The Future: How Best To Avert Disaster

A Good Future Or A Bad Future: Which Will It Be?

The future will be determined by how global supply and global demand are brought back into balance. If, [on one hand,] the means are found to expand aggregate demand sufficiently and sustainably, then the global excess supply will be absorbed and the global economy will begin to grow again. If, on the other hand, equilibrium is restored by a collapse in supply – back to a point at which there is real demand, a point determined by the current income and purchasing power of the individuals who comprise the world’s population – then globalization will collapse and the world economy will plunge into depression. Should that occur, millions of people around the world could starve before the decade is out. The geopolitical repercussions of such a scenario would be beyond dire. Words: 1313

So says Richard Duncan (www.richardduncaneconomics.com) in an article* which Lorimer Wilson, editor of www.munKNEE.com, has reformatted and edited […] below for the sake of clarity and brevity to ensure a fast and easy read. Please note that this paragraph must be included in any article re-posting to avoid copyright infringement. Duncan goes on to say:

The current government policy of supporting global aggregate demand by borrowing, printing and spending trillions of dollars without correcting the imbalances at the heart of the crisis are unsustainable and they will fail. Failure will mean disaster. If disaster is to be averted new policies must be crafted and implemented. Those policies must produce a steady and sustainable increase in global aggregate demand – in contrast to the recent unsustainable credit-driven approach – in order first to bring global supply and demand back into equilibrium and then to allow them to expand in tandem.

The Bad Future vs. The Good Future

How will the future play out? Consider two scenarios: the Bad Future which will emerge out of current policies, and the Good Future and the policies necessary to achieve it.

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When the consumer debt bubble popped in 2008, global demand crashed but global supply remained in place. Subsequently, governments have spent trillions of dollars attempting to absorb the excess supply so as to prevent a global depression. They continue to do so [and] they succeeded [- to date]. Their policies are not sustainable, however. Moreover, there is no sign they possess any understanding — much less strategy – of how to permanently resolve the worldwide imbalance between supply and demand. Therefore, the bad future scenario is based on the probable assumption that governments will carry on with current policies as long as they can. Let’s consider how this is likely to unfold.

The U.S. government is propping up the U.S. economy with annual budget deficits in excess of $1 trillion, roughly equivalent to 10% of U.S. GDP. Government spending puts money in the pockets of American consumers and U.S. consumption pulls in imports, which will result in a trade deficit of approximately $500 billion in 2011. That deficit is a subsidy to the rest of the world. However, despite massive government spending, the U.S. economy has begun to weaken again and U.S. unemployment remains stuck at 10%. Jobs aren’t being created in the United States because, with wages in the manufacturing sector that are 40 times higher than the prevailing global wage rate of $5 per day, the U.S. economy is simply no longer viable as it is currently structured.

With debt to GDP of less than 75%, the U.S. government would have no problem continuing to prop up the economy with even larger deficits for many years to come. (Japan’s ratio of government debt to GDP is 225%.) However, a political backlash against government deficit spending has made additional government “stimulus” politically impossible for now. That leaves only monetary policy; and with interest rates very near zero, monetary policy means creating more money — much more money — an act the Fed refers to as Quantitative Easing. During the past two years, the Fed created $1.7 trillion, which expanded its balance sheet by 170%…

a) The Bad Future

QE II is the next step forward in the direction of the Bad Future. The Fed is printing money and using the money to buy U.S. government bonds. This will allow the government to continue propping up the economy with trillion dollar budget deficits without pushing up interest rates and crowding out the private sector because the government won’t have to borrow from the private sector – it will obtain its funding from the Fed. This arrangement will stave off a depression in the short run, but it does nothing to correct the underlying imbalances driving the crisis. Eventually, one of two things will happen.

1. Either there will be a political backlash against free trade, as it becomes increasingly obvious that free trade is not working out very well for the average American, and trade tariffs are put up or

2.  the Fed will create so much new money that inflation will accelerate causing a stock market, bond market and dollar crash [accompanied by] social unrest in the United States as the savings of the middle class are destroyed and food riots or worse elsewhere around the world as commodity prices soar and food becomes unaffordable for the two billion people who earn less than $2 per day.

Either way, within five to ten years, the U.S. economy will collapse in depression and drag the global economy down with it. Globalization will collapse…international tensions will rise…hunger will spread…tempers will flare and then – BANG: the Bad Future ends very badly. That future is not inevitable.

b) The Good Future

All that is required to bring about a Good Future instead are policies that expand global aggregate demand so that demand is sufficient to meet and keep pace with the growth in global aggregate supply. That could be accomplished in a number of ways:

a) a steadily rising global minimum wage that takes wage rates from $5 to $15 per day over the next 10 years [which] would give a tremendous boost to global aggregate demand

b) a reorientation of the U.S. government budget away from spending that supports consumption to spending that underwrites investment in high tech industries would restore American economic viability, boost U.S. wages and bring international trade back into equilibrium. The creation and well thought out employment of more Special Drawing Rights (SDRs) would not only augment global aggregated demand, it would also greatly advance the global development agenda.

A Good Future, one in which we all live happily together in a world of steadily increasing prosperity, can only come about as the result of the formulation and implementation of far sighted policies by governments, at both the national and international level.

Conclusion

Without government intervention equilibrium in the global economy will be restored but it will be restored in a Bad Future where global output collapses back to a level that can be supported by global income as it is currently distributed – a level of output perhaps 25% to 50% below the current level. 

Such a Bad Future is one that must not be allowed to happen.

*http://www.richardduncaneconomics.com/2010/12/22/the-future-averting-disaster/ (Mr. Duncan worked as a consultant for the International Monetary Fund (IMF) in Thailand and as Financial Sector Specialist for the World Bank in Washington, DC and is the author of the book “The Dollar Crisis: Causes, Consequences, Cures” .