Will EurAmerica Enter a Cold Financial Winter? (Revised)

When China announced to the world that it would open its doors to foreign investment, multinational corporations from both Europe and America rushed to stake a claim to a unique gold rush opportunity of historic proportions. China offered EurAmerican MNCs that agreed to share trade secrets and intellectual capital, that had capital to expand China’s manufacturing infrastructure, and that could open their own countries to China’s goods, the opportunity to participate in China’s newly opened special economic zones, with the hope of marketing to their 1.3 billion people.

Requiring massive investment to capitalize on the opportunity, MNCs sought the support of international investment banks and lobbied home governments to provide looser, deregulated capital markets as well as to submit to opening home markets to “free trade”. MNCs then began a three decade long extraction of wealth, factories, and jobs from EurAmerica to build China’s manufacturing infrastructure and GDP.

At the beginning of China’s historic rise, American politicians freed capital for China investment by reducing taxes of the investment class of Americans; through a reduction of the top tax income rate from 70% to 50%, through reduction of capital gains tax from 28% to 20 %, and through tripling of estate tax exemptions. As more and more capital was needed, America’s baby boomer retirement investments were developed for ease of use in China. In America, 401Ks, started in 1980, and IRAs, made available to all citizens in 1981, siloed middle class investments into the stock market that directed a majority of retirement funds toward China.

Later in China’s growth cycle, EurAmerican banks devised ways to extract even more capital through debt instruments from their citizens. EurAmerican interest rates were set low, creating the credit to extract maximum capital to fund the growth of China’s manufacturing infrastructure through home equity and business development loans. Yet, to meet China’s capital needs in the exponentially growing latter stages of growth, extreme capital extraction through maximum borrowing of a majority of private citizens and public entities was required.

Investment banks created a method of extracting maximum capital from EurAmericans’ main investments, their homes. To accomplish this, Investment banks restructured the banking industry. They first created methods of incentivizing consumers to take as many and as large of loans as possible through risky, low interest, no income verification loans and other, more predatory loans. They also rid commercial banks of their traditional, credit restricting roles by incentivizing them to make as many loans as possible, with minimal risk because they could simply resell the mortgages to the investment banks for a profit. Finally, they developed complex, (and unfortunately faulty) derivatives to buy mortgages from commercial banks and repackage them for profits.

In the process, a majority of consumers that could afford it were lured through ease of access and Ponzified greed into their debt web. Greed played its part with commercial banks as well, as most became willing accomplices of the role that investment banks created in transforming them into maximum credit authorizing, debt creating factories to feed the raw commodities of capital that China needed for her later growth stages. As beneficiary of EurAmerica’s capital, China became a strategic partner to the process by supporting low EurAmerican inflation and interest rates through:

• Accepting free flow of manufacturing infrastructure into her economic development zones
• Funding infrastructure debt payments through sales of low costs goods back to EurAmerica
• Mitigating international demands to revalue the Yuan higher by maintaining historic trade imbalances with EurAmerica and reinvesting Yuan back into EurAmerica
• Keeping internal inflation low through internally enforced savings of wage controls and removing excess Yuan from circulation through funding trading countries deficits
• Managing external commodity inflation through aggressive development of international Greenfield commodity projects to supplement absorption of long term international commodity contracts and relationships that were left unattended by EurAmerica.
• Reinvesting surplus capital into EurAmerica, keeping world interest rates low to extract last vestiges of EurAmerican capital through historic levels of corporate and private debt

When this historic, debt driven, extraction of two great empires’ wealth reached its zenith, like all financial bubbles finally do, public, private and corporate debt had stretched beyond its ability to pay, exceeding $50 trillion dollars in America alone. The financial herd had stretched so thin that it simply required a few debt ridden gazelle to nervously default to start the whole herd stampeding frenzily toward the bank runs that inevitably follow peak excess. This time in history, it was the unraveling of the predatory American home loans that toppled EurAmerica’s financial house of cards. Nonetheless, if not for this gazelle, another would have jumped to take its place, for no exuberant and irrational credit binge ever stands in the longer term.

When this Rube-Goldberg loan scheme supporting the massive capital transfer from EurAmerica to China finally collapsed, investment banks were pushed to the precipice of default. Acting independently of government mandated goals, central banks, with the Federal Reserve out front, stepped in to protect the banking industry by providing liquidity to those investment banks most at risk. They did so claiming that not providing liquidity would have caused domestic businesses and private citizens to default through massive foreclosures, bankruptcies, layoffs, financial and operational restructuring.

Unlike previous historical investment bubbles, in which many investment banks failed, EurAmerican central banks temporarily saved the vast majority of investment banks through simultaneous, massive expansion of the money supply, staving off a rapid disintegration of public, private and corporate debt, recorded as assets on their balance sheets. Recognizing further monetary support was required, the Federal Reserve attempted to mount another widespread EurAmerican expansion of money supply but Europe, intent on preserving its courtship of unification and now dealing with the crisis of PIIGS deficits, did not concur. Without palatable alternatives, the Fed embarked on a Romanesque fait accompli of reserve currency monetary expansion, attempting to reverse the entire world’s contraction of money supply through what they termed Quantitative Easing.

It appears that temporarily at least the Fed’s Quantitative Easing policy have strengthened EurAmerican banks’ balance sheets, transferring some toxic assets to sovereignties, and have girded them to endure the coming double dip recession. However, it failed to accomplish their stated long term debt stabilizing goals. Unemployment is once again increasing, housing prices have reversed and are falling, and while some European countries have begun to institute austerity programs, America is projecting trillion dollar deficits for the remainder of the decade.

Unfortunately, the Fed does not have the magic bullet to repair the only ways to truly provide long term stabilization of massive EurAmerican debt supporting their balance sheets. To do that, EurAmerica must stabilize the underlying ability and desire of their debt holders to make debt payments. This can only be accomplished by:
• Maintaining and growing EurAmerican economies
• Reducing real EurAmerican unemployment
• Increasing the nominal values of EurAmerican Housing or restructuring housing debt
• Eliminating public deficits
• Reducing non-value generating debt
• Maintaining minimum interest on existing debt while incentivizing its reduction and saving

Without immediate and urgent prescriptive measures to meet the above objectives and to mitigate the impact of EurAmerica’s retreat from previous financial investment and consumption patterns, a cold, worldwide economic winter most likely ensue. American direct foreign investment has already begun its inevitable descent. Europe’s protectionism has kept available resources flowing to China but EU will soon follow with fewer investments in China as well. China will react with less support for EurAmerican deficits, severely restricting EurAmerica’s monetary managment options.

If we do not act soon, our political systems will be forced into severe austerity measures. The world will enter a deep and disruptive recessionary cycle from which countries and entire regions will eventually emerge in an entirely new trading pattern; one that is China centric, developed around its newfound industries that were funded by EurAmerica at the turn of the 21st century. China will emerge first, building on its excess modern manufacturing capacity and hegemonic commodities relationships. When at last EurAmerica exits from the long winter of debt riddled recession, it will follow the path to the Asian economies.

Prescriptions to follow…

God Save Us from the Fish Mongers – An Allegory

A small, tropical isle fishing village sits across an inlet from a much larger fishing village to the east. Both villages want for little, spending their days either fishing or taking leisure. The western villagers choose to fish in deep-water, prime fishing grounds where catches are ample and large. They have much leisure, for long ago a western family learned to use the woodlands of their island to produce boats. The eastern villagers, lacking boat building skills, are forced however to cast long hours along their shores for smaller inlet fish. The boat building family enjoys even more leisure than most because their skills provide access to the deep waters so their villagers give them a bit of fish from every catch.

Desiring vessels for their people, eastern village elders approach the boat builders with head gear in hand, explaining that they will provide twice the fish of the western villagers if the boat builders will also supply them with boats. With such an agreeable offer, the boat building family begins to supply boats to the eastern village, and soon eastern villagers can be seen venturing out into the deep for fish.

Flush with fish from the easterners, the boat builders craft an idea. They will trade their excess to westerners in exchange for a return of fish later. To entice their villagers, they will agree to give more fish today than will have to be returned later. Westerners find the offer irresistible because they can enjoy leisure now knowing that some day when they must repay the debt, they will work fewer hours than the hours of leisure they gain today.

Having an abundance of both leisure and fish but now lusting for more, the boat builders unwittingly cast aside their future and that of their island as they craft another idea. They will teach eastern islanders the secrets their forefathers gave them about boat building in exchange for a bit of fish from every catch of the boats the easterners build. Yearning to harvest more of the deep waters, easterners agree to the terms. As the ambitious easterners flood the fishing fields with boats, the western boat building family’s fortunes become titanic.

Mongers now flood the shores with fish from the east, eventually causing a fourth of the western villagers to sit idly by, borrowing from the boat builder’s excesses. Without a need to fish, they slowly lose their knowledge of the seas, and without a need to venture into the deep their boats fall into disrepair. The western village elders, who had survived by taking a bit of fish from every villager as payment for administering the village, now find that with many of their villagers idly living on the fish of the easterners, that they cannot skim enough catch from their villagers to live.

They approach the uberwealthy boat building family for solutions. Lobbying that loans of fish to the idle westerners is good for the westerners because they are receiving more fish today than they will have to repay, the family also quietly agrees to supply ample fish to the elders in exchange for support of continuing eastern trades. Having provided the elders fish that can no longer be obtained from the villagers, the family feels justified in crafting yet another idea. They will give fish to eastern villagers so that they can stop fishing and build even more boats in the east that will return a bit of fish from every catch.

The eastern villagers now control the deep fishing fields and begin to weary of trading fish to the westerners, who must rely on eastern fish, as their boats are no longer sailable. With even more villagers sitting out the long hot days in their huts, western elders grow ever hungrier, so with head gear in hand they travel in weather worn boats to the eastern shore and meet with the eastern village elders by the campfire. Emboldened by their newfound wealth, the eastern elders chide the western elders for their lack of foresight but agree to provide fish in exchange for the promise that the western elders will demand a skim of their villagers’ fish to repay the easterners.

For awhile, this uneasy arrangement continues between the western villagers, their elders, the eastern villagers and the family of boat builders until the eastern village bulges with boats. No longer needing the skills of the boat builders, the eastern village does not desire to give another fish to the westerners but instead demands the western village return the fish they borrowed.

Without the skills or boats to repay their debt, the western villagers look aghast as their elders call them to the camp fire. They no longer can sit by the shore gorging on borrowed fish, nor can they linger leisurely. They must now work long hours catching inlet fish to repay the eastern village. Their previous agreement to pay for earlier leisure with less work hours today was unfortunately sold off by the boat builders. For now, the westerners have no boats to venture into the deep and their labor will be spent casting from the shores. This tranquil village in paradise has unwittingly indentured its future to the easterners.

The family of boat builders, attempting to revive its lost fortunes, now sheepheadishly offers to build boats for the western villagers, but their offer is rebuffed. The easterners are now the preeminent boat builders and one by one, the villagers must meekly travel to the east with head gear in hand, hoping to acquire boats today in exchange for a bit of fish from every catch.

So….Why were the villagers allowed to borrow fish that they could never pay back? Why were the boat builders allowed to give the secrets of the island to the easterners, not only giving away their claims to the island’s boats of survival but the rights to the deep fishing fields that were not theirs to give? Why were elders allowed to borrow from the easterners while so many villagers sat idly? Why did the villagers not see that their elders would yield to the boat builders as a means of their own survival? Why didn’t the western village foresee that letting their skills and boats diminish was unsustainable for their island’s survival? Why didn’t they understand that by borrowing leisure, they would end up fishing for scrub fish along the inlet shore? Why?

How Could America Have Squandered the Gold of Ancient Egypt and the Incas?

Gold has been the store of human endeavor since ancient times. While each ounce of gold can hold only a finite amount of labor, perhaps 1,000 hours in non-industrialized nations, some of the gold locked in Fort Knox has touched millions of hours of labor from civilizations untold. For gold’s greatest benefit, as with all money, is not its storage of value but its lasting ability to temporarily hold value in the exchange of non-coincidental barters.

For millenniums, money was the interchange commodity for simple trades as between farmers and herders. The farmer gave the herder a coin in winter for meat, and the herder returned the coin at harvest time for a bushel of vegetables. Farmers and herders relied on the value of gold because precious metals took effort to mine and purify, were tested for weight and purity, and could be stamped, coined and carried. With such a universal appeal, precious metals became synonymous with storage of value and dominated the world’s choice for money.

At one point, America held within its coffers 70% of all the gold that has ever been purified from ancient Egypt and the Incas through modern times. But it was our misjudgment as to the true value of gold that robbed our forts of ingots and brought America to the precipice of ruin. As history’s greatest superpower, why did America not learn from ancient empires that tumbled down the path to insignificance, and why did we allow our government to amass more debt than has ever been owed by every other soul that has ever lived?

1964 marked an accelerating turning point in America’s misfortunes. In 1964, President Johnson was elected to enact Great Society reforms just as America was increasing her involvement in Viet Nam. Baby boomers were entering the work force just as multinational corporations were beginning an upsurge of direct foreign investment and the transfer of jobs to overseas markets. America’s use of oil was peaking just as political undercurrents were coalescing around oil as a geopolitical force.

Six simultaneous assaults on the American dollar joined to fuel the American financial malaise; a lack of fiscal adherence to a gold standard, military excursions in support of American interests, funding of the great society, a lack of will to respond to oil cartels, multinational corporate indifference to the plight of the American worker, and a financial industry gone wild.

America did not Steward Its Gold

Even though, for 600 decades of recorded history, gold was the stable base of transactions, the world has temporarily abandoned this gold standard for the last 5 decades. Our abandonment was not because of the world’s enlightenment that gold is an unnecessary physical impediment to the electronic age of finance. It is because, with no viable alternative, the world has clung to the hollowed out American dollar that inflated beyond the discipline of the gold standard.

In the 20th century, industrialized nations twice attempted to redistribute wealth through great wars that left all of Europe bankrupt. Afterward, America held 70 percent of the world’s processed gold, and became through Bretton Woods the gold-backed, paper money guarantor of the free world. During the next 15 years, America squandered her gold to cover currency imbalances, until by 1960 the dollar lost its legitimacy. Interestingly, it took Spain over a hundred years to squander its 20,000 tons of Inca gold.

From 1971 until now, America and the rest of the world have had little choice but to allow our currencies to float, giving up the imperfect discipline imposed by a gold standard. As a result of America’s freewheeling monetary policies, it is now encumbered by a spend drunk Congress and an obliging central bank that have conspired to reduce the value of America’s 1971 fiat dollar to a mere 17 cents today.

Scholars suggest that the reason for the dollar’s fall was the inevitable Triffin dilemma which requires America to carry a current account deficit to provide the world with reserve currency. Yet debt financed trade imbalances are not required to provide reserves. Reserves could just as well have been sold to other countries as given to them through trade shortfalls. No, America’s post war monetary policies quickly gambled away the historical hegemony that was bestowed on us at the end of two world wars.

This five decade hiatus from a gold standard will prove only temporary. Gold’s appeal as the engine of financial growth has not been lost on China. At the end of World War II, U.S. gold reserve was over 18,000 tons but has since reduced to 8,000 tons. China is executing a strategy of purchasing approximately 250 tons per year and, as the world’s largest producer of gold, producing 320 tons per year, and now has surpassed all but the U.S. as the second largest holder of gold with 2,000 tons.

Military Excursions Drained America’s Coffers

Without the ability to borrow vast moneys, earlier civilizations relied on warring, exploration and conquest to quickly expand their stores of gold. This strategy was not without consequences. To fund war, Rome engaged in coin clipping and smelting with lesser metals to reduce size and value of denarius in attempts to pay soldiers with coins of veiled value. After 200 years, the Roman denarius reduced from 100 percent silver to only 5 percent just prior its army leaving Rome unprotected from invasions and fall. Interestingly, it has taken less than 100 years for America’s dollar value to plunge that amount.

As all empires have before, America found that its wars must be financed with inflation. The Fed supported an excessive expansion of the money supply (dollar clipping), creating debt to fund each of America’s wars. The Civil War added 2.8 billion. WWI added another 21 billion. WWII created another $216 billion. The Korean War was financed with taxes. Viet Nam increased the debt $146 billion. Cold war expenditures cost 1.6 trillion. The first Gulf War cost a mere $7 billion. In contrast, Iraq cost $786 billion and Afghanistan cost $397 billion. Not including the 700 foreign soil U.S. military bases that contribute greatly to America’s balance of payments deficit, her major wars added a total of $3.4 trillion dollars of carried debt.

The Great Society Became the Broke Society

President Johnson outlined The Great Society in his State of the Union Speech on January 4, 1965, saying “The great society asks not how much, but how good; not only how to create wealth but how to use it.” Notwithstanding the good that was done by these programs, they drained America’s future potential GDP growth and the money that would fuel her economic engine.

46 years later, Great Society initiatives touched education, health, urban renewal, transportation, arts and culture, Medicare and Medicaid, the Food Stamp program, Project Head Start, The National Endowment for the Arts, The Corporation for Public Broadcasting and federal aid to public education for a total expenditure of $9.5 trillion dollars.

America’s Addiction to Oil Made Us Slaves to the Oil Cartel

Oil enabled powerful nations to create a world order that flowed money from agrarian nations to those that controlled hydrocarbon powered machines. Oil was the catalyst that propelled the 20th century’s world leaders into fortune and thrust the world into war. Oil is a finite fuel, controlled by a few nations that are barely separated geopolitically and have common ancient civilizations and modern goals.

Already struggling from Viet Nam and Great Society debts, America found herself the object of a politically motivated oil embargo in 1973. Fuel prices soared and supplies tightened to cause the 70’s stagflation in America. From then until now, America has not found the political will through fluctuating fuel prices to organize an intervention away from oil dependence.

Since the embargo, America has consumed 250 billion barrels of oil at a total cost of $11 trillion dollars. This debit line in our national budget has only one trade, oil for dollars. Had America given our energy war a smidgeon of the effort of placing a man on the moon, we could have easily reduced energy consumption by 20 percent for the same productive output, transportation, and environmental comfort, and saved 2.2 trillion dollars. Surely, the costs to achieve such a modest conservation would have to be netted from the gross, but those costs could have been internally generated and added to America’s GDP.

America’s Multinational Corporations (MNC) were Indifferent Citizens

While America fought the war on poverty, her political leaders surrendered to the war on American jobs. Certainly, with the relative world peace supported by America’s military, globalization was bound to occur. With the risk of direct foreign investments reduced, the last five decades have unleashed an acceleration of money flow and intellectual capital from America to other countries.

While over 4 trillion dollars have been invested overseas by American uberwealthy, America has also been a receiver of investment, so that the net outflow has only been 0.7 trillion. However, the loss of America’s wealth and jobs has been much greater, contributing to a stagnant workforce where one in four able Americans has been idled. MNC direct foreign investment has indirectly added $4 trillion dollars to America’s debt.

The Fed Financed MNCs and Saved Banks but Failed to Keep America Employed

During most of the 17th century, Europe embroiled itself in wars that killed 30% of its population. Some of the world’s largest banking houses failed as royal debtors defaulted, including England in1672. Finally, in 1694, the king agreed to give the Bank of England authority to print all of England’s bank notes in exchange for bank loans to support his war with France. The newly created Central bank, having transferred its risk of loss to British subjects, profited simply by printing money for the monarchy. However, this excess printing did not stop the emptying of England’s coffers.

After America revolted to escape the monetary control of the Bank of England, Hamilton, the United States’ Secretary of the treasury, proposed a charter to a create a similar central bank for America. Against Thomas Jefferson’s insistence, the First Bank of the United States became the precursor to America’s Federal Reserve. Some say major banks manufactured a bank run in 1907 to destabilize the Treasury and instigate support for the Federal Reserve Act of 1913 establishing the Fed, a quasi-agency, private enterprise with a quasi-public board.

From the establishment of the Fed until today, many have argued that major Fed decisions have enriched banks at the expense of the American People. An example is the erroneous decision the Fed made to keep interest rates high for an extensive period of time as America and the World clearly were entering the Great Depression. Also of heated debate was the decision to bail out the banking industry at the start of the Great Recession.

Nonetheless, Fed decisions combined with lobbied efforts to reduce financial regulations, allowed Wall Street to orchestrate multiple financial bubbles that consecutively destroyed value in American portfolios. It cost taxpayers $88 billion to bail out the S&L crisis. The boiling and bursting of the dot.com bubble evaporated $5 trillion dollars. Notwithstanding that the credit default bubble lost the world $30 trillion in value, it has thus far cost America $51 billion in bank bailouts, $787 billion in stimulus, $1.5 trillion in quantitative easing, $5 trillion in lost property values, and with over 5 million bankruptcies and 5 million foreclosures, ruined trillions of dollars worth of wealth generating credit.

In Conclusion

Adding up the numbers versus our $15 trillion dollar debt, it is amazing that the resiliency of the American economy is thus far holding ground:

10,000 tons of gold: $0.5 trillion
Wars: $3.4 trillion
Great Society: $9.5 trillion
Lack of Energy Policy $2.2 trillion
MNC DFI: $4.0 trillion
Banking Debacles: $12.4 trillion +
Total $32.0 trillion

The idea of currencies unsupported by gold reserves is not in itself troublesome. Whether Crowley shells, tally sticks, or paper money, if the market has trust in its role as a place holder for non-incidental barter, any money will do. However without the external discipline imposed by a gold standard, America must instead substitute gold’s imposition for a President strong enough to stand for American sovereignty, a Fed subjugated to defend a stable currency, a Congress selfless enough to impose its own financial discipline, and a willingness of American businesses to defend American jobs. Otherwise, America’s five decade reign over this short lived worldwide fiat money dollar system will come to an end.

Sincere Politics May Force Walton’s Mountain For America To Recover

Our leadership has been steering the ship for the last forty years on the premise that we will choose  fiscal and social priorities, acquiesce to the political realities of not raising taxes, and print money to make up the difference.  Our country must now act upon a different order.  We must set a budget maximum and then set highest priorities to reach that budget.  

This budgeting process is completed collegiately every year by all private sector businesses without gnashing of teeth.  Each year we set budgets and debate which items on our wish list must wait another year to be implemented.  The painful truth is that some items will be slashed.  

When times were good, I took my entire company and our families to Disney for a Christmas Weekend with gifts and visits to dinner from Mickey himself.  In tough times, the lavishness has been replaced with a subdued dinner.  This year we are talking about working together at the salvation army breakfast.  Our mentality of teaming together for survival is the mentality yet to surface fully in Washington, but it must.

As disheartening as it may be, tough debates must begin to reach consensus on how to slash  the federal budget holistically.  Noone gains when Republicans play idiotic games cutting pet budget items to beat their war drums for their political base or when Democrats clamor that no cuts can be made to sacred cows.

If Steven Tyler and J Lo can slash and burn Idol pets to keep the top 24 out of over 150 singers in a week  at Hollywood then our nation’s brightest leaders ought to be able to mull over the top 60 cents of every dollar we spend to keep the very highest priorities.  

What happens to the rest of our critical priorities?  They get pushed to the states and then the cities, each that have no money and that will be forced by crisis to slash even further.

Critical priorities and charities will go unfunded and families and communities will have to take up the slack.  Scenes from Walton’s mountain will play out again in America.

We will have orderly retreat from the high water social mark we set in the previous baby boomer generation, remembering our path so that we may return.  The alternative will be a full scale chaotic retreat into reckless abandonment of our duties to society as our economy collapses for want of disciplined retraction.

America Must Lead the International Regulation of Multinational Corporations

In every world empire, there has been a concentration of state wealth and a transfer of that wealth from one great empire to the next e.g. Egypt to Rome; but it wasn’t until the emergence of the industrial revolution and the invention of the Charter Company that private entities gained wealth comparable to nation states. Now with the revolution of the MNC, the power of Corporate Nations has surpassed that of most States. Neither Hayek nor Friedman adequately addressed how classic liberalism would optimize a world where states bow to corporations and MNCs increasingly become international oligarchs.

Jump forward a hundred years and what role will states have? In the beginnings of the industrial revolution, charter companies had standing mercenary armies comparable and sometimes larger than the states that authorized their charters. In the Iraq war, Blackwater seemed to silently engulf Iraq with its private mercenary activities. How will the mercenary forces of the oligarchs compare on an international scale 100 years from now with the mercenary forces of the charter companies a hundred years ago?

It is true that America’s Federal Reserve has significant culpability in its role of allowing our Congress to irresponsibly expand the debt, but much of that debt was driven by and inextricably tied to a trade deficit caused by an emerging international wave of MNCs and a lack of understanding by industrialized nations’ trade negotiators of their eventual encompassing impact on nations. Given our macroeconomic naiveté, we had the choice to continue borrowing or to accept a slow but real decline in average home purchasing power. For some reason, the Fed was happy to support the former option.

Some conspiracists point to forces external to the U.S. as having responsibility for and benefit from the Fed’s irresponsibility. These central banking forces are more tightly controlled in a state financed imperial China and must continue to be if China is to rise as perhaps one of only a handful of states possible of maintaining parity with the MNC empires of tomorrow. For its 4000 year social isolationist protection, China will eventually seek policies to repel MNC dominance. If western industrialized nations are to survive, we must also collectively seek a strategy for containing MNCs within an international boundary of regulation.

Wal-Mart, My Store, Your Job Loss

1984 was the first year I entered a Wal-Mart store. I was assigned to Poteau, Oklahoma, the county’s center with a population less than 10,000. This was a perfect community for Wal-Mart’s initial strategy.  I was amazed by the store’s size compared to the size of Poteau.  Its big box aside the main drag in town was a bit overpowering, but I felt they did their part to minimize it with their elderly greeter. Although Wal-Mart was 22 years old in 1984, it still owned a mere 0.3 percent of the U.S retail market at the time.

I soon found myself by-passing local stores and running to Wal-Mart to buy diapers and other sundries because it was the biggest store in this small town, had most of what I might need, I really had no branded retail outlet to consider as an alternative, and Wal-Mart had the lowest prices in town.  As the years went on, and Wal-Mart began to penetrate more populace communities, I found that Wal-Mart was becoming more of my weekly life.  I began to differentiate purchase decisions between commodities, which I gladly bought at Wal-Mart, and those reserved for my own indulgences, which I reserved for brand stores. Wal-Mart became my accepted outlet for everything from batteries to bar soap.

I reserved other retail outlets for my material comforts.  My flavors, I bought from Fresh Markets.  I bought the the highest quality electronic gadgets of the time from outlets like Best Buy. For a cruise, I chose to upgrade to Royal Caribbean.  Witnessing this behavior, Wal-Mart introduced a few mass marketable selective brands as well.  With a solid understanding of their market position and a drive toward lowest cost, Wal-Mart acquired eight percent of the entire U.S. retail market.

We have come full circle.  Just as the shipping merchants were the kings of commerce pre-industrial age, Wal-Mart dominates the seas today. Wal-Mart’s shipping fleet is a testament to modern technology. Its sleek ships sail fully laden with cargo from China to American ports in 5 days, a full 4 days sooner than the average cargo ships used by others today.  Importantly, Wal-Mart  applied state of the art technology to drive down a major component of their business model.  They had to counteract America’s trading deficits because these floating works of art sail back  to China empty.

To achieve its retail dominance, Wal-Mart has honed its China strategy.  Now, 80 percent of goods sold in Wal-Mart originate in China. The vast majority of China’s retail market is tied to giant outlets like Wal-Mart, Wal-Mart alone accounting for 12 percent of China’s exports.  Our buying behaviors, China’s selling behaviors, and unfortunately net American job losses are intricately entwined through the market engineering of the world’s greatest multinational corporation, America’s largest retailer, and history’s largest company, Wal-Mart.

China’s Reserve Currency Strategy

In two previous posts, I discussed a fishing village in which some of the men in the village were required to sit on the bank and not fish because the fisherman from the other village were willing to fish for them at a lower cost.  The eastern village in that story represents the Asian economy, with its powerful core being China, which is willing to accept and some say manipulate undervalued exchange rates in order to grow through exports. But is China manipulating its currency?

Assuming China’s industry has identical productivity to the U.S. and the Chinese worker is conditioned to accept $3,000 annual wages to our worker’s $43,000, then China could conceivably sell anything to the U.S. for a lower cost than we can produce, cover the costs of direct foreign investment, and yet make a profit. If China chooses to keep its profit in hard U.S. currency and build a war chest over time, why would the Yuan need to revalue? China is setting the rate at which it will provide value to the west, and we as consumers are accepting their price. 

The world is flooding China with capital, allowing it to continue this wealth accumulation strategy at the United States’ expense. We are countering by quantitative easing to devalue their store of U.S. value but in the process are exacting payments from all countries that hold dollars as reserve funds.  And now the experiment of the Special Drawing Rights reserve currency has begun.   Countries are banding together to end America’s reign as the provider of reserve currency When that finally occurs, we will have lost a strategic advantage.

We have continued to devalue our currency over the years and holders of our currency have lost value each year as a result.  Nevertheless, developing nations have increased holdings of our dollars as a hedge against downturns in their economies.  Our continuous devaluing through the years could be argued as an appropriate payment for our military’s defense of worldwide peace that has allowed unprecedented trading wealth for all countries. But it’s a stretch to charge the world for our inability to surge real growth during the last quarter century to support the demographical spending desires of our baby boomers and our lack of regulatory oversight of the financial shenanigans of Wall Street.

A Math Example Clarifies The Debate About Free Trade

Sharpen your pencils, get a cup of coffee, and grind through this simplified math example that clarifies why jobs are being lost to places like China and India through free trade.  Hopefully the exercise will be enlightening.  It also explains mathematically why America must innovate to make up for lost jobs and to keep wages from being depressed.  If you have any questions while going through the exercise, leave it in the comment section and I will promptly answer it for you.

The Debt Ponzi Collapse Exposed the Real Crisis: A Transfer of Investment and Jobs

Notwithstanding that the current economic crisis was initiated by a debt ponzi scheme that collapsed inflated home prices, creating credit and capital illiquidity, the real crisis is what the collapse finally exposed.  Over the last 25 years, a series of bubbles and bursts have masked the underlying long term transfer of investment and jobs from America to other countries.  The following is an extremely simplified but useful example of how this occurred and why debate continues to surround free trade.

Assume:

• 2 countries X, Y
• 10 people per countries X and Y
• 1 International banker / multinational company (Banker)
• 10 products each requiring 1 person /year of work
• Products expire in 6 years requiring replacement
• Capital has infinite life, interest rate is 0%, material and transportation costs are free

 

Country X

• Banker lends to multinational who creates 10 factories
• 10 Factories each hire 1 person to create a total of 10 products per year
• Workers are paid 1 dollar for each unit of work and products are priced at 1.2 dollars
•  At the end of each year, each person borrows .2 dollars and buys 1 product
• After 6 years, all people have earned labor wages to pay back loans and own 5 products
• After 6 years, 60 units are produced and 50 are consumed
• In 6 years, Banker nets 10 units, zero dollars (60 dollars revenue less 60 dollars) labor, and creates  2.4 dollars value per factory
• With excess units, Banker seek more consumers
• Some products are already reaching obsolesence so cycle must repeat

 

Country Y

• For first 6 years country Y is agrarian but educates its people preparing for industry
• With high unemployment, workers are willing to work for .2 dollars
• Country Y government collects .2 dollars for multinational privilege to invest in country Y
• After first 6 years, Banker builds a factory to produce 1 product (a)
• Banker hires 1 person and loans person 1 dollar to buy product (a)
• During next 5 years, factory produces 5 units and 1 is consumed by country Y, 4 units of product (a) are sold to Country X
• Banker nets 3 dollars, selling 5 units for 5 dollars, labor costing 1 dollar, country Y collecting 1 dollar
• Banker benefits .6 dollars by moving factory to country Y
• As capital is returned, Banker reinvests in country Y
• Country Y invests dollars gained by multinationals in securing future benefits for its people

 

Country X responds

• Because prices are lower, workers in country X buy 4 units of product (a) from country Y
• Plant producing product (a) reduces output to 1 unit during next 5 years
• Worker from factory (a) is laid off and replaced by part time worker
• Small company with innovative idea generates product requiring loan and worker
• Banker loans small company to build factory to produce product
• Small company hires worker that was producing product (a) so that employment is maintained

 

Over Time

• Banker corporation continues to invest in country Y
• Country X must continue to innovate to create new products to replace jobs taken by country Y
• The rate at which country X cannot keep up with the transition of jobs to country Y correlates to the rate at which jobs are lost and wages are depressed in country X

 

Benefits and costs of free trade to residents of Country X

• Workers who have jobs benefit .8 dollars over 5 years from buying lower cost product
• If innovation keeps pace with the transfer of jobs overseas, creating high paying jobs within country x, residents of country x receive more goods and are wealthier
• However, if the following occur, residents of country x is poorer, and country X borrows 2.5 dollars over 5 years from banker to pay unemployment benefits to laid off worker:

o   If innovation does not keep pace

o   If investment wealth is limited and bank receives higher rate of return for funding multinational transfer of jobs than on innovation investment

o   If multinationals purchase innovation and transfer innovation to country y

o   If economic shock creates illiquidity and halts investment in innovation

 

Benefits and costs of free trade to Banker / multinational

• Under scenarios listed above, the banker / multinational continues to benefit

o   With innovation, banker has additional investment options

o   Without innovation, wealth of the working class is transferred through multinational transfer of jobs to the banker

• However, if free trade and excessive investment in country Y cause jobs to shift too quickly, then:

                o   Country X deficit increases to unsustainable level

o   High unemployment in country X causes widespread default on consumer loans

o   Banker / multinational is at risk of negative return

Fish Story II – Village Elders make wrong decision. But why?

I enjoyed the magical context of “Who Moved My Cheese” and wrote my fishing village blog, trying for a similar simple imagery. To provide some insight on the America’s structural unemployment issue, I did take the liberty of starting with a uniform landscape; one combined currency and product, and two distinct villages.

The elders in the story agree on a wrong conclusion, to have able bodied fishermen sit on the bank of their economy when they could obviously reduce their village’s debt burden. The perplexing question to ponder from the story is why they or any nation that has trade imbalances would come to the “elders” conclusion.

Certainly adding more products to the mix allows less able fishermen to find other talents. But within the constraints of the story, with no other options and being unable to fully contribute their own sustenance, it still makes sense for the fishermen to fish. The west village let all eat till satiated. Having all people fish would lessen the charitable burdens of others in the village.

Adding more products to the story opens up more possibilities to reduce the trade deficit. Through innovation, we can create foreign demand for our products and command a higher than commodity price. I hinted at this possibility when I suggested that the children might be able to catch more fish in less time and pay back the east with innovation inflated fish dollars. Innovation is a product of America and must be guarded.

But within the constraints of the story, with no other options and being unable to fully contribute their own sustenance, it still makes sense for the fishermen to fish. The west village let all eat till satiated. Having all people fish would lessen the charitable burdens of others in the village.

In addition, having one product for the story is sufficient if we make the assumption that utopian free trade existed for these two villages. I suggest that in one world market dominated by multinational corporations, “utopian free trade” is the ultimate trajectory point. We have a long path to that point I know. However, America is already experiencing the effects of traveling down this path.

In my utopian market, all products have become a commodity and, therefore, neither community has a product advantage over another, other than transport distance and geography. In the story, utopian trade existed. The elders of both villages agreed on a market clearing price of fish. Investment capital freely flowed to keep both villages fully employable with boats, fishing gear and bait. All trade secrets were fungible and, therefore, neither village had any technology innovation advantage. Access to raw materials and skilled labor was unconstrained. Profit sharing between workers, management, shareholders, and government was equal for both villages, they shared fish to satiation. Neither camp showed any civil unrest, government instability, uncooperative weather, natural disaster risks, or harm for the environment. They coexisted sharing the one lake peacefully. Demographics of both camps were similar, so neither carried, for example, the burden of an excessive aging population. The means of exchange was also transparent and constant, fish in boats.

The difference between these two communities therefore was in their motivations. The east was willing to accept less than the west for their work and to produce more than they needed, saving the results of their labor in future currency. The west was willing to trade later labor for current leisure given that 1) later labor was less work than they would currently have to work for the same fish and 2) the potential that the work might be borne by future generations and that they might escape the work altogether.

Skipping whether the west village’s motivations were pure, one issue must be explained for the story (and our current trade imbalance) to be logical. Why would the western villagers not allow the able bodied fishermen to fish on behalf of their village? It certainly would be less burdensome on the other villagers who would have to fish later to make up the debt that could have been lessened if they fished. How could this decision have been reached?

If Our Debt of Leisure Must Be Repaid, Should We Not All Fish Today?

Two villages grow beside a lake, one to the east and one to the west. The lake is almost paradise for there is no need for shelter or much other sustenance.  The villagers simply must fish the lake each day for food and take leisure.  At the beginning of time when the fish are few in numbers, everyone must fish many hours. But as the fish populate the lake, the townspeople on both sides of the lake find they have more time for leisure.

 The fishermen in the eastern village are a driven clan, choosing not to take leisure but to catch more than enough fish for their own needs, and to offer their excess fish to the western village.  To entice the west, the eastern village offers to give more fish today and to take less fish back from the west at a later date to settle the debt. 

 The people of the western village find the offer irresistible because they can receive many more hours of leisure now knowing that some day when they must repay the fish, they will have to fish fewer more hours than the leisure that they gain today.  They even imagine that the fish in the lake might continue to grow so numerous that when the eastern villagers eventually ask them to repay the fish, the western villagers’ children will have learned to catch many more fish, and may not even have to work more hours to repay the debt.  So the western village willingly accepts the offer of fish from the east.

As the eastern villagers begin to deliver fish, the western villagers learn that some of their village’s fishermen are no longer needed.  When the western village’s catch is combined with the basket of fish borrowed from the east, the western village has more than enough fish.  The western village elders meet by the campfire and decide that their less skilled fishermen must sit on the bank, looking pitifully toward the lake and the other fishermen, and take full leisure.

 The less skilled fishermen take full leisure even as the debt of fish grows ever larger to the village on the east side of the lake. The less skilled fishermen are willing to catch as many fish as they can even knowing that with less skills, they eat more than they catch.  Yet, the less skilled fishermen must take full leisure each day and share in the basket of fish that has been borrowed.   Nonetheless, the elders have spoken.  They must sit out the catch and watch the villagers from the east deliver fish to their shore.  How did the village elders of the west come to this wise conclusion?