Keynesian borrowing won't solve our economic problems

Washington's response to the recession has been ever-expanding borrowing for stimulus packages and bailouts:

(1) $150 billion in February;

(2) $850 billion in October, and, coming soon;
 
(3) Obama's $800 billion stimulus package.

These packages are implementations of Keynesian economics which advocates increased government borrowing during recessions. But government borrowing has severe long-term costs. The late Milton Friedman, founder of the fiscally conservative alternative known as monetarism, often pointed out: "There ain't no free lunch!"

For one thing, borrowing from abroad artificially strengthens the dollar, which causes American producers to lose market share both at home and in world markets. In fact, the first two stimulus packages may have actually made the U.S. recession worse, not better.

But the biggest costs of government borrowing are borne when the government has to make payments on its increased debt. The rapid pace of Washington's borrowing, at present, is greatly increasing the possibility that a rise in interest rates could force the U.S. government to either repudiate or inflate away its debt.

The central idea of monetarism is that governments are too short-term in their thinking unless they are bound by sensible long-term rules. Monetarists have always advocated the first two rules below. We would add the third:

1. Balanced Monetary Growth. Governments should maintain a steadily growing money supply, sufficient to prevent deflation, but not so fast as to cause inflation.


2. Balanced Budgets
. Governments should maintain relatively balanced budgets so as not crowd-out private investment or leave a huge government debt to future generations.


3. Balanced Trade
. Governments should insure that foreign trade is relatively balanced so as not to lose production jobs or leave a huge national debt to future generations.


Monetarism, even without the balanced trade rule, has been a successful economic philosophy. The Federal Reserve applied the balanced monetary growth rule during the 1980s and 1990s, keeping the U.S. economy relatively free from inflation. Similarly, President Clinton and the Republican Congress applied the balanced budget rule in the mid 1990s, producing a long period of steady economic growth.

The new balanced trade rule is necessary in order to respond to modern mercantilism, the economic policy that maximizes exports and minimizes imports in order to gain market share from trading partners. The latest evidence is the
increase in China's subsidies to exporters which has not yet evoked a response from the U.S. government even though China exports four times as much as it imports from the United States and promised to forego export subsidies when it joined the WTO.

China and the other mercantilist governments have been perpetuating and increasing the U.S. trade deficits by buying U.S. financial assets with the dollars earned from their trade surpluses with the United States.  For over a decade, American banks passed along the flow of foreign savings to American consumers, offering ever-riskier loans in order to get a high return. But when American consumers could no longer afford the payments, banks went bankrupt and the resulting hole in worldwide demand is causing the worldwide recession.

If the U.S. government switched to balanced trade monetarism, the U.S. could quickly recover since there would be plenty of demand for American products if foreigners bought as much from the U.S. as the U.S. buys from them.

One definition of insanity is trying the same thing again and again, but expecting a different result. Washington seems to be stuck on borrowing foreign savings. But borrowing from abroad exacerbated this recession, has already bankrupted many U.S. banks, and is starting to bankrupt U.S. manufacturers, including Detroit automakers. It's time to stop the borrowing by bringing trade into balance!

Raymond L. Richman is a professor emeritus of public and international affairs at the University of Pittsburgh. The three Dr. Richmans are three generations of economists from the same family and co-authors of the 2008 book, Trading Away Our Future published by Ideal Taxes Association. They blog at tradeandtaxes.blogspot.com.
Washington's response to the recession has been ever-expanding borrowing for stimulus packages and bailouts:

(1) $150 billion in February;

(2) $850 billion in October, and, coming soon;
 
(3) Obama's $800 billion stimulus package.

These packages are implementations of Keynesian economics which advocates increased government borrowing during recessions. But government borrowing has severe long-term costs. The late Milton Friedman, founder of the fiscally conservative alternative known as monetarism, often pointed out: "There ain't no free lunch!"

For one thing, borrowing from abroad artificially strengthens the dollar, which causes American producers to lose market share both at home and in world markets. In fact, the first two stimulus packages may have actually made the U.S. recession worse, not better.

But the biggest costs of government borrowing are borne when the government has to make payments on its increased debt. The rapid pace of Washington's borrowing, at present, is greatly increasing the possibility that a rise in interest rates could force the U.S. government to either repudiate or inflate away its debt.

The central idea of monetarism is that governments are too short-term in their thinking unless they are bound by sensible long-term rules. Monetarists have always advocated the first two rules below. We would add the third:

1. Balanced Monetary Growth. Governments should maintain a steadily growing money supply, sufficient to prevent deflation, but not so fast as to cause inflation.


2. Balanced Budgets
. Governments should maintain relatively balanced budgets so as not crowd-out private investment or leave a huge government debt to future generations.


3. Balanced Trade
. Governments should insure that foreign trade is relatively balanced so as not to lose production jobs or leave a huge national debt to future generations.


Monetarism, even without the balanced trade rule, has been a successful economic philosophy. The Federal Reserve applied the balanced monetary growth rule during the 1980s and 1990s, keeping the U.S. economy relatively free from inflation. Similarly, President Clinton and the Republican Congress applied the balanced budget rule in the mid 1990s, producing a long period of steady economic growth.

The new balanced trade rule is necessary in order to respond to modern mercantilism, the economic policy that maximizes exports and minimizes imports in order to gain market share from trading partners. The latest evidence is the
increase in China's subsidies to exporters which has not yet evoked a response from the U.S. government even though China exports four times as much as it imports from the United States and promised to forego export subsidies when it joined the WTO.

China and the other mercantilist governments have been perpetuating and increasing the U.S. trade deficits by buying U.S. financial assets with the dollars earned from their trade surpluses with the United States.  For over a decade, American banks passed along the flow of foreign savings to American consumers, offering ever-riskier loans in order to get a high return. But when American consumers could no longer afford the payments, banks went bankrupt and the resulting hole in worldwide demand is causing the worldwide recession.

If the U.S. government switched to balanced trade monetarism, the U.S. could quickly recover since there would be plenty of demand for American products if foreigners bought as much from the U.S. as the U.S. buys from them.

One definition of insanity is trying the same thing again and again, but expecting a different result. Washington seems to be stuck on borrowing foreign savings. But borrowing from abroad exacerbated this recession, has already bankrupted many U.S. banks, and is starting to bankrupt U.S. manufacturers, including Detroit automakers. It's time to stop the borrowing by bringing trade into balance!

Raymond L. Richman is a professor emeritus of public and international affairs at the University of Pittsburgh. The three Dr. Richmans are three generations of economists from the same family and co-authors of the 2008 book, Trading Away Our Future published by Ideal Taxes Association. They blog at tradeandtaxes.blogspot.com.