Saturday, September 5, 2009

Commentary, "Crash Proof", Introduction & Chapter 1


p. ix: “The continued demand for U.S. government investments among central bankers has its explanation, I think, in robotic bureaucratic momentum.”

The problem with our thinking about “central bankers” is that “robotic bureaucratic momentum” is an easy one to accept. In fact, to at least some extent, it may be true. But, it will be to our folly, as economic analysts, if we allow ourselves to stop our thinking at the easy and convenient. Many central bankers have gone to schools that have excellent reputations and good classes on bond portfolios. They know that their bosses want certain results from their activities, and they are aware of their opportunities. It is folly to accuse people of being stupid just to make your own point. It makes your point questionable.

Central bankers have a problem when considering as to where to place their money, which is to say their accumulated dollars. They have a lot of them. In one estimate I saw, non-U.S. central bankers have $10T sitting around. And there hoard is growing daily, several hundred billion dollars a year.

Since they have so many dollars they have to have markets large enough to place that money. Of course, they don’t have to do it all at once. They just have to be able to place the new money and the funds that they have received from interest payments and redemptions whey the bonds mature. They also must have a security that has a certain high degree of safety. Well, there is only one market. The U.S. government bonds. Other markets are too small or the security does not have the creditworthiness. The last time I saw the comparison, the bond market in the U.S. is eight (8!) time the size of the U.S. stock market, the largest in the world. The central banker could place some in other markets, and probably is. But the other markets are just not enough to make any significant difference. The central banker is stuck, whether he does suffer from any robotic tendencies or not. This is also the reason that the U.S. bond markets have underperformed. The demand for our securities drives the performance down. If we had to compete more for bond buyers, the interest rates would go up.

There is another problem for Schiff’s position. These central bankers do not want to have the U.S. dollar collapse. It would be bad for themselves and their citizens. A collapsed U.S. would be bad for the entire world. We are still the dominant economic engine. A world without a healthy U.S. would be a world in a deep economic depression. A crash is bad, and they are smart enough to know that, well, at least most of them most of the time. Frankly, the people most likely to screw up this mess is the U.S. Congress and the Chinese “leaders”.

None of this argument is in any way meant to imply that our Current Account deficits are a good thing. It is definitely the result of our inflation. It will come to bite us, yes. I don’t think that it will be a crash. See my comments elsewhere.

p. x: “In contrast, the economies of Japan or China are portrayed with images of billowing smokestacks, busy production lines, robots assembling, and people actually making things.”

Schiff has the opinion that the production of “things” is the only means to real wealth. Producing things does produce real wealth, but for the capitalist. The factory is the tool, used by capitalists. Somehow software, services, management know how, knowledge of how to use the international division of labor, etc. does not quite rate Schiff’s attention. He does not grasp how the process is going on, especially in China.

Nor does he understand how the trade deficit has occurred. Schiff does not compute the difference between our current system of currencies and the way a gold system would work, or even one in which governments weren’t in control. One real reason we have a trade deficit is that the relation between currencies is not allowed to resolve, especially, with the Chinese. The reason is that people and banks outside the U.S. tend to prefer to hold dollars to their own currencies, which tends to make sense. But, mostly, the reason we have a trade imbalance is that we export our inflation. If the Fed stopped making money, the deficit would dwindle, maybe not disappear, because the people and central banks overseas would have to act differently, but the deficit would be a less significant thing. If we did stop exporting our inflation, the value of the dollar would still need to fall because of past inflation, especially against those currencies that have not been allowed to devalue the dollar.

Thus, to rant about the deficit is to miss the point.

Schiff may get to that point, later, I hope.

p. 1: “The economy of the United States, long the world’s dominate creditor, now the world’s largest debtor, is fighting a losing battle against trade and financial imbalances that are growing daily and are caused by dislocations too fundamental to reverse.”

Too fundamental to reverse? Apparently, we are dead men walking. But, Mr. Schiff, why do you say that? Proof, please. So disappointing.

To be the world’s largest creditor is not good, I know. The debt is largely our federal debt, i.e., overspending by Congress. I do not like it, the debt. It is not going to be fun paying it off. I do think of the Clinton administration. Remember, we began having surpluses? Now, the Fed was busy printing money, and we did have a inflation caused stock market bubble, and Clinton significantly weakened our military, but, on the whole, really, the 90’s was a period of increases production and wealth creation, brought on by lower taxes and reduced regulation. Think what would happen if we began moving toward freedom and capitalism, for a change. Not only would the productive people we have increase output, but there would be hundreds of thousands who are not considered employed, but are in jobs that are actually burdens on the economy, who could be actually productive. Plus, there is an enormous amount of federally owned land and property that could be sold. I don’t worry much about the federal debt as much as I worry about moving further away from Capitalism. We can’t pay any debt when we are not allowed to be productive.

p. 2: “…nonexportable services” We export lots of services. His statement is merely an unsupported assertion. There are services that we cannot export, surely, but there is more than Schiff apparently knows about.

p. 3: “Because Americans are not saving and producing but are borrowing and consuming, we have become precariously dependent on foreign suppliers and lenders.”

p. 7: “The fatal flaw in the modern economy is that any attempt to save and under consume, which would bring about a badly needed recession, is resisted by government policy….”

The idea here is that personal savings, according to Schiff, is necessary for capital accumulation. But, that is not so. Capital is accumulated by capitalists, not by the man in the street. Schiff is actually very influenced by modern economists.

p. 7: “…selfish…” Not good when Schiff regards this idea as a pejorative.

P. 8: ref to Bretton Woods agreement.

Says that we are immune to consequences due to status as reserve currency, but disregards fall of the dollar for last several years.

p. 9: “Abroad, in contrast, there was a spirit of rebuilding, an awareness that natural resources were scarce and must be conserved, lower taxes and wages, and generally fewer government obstacles to economic development.”

Where exactly. This description corresponds to nowhere that I know of. It is just wrong. Further, the “awareness that natural resources were scarce” (which is basically wrong!) has caused more government controls, and lower potential economic development. The only thing correct about this statement is that in certain areas, first Japan, but mainly in the Far East, wages were lower. Taxes were not, particularly.

In the seventies and eighties, Japan was touted as the next big thing, being much better than the US, even at some of the Objectivist Conferences. However, American business took stock and remade itself, and left Japan in our dust. Since then, Japan has had little growth, has not reviewed its cumbersome government structure and controls, and is actually shrinking with its population.

p. 10: “The popular notion that in the post-industrial service economy money-valued services are an acceptable substitute for goods because both generate money ignores the distinction between money and wealth. Money is a medium of exchange. Wealth is what is received in that exchange.”

This is absolute nonsense. If you have $10,000,000 in net assets, all in financial assets of some kind, you have wealth. Wealth is the ownership of assets, not possession of goods. I have no idea of what he is trying to say. Probably, he is trying to make some kind of point about manufacturing is better than other kinds of businesses. What the U.S. has demonstrated more than anything is that business management is the most wealth-producting activity. As Objectivists, we know that the fountainhead of wealth is the man of the mind. One consequences of that is that the broader the view, the more integrated the understanding, the wider integration, the more effective, productive, creative the individual is. Such an individual would use the best, least cost, most productive business elements from around the world. In that environment, the software company who creates a program that improves productivity could easily be producing more wealth than a manufacturing plant.

Schiff has not demonstrated that an economy needs to be mostly manufacturing in order to produce wealth. His comments are merely assertions, including those about services. I recognize that I am not presenting a case for a service-based economy. I do not have the research to do so. It may need a real academic. But Schiff’s text does not provide justification that we are not a productive economy.

p. 11: “…but I don’t agree that we can ever replace manufacturing with information. There is simply an insufficient quantity of such products….”

Simply assertions.

“The resulting trade deficits prove that our so-called information/service economy is in reality a sham.”

Since there are other issues in our deficit, e.g., our inflation, the desire of foreigners to posses dollars, the unwillingness of certain governments to allow their currencies to move towards equilibrium, and the reserve status of the dollar, I think Schiff’s statement is without justification.

I think that we are more productive and competitive in a far broader extent than Schiff is willing to consider. Having said that, I recognize that I am merely making an assertion, stating an opinion, as is Schiff. My opinion, however, is certainly consistent of what I see about me. Schiff’s would require that my experience be an illusion.

p. 11: service jobs pay less than mfg jobs. Again an assertion. This assertion is even more an error when you consider two things, one, that mfg jobs in the U.S. have been over paid for decades, and, two, he has made a straw man in representing service jobs by the hamburger flipper. Bad form. Implies that he cannot support his position without the straw man. Additionally, service industry jobs are not low paying. U.S. incomes have not fallen precipitously.

p. 12: straw man lives

p. 13: Schiff gives us the alternative of Consumers vs. Savers
There are so many strange and questionable ideas put in this paragraph that it is hard to figure where to start.
- financial services org deregulated – making it sound as if regulation is good
- financial services org lowering their standards – generally, no, they didn’t
- foisting loans – the idea that advertising or salesmanship, etc., breads bad actions
- the value of stocks and houses wholly dependent upon inflation

p. 14: Schiff equates our “excess consumption” with all we do. While any loss of “excess consumption” would be a marginal loss to some, if we collapse, our complete loss or a very large reduction of our importing would be a significant loss to many. We are everyone’s largest trading-partner. The problem here is that Schiff forgets the part that foreigners buy from us. The trading numbers show us having a deficit, but the total amount of trade is very large. Loss of a significant percentage of that, on both sides, would be a major blow for everyone.

His castaway example is an insult. Today, yes, some of what we pay for is in the form of IOUs, i.e., dollars that are not returned. But it still is a fraction that was small and gotten larger.

Further, the idea that the Americans are the only ones who have the problem with inflation and IOUs is amazing. According to Schiff, Americans are the lone scavengers in the world. The Japanese are known for not inflating their economy as others have, the same is true of the Germans, and to a lesser extent, the English. But the rest of the countries of the world, and now especially the Chinese, are busy doing the same. The U.S. has the position it has among these countries because of its greater productivity and creativity because of its freedoms. Schiff does not know of any of this. Our real problem is the continued erosion of our freedoms, which do translate into a reduction of our productive ability.

p. 17: Schiff speaks so offhandedly about the “disruptions”.

p. 19: Confused at best. Who is doing what? People, especially in the U.S., are demanding that China allow their currency to obtain parity to other currencies. The Chinese have enourmous trade deficits with every industrialized country. It is Chinese government policy that has created much of this situation.

Further, how does Schiff suppose these Asian economies are going to stop producing for the U.S. The U.S. is not going in at gunpoint. The countries (except maybe China) are not forcing their people to sell to the U.S. Schiff ignores that all of this trade is essentially free. The only element of force is the U.S. inflation and the reserve currency agreement. He also fails to give foreigners any credit for recognizing that dollars are still often a better deal than their own currencies and their own government.

p.20: A whole lot less eating. Let’s see, our trade deficit is around $800B. Out total output is about $15T. So our deficit is something like 5.3% of our total economy. I’m sorry. I don’t get how this means that we are going to have to restructure our entire economy. If our international trade grew to be in balance and the dollar drifted down as foreigners sold off the dollars they didn’t want, we would see our goods and imports become more expensive and our standard of living fall. But, as in the past, given the opportunity, i.e., if Obama didn’t stand in the way, we would continue to improve our economy, making economic decisions upon costs and goals. Just as it should be. Schiff has made a major leap.

The balance of trade is not a minor issue. The cause is right here at the Fed. However, the Fed actions have had other, more significant adverse consequences than the trade deficit. It we handle the Fed, the trade issue will become less severe.

Frankly, this chapter is so far gone that I do not think that there is any redeeming feature. It is true that Schiff does realize that the major source of the trade deficit is our inflation, but he is so carried away about it that he loses his perspective. Nor has he addressed the downward movement of the dollar already experienced. This need not be a collapse. There is also the problem that he does not recognize the problems created by other governments and those effects on trade. It is the bad U.S. all of the time.

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