Can Your Presidential Candidate Fix the Economy?

Stolen Jobs, Stolen Future

Stagnating wages, American job losses to overseas workers, underemployment and inequality have all been front-and-center issues for both Democrats and Republicans in this year’s presidential election.

You’ve probably heard pundits and politicians blame our economic problems on crony capitalism, Wall Street greed, the Federal Reserve, corrupt financial markets, unfavorable trade agreements, unfair trade practices by China, high taxes on business, excessive regulation, lax regulation, the 1%, the welfare state, excessive debt, not enough monetary stimulus and on and on. The proposed solutions outnumber the problems.

One idea consistently expressed, with differing emphasis, is that American job losses, underemployment, stagnating wages and income inequality are somehow related to global trade. But there reality ends and magical thinking begins. Politicians go on to tell us what we want to hear –that the United States can unilaterally fix the problems caused by other nations if only we elect them to the office of president.

The arguments go like this – America has lost good paying jobs to other countries and workers’ wages have stagnated because greedy corporations ship jobs overseas to low-wage foreign workers and because of unfair trade practices by nations such as China. If we stop all this unfairness, then our economy will improve.

But what if the problem is not how global trade is practiced – what if the problem is global trade?

The Trouble With One Way Economics

Too often politicians look at economic problems only from one side. They conclude that if we can somehow force other nations to play by the rules (rules which may or may not be fair to begin with) then our economy will thrive.

Too many of our nation’s lawmakers believe they can solve our national debt problem without considering global trade.1

However, we can boil down America’s economic woes to this one fact – we consume more than we produce and have done so each of the past forty years. For this economic gravity-defying feat to even be possible, other nations have to produce more than they consume. Overconsumption by the world’s trade deficit nations must match under-consumption by the world’s trade surplus nations. It takes two to tango in the global economy; no one dances alone.

But this begs the question: Why would any nation willingly under-consume year after year?

China’s Economic “Miracle”

The Problem

Imagine yourself in the place of a Chinese leader in the last century. What would you have done to move hundreds of millions of people out of poverty?

Thievery aside, wealth comes from producing more than you consume. To consider yourself wealthier, you must produce more of what you desire or produce more of what someone else desires so that you can exchange it for what you want.

So, to move millions of people out of poverty, their productivity must increase.

But, World War II and the Chinese Civil War left China’s industry in ruins. Starting from such a low point even Communist centralization could bring about an increased standard of living as evidenced by 4-6% annual GDP growth between 1953 and 1978.2 After all, when people’s efforts shift from the destruction of war to the construction of peace, the standard of living must improve. The State guaranteed access to medical care, basic education and housing.

Even so, in 1978 Chinese workers, on average, earned only three percent of wage earners in the United States.3 Two reasons for this readily come to mind: Chinese workers produced less per hour of work than American workers and Chinese wages lagged behind workers’ productivity. (That’s what happens when the state sets the wage rate.)

China remained very poor. If China ever hoped to get out of poverty, it would need to increase productivity and industrialization offered the best way to achieve this end.

However, China needed markets for their value-added products. You can sell a lot more goods to rich people in developed countries than you can to poor peasants in your own.

China, lacking adequate higher education, investment capital and the intellectual property necessary to make their workers more productive, would find it very difficult to compete with economically developed nations. But, by turning a weakness – millions of low-wage workers – into strength by lowering production costs, China gained a competitive advantage in the global marketplace.

The Solution

China set out to improve its economy through investment in infrastructure and capital equipment because both improve worker productivity. But they also needed something more important that the communist system could not provide – incentive.

In 1978, two years after Mao Zedong’s death, and after years of state control of all productive assets, Deng Xiaoping began reforms in China that “encouraged the formation of rural enterprises and private businesses, liberalized foreign trade and investment, relaxed state control over some prices, and invested in industrial production and the education of its workforce.” 4

Thus the miracle began. Rural workers attracted by higher wages moved to the cities. With a seemingly endless supply of new low-wage workers China could maintain their low production cost advantage for a very long time.

The Conundrum

But remember, the whole purpose of this economic endeavor was to lift people out of poverty and to, as Deng Xiaoping said, “Enrich yourselves.” For incentives to perform an economic miracle, wage increases should track productivity. Eventually as China succeeded in making a percentage of its citizens more productive, their average wage went up.

But, should wages in China closely approach levels earned by workers in developed nations, the engine of export growth would stop because Chinese companies would no longer be able to easily undersell their competitors.5 China’s experiment with economic reform would come to a halt, enriching some but leaving hundreds of millions in poverty. Having created such massive inequality would certainly give egalitarians in China a major case of heartburn if not existential angst.6

China could keep the average wage sufficiently low despite increases for experienced workers if low-wage workers continually entered the export industry workforce. But, as it turns out, demographics and increased job opportunities provided by small business growth in rural areas have combined to slow the flow of low-wage workers prematurely.7 So, the Chinese government simply had to have other methods at their disposal for keeping the export engine running smoothly.

China’s Trade Policy

China follows the Asian economic growth model that includes central bank intervention to maintain undervalued currencies, wage growth that lags behind worker productivity increases, and financial repression in the form of artificially low interest rates.8

All three of these policies reduce household consumption. All three are “hidden” taxes that, like regular taxes, reduce household disposable income and transfer it to someone else.

For example:

  • When China devalues its currency, its households can purchase fewer foreign made goods so that their overall consumption is less. China’s exporters can lower prices without affecting their profit margins allowing them to sell more and undercut the competition in price.9 Said another way, devaluing the currency transfers money from households (importers) to the tradable goods sector (exporters).
  • Wages that lag behind productivity transfer wealth from workers to employers spurring the production of tradable goods while repressing household consumption.10
  • Artificially low interest rates transfer wealth from savers to the first users of borrowed money, which, in China tend to be government, infrastructure investors, manufacturers and real estate developers.11

These policies work together to maintain the Chinese export engine even as the wage gap between China and its competitors narrows.

More importantly, these “hidden” taxes force under-consumption upon Chinese households in the same way an income tax does; a move that has simultaneously helped millions escape poverty while enriching owners of capital.

Inequality Has No Borders

China has more billionaires than any country other than the United States even though it ranks 113th among nations in per capita income.12

Remarkably, both China and the U.S. have experienced staggering inequality via transfers of wealth from labor to capital owners.13 This has occurred even though they have vastly different political and economic systems and even though one is the world’s largest exporter and creditor nation and the other is the world’s largest importer and debtor nation.

The common link is not that both countries have lazy people and hard-working people. The common link is global trade and government policy that enables wealth transfers. There is one glaring difference, however. In China, the working class has been made wealthier by global trade while in the U.S. middle class wages have stagnated and household debt has increased.

Headed Toward Oblivion

Applying band-aid solutions to isolated wrongs without addressing structural problems won’t fix our economy. The global economic system must change.

The primary problem in our global economy is unrelenting imbalanced trade. Nations with trade surpluses, like China and Germany, must raise their consumption and nations with trade deficits like the U.S. must reduce consumption. I’ll let the reader judge whether they might see such cooperation in their lifetime.

Even if rebalancing is forced upon us by economic crisis, structural problems will still exist, namely, the problem of a single nation having the world’s reserve currency. We cannot avoid trade imbalances given the current global economic system so any rebalancing will be temporary.

I see several paths to take from our current situation:

  • Reverse the trend toward increased globalization. Brexit represents this sentiment. I favor this option.
  • Because using a single nation’s currency as the world’s reserve currency must always result in that nation becoming indebted to the world as the United States has, some have suggested expanding the use of a type of transnational currency called Special Drawing Rights.14 But this seems to me to be just an intermediate step toward a one-world currency.
  • Allow the free flow of labor across borders to counterbalance the advantage free flow of capital gives its owners. Though unlikely in a world where nationalism is still strong and terrorism is on the rise, this would fit perfectly into the progressive agenda. Such blurring of national boundaries is a short step away from a one-world government.

What the economic and political elite have done to the economy is tragic, but unless we address structural issues in both the national and global economies, things will only get worse. Let’s not pretend our economic woes will disappear if we elect our favorite candidate to the office of President of the United States.

 

Notes:

  1. Most Americans are unaware of the advantage U.S. businesses enjoy because of the dollar’s status as the world’s reserve currency or that other nations help finance our internal debt with their dollar reserves.
  2. GDP growth was erratic during this period. For example, GDP growth in 1961, 1964, 1967 and 1970 was -26%, +15%, -8%, and +16% respectively. (World Bank data)
  3. Hongbin Li, Lei Li, Binzhen Wu, and Yanyan Xiong, “The End of Cheap Chinese Labor”. Journal of Economic Perspectives, Volume 26, Number 4 – Fall 2012, pages 57-74
  4. Zuliu Hu, Mohsin S. Khan, “Economic Issues 8 — Why Is China Growing So Fast?“. International Monetary Fund, June 1997
  5. Technically, China’s advantage disappears when the gap in labor productivity between it and its trading partners is equal to or greater than the wage gap. If China’s workers were equally productive as America’s, then the advantage would be based solely on wages.
  6. Even if you take the view that Communist leaders were disingenuous about employing economic reform for the benefit of the masses, only wanting to enrich themselves off of labors’ backs, then this failure would still be unacceptable.
  7. Hongbin Li, Lei Li, Binzhen Wu, and Yanyan Xiong, “The End of Cheap Chinese Labor”. Journal of Economic Perspectives, Volume 26, Number 4 – Fall 2012, pages 57-74
  8. Michael Pettis, The Great Rebalancing, (2013). Princeton, New Jersey: Princeton University Press, p 53
  9. Ibid., p 33
  10. Ibid., p 56
  11. Ibid., p 60
  12. CIA, The World Factbook
  13. Previous articles have discussed wealth transfers that occur due to financial repression and inflation (Feeling Repressed), malinvestment of resources into asset bubbles (Money Changers and Inequality, Part 1), and economic rents (Why Christians Care About Economics).
  14. Michael Pettis, The Great Rebalancing, (2013). Princeton, New Jersey: Princeton University Press, p 152

 

 

 

 

 

 

 

 

 

 

 

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