Trump! An enigmatic wizard of economic reality or a warlock playing with strange fire? With mere Tweets he causes markets to rise, or arrest. With tough talk on tariffs followed by predictable Chinese reactions he causes markets to fall. What’s more, The Donald has actually followed talk with boldness. So, take a picture, there is a man of action on Pennsylvania Avenue. Months before July 4th the fireworks are already flying.
Neoliberal economists and partisan political pundits find it all too easy to criticize the actions of the man in the arena. This article isn’t really about Trump. There is a big elephant in the room and it’s none of Trump's making. It towers over the Capitol building and it’s not going away. No, it is not the GOP – it is bigger than an old party elephant. For decades the United States has been caught firmly in the pincer claws of a vicious scorpion known in economics as the twin-deficits phenomenon. So listen up. It’s time for the sting. The libertarian small-government proponent may not enjoy the rub.
The twin-deficits phenomenon refers to a situation where a nation simultaneously maintains a current account deficit and, a budget deficit. In layman’s this means the value of a nations imports exceeds exports, the effect being the national currency builds up overseas, forcing overseas holders of dollars to convert most of them into US Treasury securities; by auctioning US Treasuries the US Government can fund budget deficits. It’s really that simple. Cause and effect. National trade overspending translates to the federal government overspending. Give the government a large credit limit, it will use it.
By kicking the proverbial tin can down the super-highway of debt rather than taxing corporate and individual incomes in the present, politicians can avoid immediate fallout from voters as well as corporate donors. Can’t somebody else deal with it? The answer in the neoliberal universe is Yes! Your children, grandchildren, and their children can deal with it. Year after year the US Federal government sells fresh treasury debt overseas, rolling over old debt but also increasing new issuance. It is never retired and there’s no end in sight.
This process of continually funding the government through debt is only possible under two scenarios. Firstly, wealthy nationals can purchase most government debt, as in Japan, where the vast majority of the huge government debt is owned by the BoJ or Japanese institutional investors who presumably hold more in common with their own government than foreigners - and vice versa. Secondly, in the case of the US, with a structural trade deficit in place foreigners can earn the US dollars necessary to act as bankers to the US government. What could possibly go wrong with this second scenario where so much of a nation’s government debt is owned by foreigners?
America has been a long time loser. The Donald does not like losing
If the current account balance of all the nations in the world is displayed visually on a map, as above, we can see the winners and losers. Wherever there are winners there are losers. China, Japan and OPEC have been winning. The United States has been losing. This isn’t really up for debate. We have decades of real world data. The neoliberal romance for unabashed international free trade reads like an obituary for the US. Either the US surrenders, declaring bankruptcy, or someone needs to start talking-the-talk and walking-the-walk to reverse this trend. Along comes Trump, the man in the arena, to tame this elephant. But is he a clown, or is he a ringmaster?
Except for a four year period of surplus between 1998 and 2001, the US Federal budget has been in deficit since 1970. Likewise, the last time the US experienced positive balance of trade with the world was in 1975. This was hot on the heels of the 1973 Oil Crisis triggered by the Yom Kippur War between Israel and Egypt. The decline in the US balance of trade is a hallmark of the neoliberal era. It is exacerbated by the US dollar being considered the de facto World Reserve Currency, a stubborn artifact of the Bretton Woods system which creates legacy demand for dollars overseas. Simply put, the US is regarded as too-big-to-fail. A sure bet, right?
“The international monetary system is facing its most difficult period since the 1930s.” ~Johan Witteveen in 1974; Managing Director of the IMF.
The last time the nations of the world thought to seriously question this assumption was during the lead up to 1971, the year of the Nixon Shock. At this time the convertibility of the US Dollar into gold - known as the Gold Standard - was repudiated. The reason is simple. When foreign nations perceive that a nation’s fiat currency bears too much risk for them to hold as a foreign exchange reserve, they decide to dump it for something without counterparty risk - this is especially the case when the currency is artificially pegged with bad fundamentals; as per Bretton Woods. Historically this alternative international store of value is gold - old faithful. Gold isn’t perishable and it can’t be printed.
“We hold as necessary that international exchange be established . . . on an indisputable monetary base that does not carry the mark of any particular country. What base? In truth, one does not see how in this respect it can have any criterion, any standard, other than gold. . . . No money counts . . . except in direct or indirect relation to gold. Doubtless, one does not think to impose on each country the manner in which it should conduct itself domestically. But the supreme law, the golden rule . . . that must be placed in operation and honored in international economic relations is the obligation to bring into equilibrium between monetary zones, through transfers of the precious metal, the balance of payments resulting from their exchanges.” ~Charles de Gaulle; February 1965 during a well-publicized speech directly aimed at the United States.
Charles de Gaulle was right. Well, he was at least right about the need to maintain equilibrium between nations when it comes to the balance of payments. Whether gold bullion should be the international medium of payment for a trade deficit, or not, is irrelevant. What is important, however, is that trade balance equilibrium be actively sought by the leaders of each nation, lest they lose national sovereignty slowly to their overseas creditors, becoming vassals. Gold definitely served its purpose in the past, bridging the great divide between nations - Trust.
Oil, oil, everywhere, so why not pay with debt!
The 1971 US response to repeated runs on the gold window by nations such as France was to throw the golden dummy out of the pram. The US couldn’t keep the Monopoly dice rolling. Something else was needed to enforce demand for dollars overseas, and quickly. As if on cue, along came the Yom Kippur war which pulled the US into a standoff with the angry oil producing Muslims in OPEC. Islamic nations such as Iran and Saudi Arabia saw the US as an ally of Israel, immediately deciding to cut production output. They even went to the extreme of an oil embargo against allies of Israel which drastically jacked the market price of oil.
With inflation averaging 6.5% annually during the 1970’s, one would think the US dollar to be in all sorts of strife but this is not how the dice landed. The outcome was quite remarkable because it delivered a bait-and-switch for the gold standard which the US government had been praying for. After some judicious, secretive persuasion, the US convinced Saudi dominated OPEC to price oil in US dollars, but not until major flows of US armaments made their way into Saudi hands; $6 billion between 1974 and 1976 plus another $4 billion in 1978 ($46 billion worth in 2018 dollars!). Military support is the best way to seal a deal in Islamic countries which aren’t historically producers of high grade military equipment. But hey, such armaments flows help plug the US trade deficit with the Saudis.
So it was, at this point in history, that the US dollar became backed by an oil arrangement, in turn backed by an armaments arrangement, in turn backed by a tacit threat of military action. It’s not like the Saudis had much choice in reality. The US Military can be a man’s best friend or his worst enemy. It can also back his enemies. Never overplay your hand with the alpha-dog. Only push enough to improve your chances of survival against the other rabid dogs in the mid-east yard. This special arrangement is known as the petrodollar system. In reality this new system was simply a reinforcement of the same old military standard which has supported the too-big-to-fail status of the US post-WWII.
Effectively the petrodollar system has generated artificial overseas demand for dollars and thus dollar denominated debt securities, surpassing any Treasury official’s wildest dreams. Oil is the blood of the global economy. Oil is a commodity that every nation requires and which most nations have to buy through OPEC. US dollars are still required for oil purchases from OPEC nations. It all becomes very simple: Sell product to the US (or other markets willing to pay in dollars), earn dollars, exchange dollars for US Treasuries, hold this debt instead of gold because it retains its value through principle plus yield as well as being the ubiquitous currency of oil - the most liquid market in the world. Rinse, repeat, Bob’s your Uncle - or Sam, as the case may be.
Cheap communist crap, the rustbelt blues, and a game of Chinese chicken.
Given this context and considering European nations in particular had grown tired of tolerating the artificial Bretton Woods US dollar exchange pegs including the closing of the gold window in 1971, what Nixon did next is unsurprising. In 1972 he jumped on Air Force One to make the first official Presidential visit to China. In fact National Security Advisor Henry Kissinger had already been sent on a secret mission to China in 1971 to grease the skids. This meeting would change the direction of world economic development forever. It was the birth of what Niall Ferguson has aptly named ‘Chimerica’.
Why did Nixon resurrect a thirty year dead relationship with a Communist nation still led by the murderous Mao Zedong? The answer is simple although at first it might sound highly cynical. The US had designs on a new monolithic debt market upon which it would dump US dollars causing China to accumulate mountains of US Treasuries. In exchange the US would import cheap Chinese manufactures allowing virtual Chinese slave labor to fund US government largesse while the Communist Party managed the plantation. To China, US Treasuries would become their ‘savings’ account of choice. There could not have been a monolithic economy potentially deep enough for this project other than China. Proof of this depth is illustrated by British Empire enforcement of opium imports into China during the 1800’s.
BEIC opium imports were used as payment for Chinese goods - mostly teas - rather than ponying up huge quantities of silver specie. The debt market Kissinger and Nixon were seeking out had been tapped before. The only difference? You can’t even get high off a paper bond, though you will end up burning most of them anyway. Opium and Bonds are alike - they are addictive. This market was urgently required to absorb the loss caused by European nations bucking the dollar trend while strengthening their own trade bloc known as the European Common Market (EEC). With anti-American sentiment building - led by French President Charles de Gaulle - this competing block was even attempting to freeze the United Kingdom out of the EEC due to their close ties with the United States. The UK finally joined in 1973, sowing the seeds for the future BREXIT divorce.
During the 1972 Presidential visit to China, First Lady Pat Nixon got to visit Chinese factories in Beijing, Hangzhou and Shanghai. These same factory cities were about to become the most important pieces in the neoliberal economic plan to supply the US government and military with the funds required to fuel those massive budget deficits. Chinese laborers - let’s face it, slaves - would work in sweatshops to maintain an overseas hunger for US Treasuries allowing the tin can of domestic taxation to be booted down the road for future tax payers to service as debt. Laughably Richard Nixon sold this to the American public as a plan to emancipate the Chinese from Communism. Though it was a long-term plan, it was love at first sight!
“Communism is not love. Communism is a hammer which we use to crush the enemy” ~Mao Zedong
This plan of building up China would be a long term ‘solution’ to keep funding for the US government and military flowing, but it had disastrous consequences on American industry. The emergence of the so called Rust Belt in the Midwest and Great Lakes region - which became very noticeable in the 1980’s - is a testament to the hollowing out of US economic diversity caused by the pursuance of neoliberal free trade dogmas directed towards nations containing abundant cheap labor, bad labor conditions and appalling regulation. Think free trade China smog. Did the US export its smog too? In contradistinction to the big sucking sound in the US industrial interior, US port cities which facilitate increasing imports from overseas have seen their service economies boom while the interior has rusted. It’s all a mirage.
This is how cosmopolitan urban coastal elites swimming in a sea of cheap imports have benefited at the expense of the rural backbone of traditional American economic strength. This transformation touted by neoliberals as a wonderful rebalance, a triumph of globalism and efficiency, was nothing of the sort. This was the death of a truly diversified economy, the cost of which was to embark on a tragic road trip, the hallmark of which is the current collision upon the global debt super-highway. Two racers have locked each other in the headlights to pursue an un-necessary game of chicken. Chinese chicken. No honey, this won’t be sweet, just sour. This clash can easily end in the obliteration of both economies because the stakes are now too high for either party to back down.
“The finest steel has to go through the hottest fire” ~ Richard M. Nixon.
As it turned out, US steel plants and their fire simply passed through to China. Winning!
Revenge! Popular rage rises against cosmopolitan urban elite echo-chambers
To see how this neoliberal un-balancing act between urban centers and rural areas has materialized in the popular mind, we need look no further than two maps for the 2016 US Presidential election and the 2016 BREXIT referendum. A picture speaks a thousand words, most not repeatable in polite company.
The urban-rural disconnect was seen clearly in both results - albeit with some outliers caused by extraneous socio-political and demographics factors (such as in Scotland). Obviously rural voters see a connection between the effects of both neoliberalism and globalism. The rural voter in the US can see that neoliberals shipped their jobs overseas, their national debt being a freight train without brakes. The rural voter in the UK can see the nation has lost control of its borders to a globalist block which seemingly cares nothing of British national character. The connection here is sovereignty. Whether it be economic or political sovereignty, eventually the two converge, so who really cares about the difference? The cry couldn’t be clearer:
“WE THE PEOPLE want our nations back!”
2016 was an earthquake, but to the urban cosmopolitan with the latest cheap smart phone made in Asia it was a disgusting interruption to their morning soy latte. Fist waiving they yelled “How dare those peasants! Fly-over country assuming a say in the destiny of the nation? The Electoral College working as designed?”
What is to be done?
The above was the name of one of Vladimir Lenin’s most famous pamphlets released in 1902. In this pamphlet Lenin argued that the working class will not spontaneously become political simply by fighting economic battles with employers over wages and working hours. This is ironic because the working classes in the world’s most prominent western capitalist nations have now become political because of lack of wages and working hours caused by shipment of industry full-cloth into a communist country. I’m not sure Lenin would care about the irony. He’d no doubt be perplexed about the agents of this outcome - neoliberal laissez-faire capitalists.
On the other hand the neoliberals would blame the unions for not allowing wages and working conditions to be debased down to third world standards. “Competition … lack of efficiency” they cry! So, here’s the rub. Neoliberals decry government overspending as an ill akin to communism. Big government is their bogey as we all know. Big government is ‘leftist’. They repeat this ad nauseam. Blatantly they fail to recognize that big government is the result of deliberate neoliberal trade policies which have caused a 43yr long runaway trade deficit, in turn allowing the government to fund its largesse at the expense of cheap foreign laborers.
In conclusion, not only have neoliberals caused this loss of domestic industry but they’re also the root cause of their one big hatred in the world: Big government. Twin-deficits. Cause and effect. Call me a cynic but this was all deliberate. Nixon and Kissinger knew exactly what they were doing, they setup these pins. Reagan, Bush, Clinton and Obama then knocked them down. A little known fact is that Obama’s first job fresh out of Columbia University was as research associate in the financial services division of BIC (Business International Corporation). While there Obama edited for a global reference service called Financing Foreign Operations. Yes, read that one again. Mr Socialist himself. He also wrote for a weekly financial newsletter named Business International Money Report.
What we’re talking about here is the warfare/welfare state; or, respectively, the Republican/Democrat State in the US. This monstrosity has had no better handmaiden than the neoliberals of the past fifty years who act partisan outwardly, but inwardly they’re thick as thieves. Left. Right. Left. Right. It’s simply a one-two punch and you’re the bag. They don’t serve the people. They serve special interests. Who you might ask? Well, that’s a story for another day. What is to be done? Well, as Trump is making quite clear with his tweets and tough talk, it probably has something to do with a return to mercantilism, but that’s also a story for another day. I’ve said enough for one article.
Brace yourselves, mercantilism is about to return with a vengeance and neoliberals have nobody to blame but themselves - don’t hold your breath though, they misbrand neoliberals like Reagan as a protectionist to absolve themselves, but usually simply blame others, especially the man in the arena fighting with a handicap of neoliberal design.
“All diplomacy is a continuation of war by other means.”
~Zhou Enlai. First Premier of the People's Republic of China.