Invigorating the “deficit nation” - Part 1

The triple-deficit nation at the crossroads in 2011

The steady and substantial decline of the US dollar against most major currencies over the last 8 years is no accident. It is the result of a nation suffering from the triple deficit syndrome.



First, there is the public deficit resulting from budgetary shortfalls with our governments, whether federal, state or local. Estimated to exceed a disturbing 10% of the GDP in 2010 alone, the cumulative US Public Debt is now poised to surpass 90% of the GDP, including the still escalating liabilities in US Social Security and Medicare. Going above 100% is typically considered “high-risk” by the IMF for its potential to destabilize the sovereignty of nations.

Then, there is the trade deficit which stems from our imports dwarfing our exports. Now, that one is truly puzzling because, in theory, a depreciating currency should have made our exports a lot more attractive and help eliminate our trade imbalance. Not in our case: the Commerce Department reports that the US trade deficit is still projected to exceed 4 % of the GDP in 2010. These trade deficits, benign in the early 90’s, cumulated to exceed 60% of the GDP since then.

Finally, there is the current account deficit which measures the international flow of money resulting from trade and investments. Year over year, it feeds the NIIP (Net International Investment Position) to provide an indication of a country’s international standing. No good news there either : based on official 2009 data, America switched from being world’s largest net creditor in 1980 with 11% of its GDP invested internationally to becoming world’s largest debtor nation, with 25% of its GDP borrowed from other nations, notably China and Japan.

Countries with large negative NIIPs face the prospect of more wealth transfer to other nations just to service their debt, let alone finance their growth. Not a comfortable position to be in.

A few percentage points of the GDP leaking over here, a few more over there, it all adds up: the American economy must now grow well above the average of the last 30 years to compensate. A daunting task considering that globalization has now introduced unprecedented challenges.

As an example of how globalization has altered the predictability of conventional thinking consider this: despite a 40% decline in the value of the dollar against the euro over the last six years, its impact on trade has been inconsequential. The total US trade deficit was still stuck at a stubborn 4 to 6% of the GDP during that entire interval, demonstrating the complex interplays in a global economy where imports and exports depend on many things, not just pricing.

So, how did we become a “triple deficit nation” with a currency in chronic decline? Was the dollar sacrificed or, was its decline simply caused by grossly dissonant economic policies?

After all, realizing that in the history of civilization no country ever sustained greatness on the back of a persistently weak currency, what was the Administration thinking all these years?


Moris Simson, former high-tech executive who now heads a strategy consultancy, is a fellow of the IC² Institute at the University of Texas

Invigorating the “deficit nation” - Part 2

The US Public Debt level: alarming, but controllable

Although it is clear that the US dollar has declined in value because of the continual triple deficits – in fiscal, trade and international investments – something still remains unclear: was the dollar sacrificed willingly or was that an inadvertent outcome? Besides, didn’t the US have appropriate economic, monetary and fiscal policies to counter the dollar’s persistent decline?

It appears not. The irony of the situation is that during the greenback’s long lasting slide we had appalling double-talk in the political arena: successive US Administrations declared that they were committed to a strong currency, yet delivered slowly but unmistakably the opposite.

Of the reasons cited for the erosion in the international value of the dollar, a prominent one is the level of US public debt: the result of continued government deficits which ended piling up.

Fortunately for the USA, it wasn’t always like that. According to the US Treasury’s data,12 years ago the level of public debt as a % of the GDP was around 60%; and in the early ‘70s it was at a memorably low of 40%. So there are good reasons to be hopeful.

It is clear that America needs to reclaim back its fiscal rectitude by combining inevitable spending cuts with some unpleasant tax increases. Neither is popular with voters, but both have long been waiting for transformative changes and not just incremental ones. Observations like “the country already has a high tax burden” and “the timing is wrong: we are in a recession” will only defer the unavoidable without addressing the problem. Yet, one thing is even more evident: without meaningful spending cuts fiscal rectitude is out of reach.

On the way there, shaking some of the dogmas away from our lawmakers would certainly help: no country can indefinitely tax its way into prosperity, no more than it can avoid insolvency by refusing to shrink its growing deficits. What is needed is a balance, but a balance nonetheless.

To be sure, ideological fixation with tax-cuts as the sole elixir for fiscal restoration – a controversial topic from the Reagan era with noticeably questionable impact in the recent Bush years – didn’t help much either. As Sheila Bair, the chair of FDIC, candidly observed in a recent speech that “ it is only over the last 7 years that the government debt doubled in size”, it is fair to point out that the recent deterioration in public debt did not happen from reckless overspending or political malice : a couple of unexpected events were mostly to blame.

First among them is the surge in defense and homeland security spending after 9/11 leading to the wars in Iraq and Afghanistan. Secondly, and more importantly, was the necessary and exceptional ramp-up in government spending following the Great Recession of 2008.

Adding the stimulus funding of 2008, the TARP (Troubled Assets Relief Program), QE1 and QE2 (the Quantitative Easing programs), the government has borrowed almost $3 trillion from the future performance of the American economy: an unprecedented spike in US Public Debt.

Despite the cacophonous partisan rhetoric and still lingering rancor, there simply was no other way to prevent an economic depression. The length and the severity of the present economic contraction, despite the emergency measures, prove that it could have been a lot worse.

That being so, there is still no reason to condone the public debt without examining the roles of monetary and fiscal policies in the preceding years: did the Fed truly help or hinder here?

Moris Simson, former high-tech executive who now heads a strategy consultancy, is a fellow of the IC² Institute at the University of Texas

Invigorating the “deficit nation” - Part 3

Fed’s monetary policies: did they help or hinder ?

A question that has been around for a while without a definitive answer is: have the US Fed’s monetary policies help or hinder the accumulation of public debt now over 90% of GDP?

The issue has a direct and indirect component. On the direct side, it is important to recognize that there was no “bubble” with government spending between 1997 and 2007, the decade preceding the Great Recession. The Fed’s own statistics ascertain that the tech bubble of 2001 and the real-estate bubble of 2007 were not accompanied by inordinate ramps in public spending; if anything, on a comparative basis, government debt did not keep pace with GDP growth in all these years. The problem with debt “explosion” lied elsewhere: the private sector.

It was indeed indirectly and in the private sector --mostly banks, but also consumers -- that debt was allowed to rocket and outdistance GDP growth, in the years preceding the Great Recession.

This Great Recession was unlike any other experienced in recent memory: it was global (it touched every single country on the planet) and it was disastrous (with $30 trillion of lost wealth at its peak in March 2009). Moreover, most explanations were often dubious.

Pinning the problem on US subprime mortgages, as had been the immediate and impulsive explanation, fails to explain how this financial shrinkage spread all the way to Russia. After all, the latter had apparently no banks exposed to subprime or to other toxic paper.

The “mispricing of risk” argument proposed by former Fed chief, Alan Greenspan, did not address the dangerous role that the “shadow banking” system — the non-bank financial institutions that defined deregulated American finance — played in this debacle. They, and not commercial banks with deposit-based and regulated lending practices, are behind the $7 trillion “debt bubble” which erupted in the U.S. financial sector in the decade starting in 1997.

“The failure of laissez-faire U.S. capitalism”, suggested by the former E.U. President Sarkozy, does not illuminate how Europe’s largest universal banks have also been equally devastated.

It is now increasingly clear that the Great Recession of 2008 was rooted in world’s biggest credit surge in the history of banking. That surge, which happened primarily in the preceding decade, was facilitated by central banks in the western world – predominantly the US and the EU-- of which the Fed still is the largest and the most influential. Whether central banks led their supposedly regulated commercial banks into this binge, or were led by them, is still unclear; but that is another topic altogether and will not be addressed in this paper.



To summarize, is there a cause and effect relationship between the Fed’s lax monetary policies and the huge US government deficits that followed them? The answer is indirectly affirmative.

Had the Fed pursued more consistent and disciplined monetary policies in the decade preceding the Great Recession, the bubbles of 2001 and 2007 could have been contained, preventing as a result the Great Recession and the Keynesian government overspending that followed it. The accumulated government debt is not a cause per se, but a consequence.

Let’s hope that our Fed has learned its lessons well: in economics -- much like in medicine --prevention is vastly superior to rehabilitation, even if takes regulation to enforce it. But to get there, key concepts resting on the notions of “efficient markets” and “self-governance in banking” must be reexamined for their potential to misguide and undermine economic stability.

Moris Simson, former high-tech executive who now heads a strategy consultancy, is a fellow of the IC² Institute at the University of Texas

Invigorating the “deficit nation” - Part 4

For the US Trade Deficit the US $ is not the problem

What about the US trade policy: did it help or hinder with the trade deficit? At the moment, our Administration believes that the artificially low Yuan is a problem.

Hence, it has been pressuring China to allow its currency rise in value against the dollar. Such a development, by making U.S. exports cheaper and Chinese imports costlier, is presumed to reduce the trade imbalance between the two countries, contributing as a result to close the US national trade deficit which has annually ranged from 4 to 6% of GDP over the last decade.

But, what if the whole ideology behind our trade thinking was flawed? What if, as most recent trade data suggests, the assumption of a cheap dollar coming to the rescue was an illusion?

Consider this: Between 1980 and 1985, following the Volcker interest rate hike, the dollar's value rose some 40 percent in relation to the currencies of major U.S. trading partners, but the trade deficit did not spin out of control as feared , as it peaked at only about 3% of GDP in 1985.



Conversely, between 2004 and 2009 the dollar depreciated by more than 30% relative to other major currencies -- notably Euro, Yen and the Canadian dollar—and yet the trade deficit still shot up (not down!) to reach a peak of 6% of the GDP in 2006. What happened to the theory?

The theory does not take into account three realities. Firstly, America’s trade deficit is the result of overdependence on two kinds of imports: petroleum and Chinese goods. Secondly, import demand is unlikely to lessen materially for either of these unless there is a large price increase in dollars. Thirdly, partly because China insists on maintaining exchange-rate stability with the dollar, the volume of US exports – the critical piece – changed little despite a weak greenback.

Instead of sharply focused Energy and Trade policies to stop and possibly reverse the overdependence on oil and China, the US emphasis has wrongly been placed on a cheaper dollar. It is surprising to see the indifference toward a cheaper dollar which could end-up importing inflation to the US while exporting deflation abroad resulting from goods and services now priced at an artificial discount, such as a Boeing airliner, an Intel chip or Google software.No, America’s response to the trade deficit should not have been to engage in commodity-like, price-based competition, but in innovation-driven, product-based competition.

Today most of the things that China, Japan or the EU import from the USA are higher-value, higher-margin products anyway: why reduce their price artificially with a cheap dollar unless it translates to a commensurate increase in volume? If Intel or Microsoft try to boost their exports to the rest of the world with a price-discount, that decision should be theirs, and not that of the government.

Also, even if China succumbed to the pressures and let its currency appreciate say by a sizeable 20%, this would only reduce the total US trade deficit by only about a tiny 6%, unless China also imports $200B of extra US goods. Simply stated, contrary to the current mindset, fixing the Yuan’s exchange rate will do precious little to solve the problem. The answer lies elsewhere: “fixing” free-trade -- in an asymmetrical world with no reciprocity -- is a better place to look.

It is increasingly clear the US did not get to be a triple “deficit nation” simply because of the way it taxes and spends its citizens’ money, but because of dissonant fiscal, monetary and trade policies over the last 25 years. Especially in the last decade, the profusion of easy credit led to financial overleverage everywhere, seriously destabilizing our banks and the economy until the Great Recession of 2008, urgently necessitating extraordinary government spending and unprecedented monetary stimulus by the Fed, further undermining the value of a dollar whose weakness did not help the trade deficits, sustaining as a consequence the rise in foreign debt.

This vicious circle must be broken. But if one thing is clear, the dollar is the victim not the cause.


Moris Simson, former high-tech executive who now heads a strategy consultancy, is a fellow of the IC² Institute at the University of Texas

Invigorating the “deficit nation” - Part 5

For a change, try a stronger US $

Obviously we need better coordination in the US between our fiscal and monetary policies, but we must first recognize that we are stuck in the wrong paradigm: wealth reshuffling is not wealth generation. No amount of reshuffling resulting from adjusted taxes, reduced spending and Fed’s quantitative easing will produce sustainable economic growth, unless also accompanied by business or industrial initiatives stimulating wealth generation. The latter is about creativity and productivity, not about administrative or financial skill.

Also, it is not about whether we should empower more the public or the private sectors, but about discovering again that America prospered most when both sectors were in harmony 50 years ago. It is not an “either/or” proposition, but a “collaborative/together” approach that worked well in the past, and must be embraced again, to revitalize this country’s economy.

For the skeptics who don’t think it can be done, look no farther than the G20 economies after the Great Recession. What do the ones that bounced back first, like Brazil and South Korea, have most in common? It is a collaborative public/private economic model that works. The trick for the USA is to ensure that growth in the public sector will not outpace growth in the private sector. This is a politically contentious issue that should be addressed right from the beginning.

But, who should be in charge of making it happen in America?

Clearly it is the role of the President, the chief executive of the nation, and that of his team. Delegating the economic revival responsibility to the Fed alone, is overly naïve or delusional. Economic growth entails a lot more than monetary policy, although the latter can clearly help.

What can the President do then to eliminate the dissonant public policy practices of the past?

The trick is in finding a unifying, easily understood and willingly shared goal to guide our lawmakers while avoiding the paralysis of “gridlock politics” and “ideological dissonance”.

I propose focusing on a stronger dollar. If all policies, monetary and industrial, were attuned to help increase the value of the dollar, there would be no political bickering on the purpose and the interpretation of the goal. It is readily measurable and highly visible for all to see. Besides, the foreign exchange market would serve as an unbiased and responsive referee.

First in line is the Fed whose mandate needs to also encompass the stability and strength for the currency. Intentions alone don’t suffice anymore; results are needed rather urgently. Besides, how can domestic inflation stay contained with the dollar falling uncontrollably?



Then, the US public debt which has outpaced the rest of the world (see chart sourced from ECB) must be brought again under “adult supervision”. It is high time we realize that deferring the inevitable is not a cure: both strategic spending cuts and selective tax hikes will be needed to curb and reduce the US public debt. Hoping that only one of them will suffice is delusional.

Lastly, and most importantly, is the public/private collaboration for economic growth and revival. Without that, America will be misguided that it can again be a viable global competitor.

There should be no illusions here: a “strong dollar policy” will create winners and losers among companies that depend on trade. But all policies involve trade-offs, by definition. Yet, the rationale behind the shift should be to encourage America to focus its competitive zeal not on the low-price but on the high-value of its exports, like in high-tech, aerospace and software. A cheap dollar extracts less value from USA’s leading R&D and treasured innovations, not more.

Orchestrating toward a stronger and a more stable dollar promises not only better harmony across evolving economic and industrial programs, but also the possibility to accelerate the tempo, as required, in the effective promotion of innovation, entrepreneurship and competitiveness: the most vital elements behind job creation and national invigoration.

Moris Simson, former high-tech executive who now heads a strategy consultancy, is a fellow of the IC² Institute at the University of Texas