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Richmans' Trade and Taxes Blog
Balanced Trade Monetarism
Economic depressions, like the present one which began in the first quarter of 2008, are long periods of economic stagnation, characterized by high unemployment. They result from insufficient Aggregate Demand (AD) for the goods that an economy can produce. Aggregate Demand can be divided into its components:
AD = C+ I + G + (X-M)
where C = Consumption, I = Investment by businesses in tools and structures, G = Government consumption, and (X-M) is net exports (eXports minus iMports).
John Maynard Keynes was the first to point out that if a country had a trade deficit (i.e., negative net exports), then the trade deficit would act as a drag on Aggregate Demand. He more or less predicted the current depressions in the United States, Greece, Spain, Portugal and Italy in 1936 in his chapter about mercantilism and its victims from his magnum opus (The General Theory of Employment Interest and Money) when he wrote:
(A) favorable [trade] balance, provided it is not too large, will prove extremely stimulating; whilst an unfavorable balance may soon produce a state of persistent depression. (p. 338)
Modern mercantilism is based upon the twin goals of mercantilism as explained by University of Chicago economist Jacob Viner: (1) maximizing a country's power through accumulation of foreign assets while (2) maximizing long-term consumption by delaying present consumption in favor of future consumption. In order to accomplish these ends it places tariffs (and other barriers) upon foreign products while at the same time buying foreign assets (mainly interest-bearing bonds today; gold in the past) in order to produce trade surpluses. In other words, mercantilist governments maximize their power and their people's future consumption, and bring down their trading partners' power and future consumption, through the combination of import barriers and foreign loans.
But American economists never paid attention to Keynes' and Viner's writings about mercantilism. They thought that an economy beset by mercantilist trading partners could increase AD simply by increasing Consumption or Investment or Government purchases. The methods that they have been recommending have all been failing:
Meanwhile, businesses in the United States have been reluctant to spend money on Investment, even though interest rates have been extremely low. They know that so long as the American government doesn't insist on balanced trade, the mercantilist governments will likely make such new investments unprofitable. The graph below shows that net investment in U.S. manufacturing has declined to near zero in conjunction with the steady worsening of the trade deficits.
Milton Friedman and his colleagues at the University of Chicago invented the economic school called monetarism which holds that economic growth and stability can be maintained simply through balanced monetary growth and balanced government budgets. But Friedman missed an important elemenent. When an economy is beset by mercantilist trading partners, the only way to end economic stagnation is to balance trade, perhaps using a WTO-legal scaled tariff which is only applied to countries with whom a country has a trade deficit and is proportional to that deficit. Such a measure would simultaneously increase business Investment and net exports. The correct recipe for economic growth is Balanced Trade Monetarism:
Economic Growth = Balanced Monetary Growth + Balanced Budgets + Balanced Trade
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