. Robert J. Samuelson is good on certain, narrowly limited economic matters. For example, here he completely misses the role of U.S. inflation. But the rest is not bad.

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