Monday, September 20, 2004

Today the venerable nay-sayer Stephen Roach tells us we don't simply have "twin deficits" to worry about, because -- congratulations! -- the US economy is now mother to triplets!
The elephant in the room that the politicians continue to sidestep is the profound shortfall of national saving � the sustenance of future growth and prosperity for any economy. The numbers speak for themselves: The net national saving rate � the combined saving of households, businesses, and the government sector � fell to a record low of 0.4% during 2003 and has since rebounded to only 1.9%.

. . . Lacking in domestic saving � but still wanting to grow in a world where saving always equals investment � the US must import surplus saving from abroad. That means America has no choice other than to run large current-account and trade deficits to attract that capital. . . .

America�s current-account and trade deficits are tied directly to government budget deficits and the lack of personal saving. America no longer has a �twin deficit� problem � it has an even more worrisome �triple-deficit� dilemma.
While Roach is correct that the US does have a terrible trio of deficits, he is off the mark by finding in the lack of savings the ultimate origin of our troubles. The US doesn't run massive trade deficits in order to attract foreign savings to the country. The massive trade deficits are a result of massive importing in combination with a strong dollar. The US isn't running trade deficits to import capital. It is importing capital to run trade deficits.

Does the US not have "enough" capital? It depends on what you want to use it for. The US has more than enough capital for purposes of productive investment. US corporations are flush with cash but don't know what to do with it. We don't have a shortage of investment capital but rather a shortage of consumer demand to justify big new capital investments. The truth is that the US doesn't have "enough" capital to run its massive budget deficits.

What if you simply raised taxes in the US, thus funding more of the budget domestically? This should be an option since personal current taxes plus contributions for government social insurance have dropped dramatically from 23.4% of income in 2001:II to only 19.2% in 2004:II. However, because personal savings have fallen so low, any effort to institute anything more than a cosmetic advanced towards a "pay as you go" system for the federal budget will necessarily cut into consumption. In 2004:II raising another $100bn in taxes, for example, would cut the deficit almost by a quarter but completely consume all domestic savings. That is, our savings rate would be 0.0%, and the US would still need to import capital from abroad. At our current level of income, spending cuts will have to be a big part of the equation.

What happens if the US become "virtuous" per Roach and dramatically lifts its personal savings rate? In light of relatively slow-growing incomes, consumption will necessarily fall. Exports are not going to allow us to simply increase incomes painlessly. Asia knows this and wants to avoid the Day of Reckoning as much as we do. So they loan us money to boost our consumption, both [1] by freeing up consumer dollars from taxation by financing the budget deficit and [2] by propping up the value of the dollar.

But telling the average American that the problem is that they consume too much is not likely to go over well, partially for reasons of personal interest but also because that definition may in fact be patently false. But so far all the liberal economists have to say to us, from the bearish Roach to the bullish Greenspan, is that Middle America is a spendthrift wastrel that needs to be disciplined by the market.

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