Global economic lessons; for those who missed the wolf metaphor at the beginning of "300"

There are many things going on in the world today that are simply not making front page news. Does this mean that they are any less important?

http://www.ft.com/cms/s/0/c2770bf0-1002-11de-a8ae-0000779fd2ac,dwp_uuid=60a3db68-b177-11dd-b97a-0000779fd18c.html?nclick_check=1

Chinese Premier Wen Jiabao on Friday urged the US to take measures to guarantee its “good credit”, expressing concern about the “safety” of his country’s huge holdings of US government debt.

Mr Wen’s shot at the US’s deteriorating fiscal position – on the eve of this weekend’s G20 finance ministers’ meeting – was paired with a promise to increase China’s public spending this year to boost its economy if needed.

The Chinese government is the largest holder of US public debt and Chinese officials have shown increasing signs of concern that the sharp increase in US government spending will lead eventually to inflation and a collapse in the dollar.

About 70 per cent of China’s near-$2,000bn foreign exchange reserves are believed to be in US dollar assets.

“We have lent a huge amount of money to the United States,” Mr Wen told the annual press conference that marks the close of the National People’s Congress, China’s parliament.

“Of course we are concerned about the safety of our assets. To be honest, I am a little bit worried. I request the US to maintain its good credit, to honor its promises and to guarantee the safety of China’s assets.”

So the Chinese are concerned now that the United States might not be able to "make good" on it's debt. This does raise some concerns; considering that the Chinese would take this stance. Does it mean, perhaps, that the Chinese know something that our "economists" don't?

Larry Summers, US President Barack Obama’s senior economic adviser, responded by trying to quell fears over the burgeoning mountain of US debt, saying that boosting the economy would help reduce debt in the future.

“If you don’t prime the pump . . . it’s much more costly to do it later,” he said in response to a question about Mr Wen’s comments.

The US was committed to long-term fiscal stability, he said, but it was more responsible to US debt holders to ensure that the economy recovered rapidly from recession.

So we are telling the Chinese that we are going to honor our debt by borrowing more money from them? I think there is "fuzzy logic" at play here, and I'm going to point it out.

http://www.ft.com/cms/s/0/6fb02cf4-0c4b-11de-b87d-0000779fd2ac.html?nclick_check=1

Widely seen as being among the most pro-market voices in the White House, having been Bill Clinton's last Treasury secretary in the 1990s, Mr Summers said that the view on whether the market was inherently self-stabilizing had been "dealt a fatal blow".

He also urged world leaders to pump more public money into the economy in a coordinated effort to boost demand and lift the world out of recession.

The urgent need for a short-term increase in spending by governments temporarily overrode the longer-term goal of tackling the global imbalances many economists believe caused the financial crisis, he said.

His comments, ahead of next month's crunch Group of 20 summit in London, make clear that the US administration wants industrialized nations to share responsibility for engineering a global demand-led recovery and does not believe this burden should fall on China alone.

"The old global imbalances agenda was more demand in China, less demand in America. Nobody thinks that is the right agenda now," said Mr Summers. "There's no place that should be reducing its contribution to global demand right now. It is really the universal demand agenda."

While the US and other western nations should return to living within their means in the medium term, everyone should raise spending sharply now. "The right macroeconomic focus for the G20 is on global demand and the world needs more global demand," said Mr Summers.

At a time when the Republican critique of Washington's aggressive response to the crisis is growing more trenchant, Mr Summers made an unapologetic case for state intervention.

"This notion that the economy is self-stabilizing is usually right but it is wrong a few times a century. And this is one of those times . . . there's a need for extraordinary public action at those times and that's a clear lesson of today." The suggestion that the financial crisis had been caused by too much government intervention, as many in the Republican party argue, was simply wrong, he said.

There are a few things at play here that, for the most part, are over looked. The idea that the a government can "create demand" is based on an economic model theorized by John Maynard Keynes. I covered this theory in a comment to another viewer.

Keynes argued that the solution to depression was to stimulate the economy ("inducement to invest") through some combination of two approaches: a reduction in interest rates, and government investment in infrastructure. Investment by government injects income, which results in more spending in the general economy, which in turn stimulates more production and investment involving still more income and spending and so forth. The initial stimulation starts a cascade of events, whose total increase in economic activity is a multiple of the original investment.

A central conclusion of Keynesian economics is that in some situations, no strong automatic mechanism moves output and employment towards full employment levels. This conclusion conflicts with economic approaches that assume a general tendency towards an equilibrium. In the 'neoclassical synthesis', which combines Keynesian macro concepts with a micro foundation, the conditions of general equilibrium allow for price adjustment to achieve this goal.

The New classical macroeconomics movement, which began in the late 1960s and early 1970s, criticized Keynesian theories, while New Keynesian economics have sought to base Keynes's idea on more rigorous theoretical foundations.

More broadly, Keynes saw his as a general theory, in which utilization of resources could be high or low, whereas previous economics focused on the particular case of full utilization. However, after reading Hayek's criticism, The Road to Serfdom, he agreed that "the theory of aggregated production, which is the point of the [General Theory], nevertheless can be much easier adapted to the conditions of a totalitarian state [eines totalen Staates] than the theory of production and distribution of a given production put forth under conditions of free competition and a large degree of laissez-faire."

The theory that Larry Summers is basing his assumptions on; requires massive government control of resources and the market as a whole. This is why he, "wants industrialized nations to share responsibility for engineering a global demand-led recovery". The model will not work correctly within a free market global economy, as admitted by Keynes himself. Also the Keynes' theory does not account for a large deficit; nor in theory was the government investment made with borrowed money.

The other problem is that we are spending money at a rate that cannot be maintained. There is no long term approach here. When the bridges are built, roads repaired, and the buildings are "eco-friendly", then what? Where did all of the jobs go? The government can only create short term economic demand. Just as George W. Bush was criticized by John Kerry in the "War On Terror" for not, "Having a plan to win the peace". There is no long term plan to prosperity here.

The health care industry in the United State makes up 17% of GDP. http://www.nchc.org/facts/cost.shtml That's nearly one quarter of the the GDP that is going to be taken away, when the government begins to offer health insurance. The GDP will drop by a large percentage because the money the government will spend on health care is really just redistributed wealth. The government cannot create wealth.No new economic growth will spawn from government subsidized health care.

The current U.S. government economic stance is causing fear in global markets. The Chinese know that our current path is not sustainable. Chinese investments in the U.S. economy are based on potential returns, not IOU's.

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