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That Sinking Feeling

Avinash Persaud (apersaud@me.com) is chairman of Elara Capital Limited and emeritus professor of Gresham College, London.

The United States (US) is sinking. It is what happens to a country when it blames everyone else for its ailments. The problem is that when the biggest boat in the water sinks, it pulls others down with it. This is not, therefore, time for the rest of the world to indulge in Schadenfreude over the end of the American century. This is the time for the rest of the world to deepen resilience, both to the sinking of the US, and to the coming trade and currency wars. President Donald Trump may be the perfect symbol of US’s decline for many, but he is not going down without a fight.

The United States (US) is sinking. It is what happens to a country when it blames everyone else for its ailments. The problem is that when the biggest boat in the water sinks, it pulls others down with it. This is not, therefore, time for the rest of the world to indulge in Schadenfreude over the end of the American century. This is the time for the rest of the world to deepen resilience, both to the sinking of the US, and to the coming trade and currency wars. President Donald Trump may be the perfect symbol of US’s decline for many, but he is not going down without a fight.

Not the First Time

We have been here before. In the 1960s, Lyndon Johnson and later Richard Nixon tried to finance both the Vietnam War and the Great Society by borrowing overseas. This proved unsustain­able domestically, but it also caused Nixon to end the Bretton Woods system of exchange rates that had supported an unprecedented stretch of economic growth for the world economy. In the 1990s, the US blamed its current account deficit on the Japanese for unfairly resisting the allure of Detroit-made gas guzzlers with the steering wheel on the wrong side. Detroit went into a period of restructuring, emerging leaner and fitter, but not before the US pressure drove the yen and the Deutschmark sky-high in the first half of the 1990s, triggering the collapse of the European Monetary System and the rush to European Mone­tary Union and bursting the Japanese asset bubble which pushed Japan into a multi-decade slump. The epicentre of the Great Recession that began in 2008 was a prior US housing boom and crash, but European countries and many others were dragged into a longer and in some cases deeper recessions. If the US sinks, we will all get wet.

One observation from the past is that the deep malaise in the world’s largest economy often turns out to be part of a cycle. The US is the comeback kid. But there are cycles within trends and the current trend has the sense of an ending. In many ways, the US’s century began with it stepping up to the leadership on global trade and the welcoming of the world’s smart and hardworking labour. Remember the 1946 Marshal Plan, the 1947 General Agreement on Trade and Tariffs, and the accommodation of European war refugees?

India’s high-tech revolution had its roots in the US’s earlier glad reception of India’s computer scientists who later came home. The US’s position was a recognition of the folly of the 1930 Smoot–Hawley tariffs. They triggered reciprocal action and caused global trade to halve, deepening the depression and postponing the recovery. The US’s century is ending with Trump’s tariffs and walls. The circle is complete. Hopes for a liberal trading order rest with a self-proclaimed communist country and the shy traders of Washington’s Democrats. There are reasons to be afraid.

Will China Blink?

Surely, the US and China are not going to the brink of a trade war? Someone will blink first, right? It is always best to assume others are just as rational as we are. Let us hope so, but, on the one side we have a nation in denial, immersed in fake news. The balance of independent observers would say that if economic development of the country as a whole is the goal, the principal problem the US and other advanced economies need to solve are delivering the training, and upskilling that will protect US workers from Chinese competition in a fundamental, sustainable way. Other familiar problems are underinvestment in public infrastructure, a host of practices that lead to a lower participation in the workforce and poor public health. None of these problems are solved by tax cuts.

Trump’s Tax Cuts

Despite the fake proposition that tax cuts will yield so much growth that tax revenues will rise, Trump’s tax cuts will no doubt put further funding pressure on public education, health, and infrastructure. This is the intention of the Tea Party and the like that hold such sway in the today’s Republican Party. They believe their job is not to fix the government, but to break it, so that it can start anew.

A more reasonable view would be that pinning all of US’s economic hopes on tax cuts for the rich, despite the evidence gathered from the previous occasions that US Republican Presidents and governors have tried this same party trick, will disappoint. And when that disappointment sets in, Trump will rely increasingly on the remaining levers of policy: dollar devaluation and protectionism.

Another scary part of the denial practised in the US is that contrary to American popular fiction, it does not actually have a good record of winning the wars it starts. Few independent observers would characterise US escapades in Korea, Vietnam, Afghanistan, and Iraq as hugely successful. Yet, Trump and many others are personally convinced they cannot lose.

The world may have to rely upon the Chinese—who hate to lose face—to lose face in order to save the US and the rest of us. The odds that this will all work out well are slim. Consequently, countries should defend themselves against a devaluing dollar and reducing trade access. They have a choice. Chase the US dollar lower to support export jobs and accept inflation, or refocus on domestic consumption, away from exports. India’s demographic composition suggests the political choice will be to protect export jobs and accept inflation: good for Indian exporters, but less so for the currency, and bad news for the bond market.

 

 

Updated On : 16th Apr, 2018

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