When John Maynard Keynes visited Washington, D.C. in 1944, and met with professed Keynesians, he remarked that “I was the only non-Keynesian in the room.” Having read and fully agreed with Friedrich Hayek’s The Road to Serfdom, Keynes was plainly surprised by the perversion of his ideas by his ambitious disciples. Keynes was no longer a Keynesian.
Keynes’s bemusement at the misunderstanding of his views came to mind recently when a thought piece produced at the Jack Kemp Foundation was forwarded to me. Though surely well-meaning, the write-up revealed almost none of the late Jack Kemp’s understanding of money. Worse were the myriad factual inaccuracies, including a Bretton Woods monetary agreement that took place after World War II. Except that it took place in 1944. It didn’t seem fair. Kemp’s not around to correct what’s being associated with his good name.
The opinion piece argued that “America’s large and persistent trade deficit” is not caused by “bad trade deals,” but is an effect of the “dollar’s status as the global reserve currency.” From the get go, it’s apparent that those speaking for Kemp know as little about trade as do the protectionists so naively eager to erect barriers to foreign goods.
To be clear, all trade balances. Always. That’s the case because per Say’s Law, we’re only able to consume insofar as we produce first. Kemp understood Say’s Law well, yet those speaking for him don’t as evidenced by the suggestion that trade could somehow be out of balance. Individuals run “trade surpluses” with their employers, and they run “trade deficits” with their landlords, their favorite restaurants, with their drycleaners, etc. The rich run the biggest "deficits" in "trade" of all. Logically. The U.S. is the richest country in the world....
Broken down to the individual, and that’s the only way to look at trade, it’s a statement of the obvious that “trade deficits” are the reward for production. Applied to Kemp, he arguably understood this better than most given where he most famously played professional football: Buffalo, NY. Buffalo was the epitome of “rust belt.” Not a lot of production there, and as such, very small “trade deficits.” Light production means light consumption. Where they were largest was in New York City, Manhattan in particular. Populated by some of the world’s most accomplished individuals, Manhattan’s residents were aggressively importing the world’s plenty. Their immense productivity rated the inflow. "Trade deficits" are once again highest in the locales where people are richest.
And while Buffalo’s lack of productivity rendered it a not-so-attractive locale for investment, investment into New York City was surging. All of this requires mention simply because quite unlike the Kemp Foundation’s presumption that the so-called “trade balance” is informed by products, the actual truth is that it’s informed by investment flows. Stating the obvious, we have a so-called “trade deficit” as a country precisely because the U.S. is a magnet for investors the world over. When we “export” shares in American companies that are routinely the most valuable in the world, this does not count in the accounting abstraction that is the “trade deficit.” Conversely, when we import goods and services, this does factor into accounting that has so many so confused. Investment flows to the productive. It's a flashing sign of endless prosperity.
This is crucial mainly because the Kemp Foundation’s piece once again argued that “trade deficits” in the U.S. are an effect of the “dollar’s status as the global reserve currency,” but this is factually inaccurate. Indeed, the dollar’s status as “the global reserve currency” began in the 20th century, yet as Steve Forbes has been explaining for years and years, the U.S. has run “trade deficits” for longer than it’s been the United States. And it has run them for obvious reasons: the immense productivity of people based in the U.S. has proven a major lure for investors whose capital commitments power economic growth. So while Jack Kemp was positively effusive about the genius of economic growth, some of his disciples have chosen to bemoan the investment inflows that drive it; all of this based on their confusion about what is wholly a creation of accounting. Yes, those irrelevant “trade deficits.”
The shame is that the thought piece didn’t stop there. It contended that President Nixon’s decision to sever the dollar’s link to gold caused the so-called “trade deficit” to surge. Such an expression of confusion yet again ignored the basic truth that the U.S. always ran trade deficits precisely because it’s long been an attractive destination for investment. Notable here is that investment in the U.S. is a purchase of equity denominated in dollars in the future, or it’s a purchase of future income streams denominated in dollars. What the latter tells us rather logically is that assuming President Nixon doesn’t commit his monumental currency error, so-called “trade deficits” in the U.S. are quite a bit larger today than they presently are. That’s the case because if the dollar were stable as a measure of value, investment into the U.S. would be even more sizeable than it is with a dollar that floats around with great uncertainty in terms of its value.
The above truth is important mainly because the Foundation went on to promote the obvious falsehood that a falling dollar bereft of a golden anchor was the source of subsequent budget deficits. As the thought piece put it, “No longer bound by fixed exchange rates and dollar convertibility, the U.S. government’s fiscal discipline broke down.” Books have been written that have exposed the previous statement as wildly false; the latest being Duke professor Richard Salsman’s incomparable The Political Economy of Public Debt. But with brevity very much in mind, two quick points need to be made.
For one, a purchase of a U.S. Treasury of any kind is a purchase of dollar income streams in the present, and most often the future. This is important mainly because the Foundation wants us to believe that a devaluation of the income streams paid out by the U.S. Treasury actually made them more attractive to investors. The very notion is absurd. What’s easy to see here is that in a piece that embodies the notion of false correlation, Kemp’s disciples drew yet another one with their assertion that a floating, weaker dollar is the driver of budget deficits. To be clear, debt that pays out currency that is exchangeable for fewer and fewer goods and services is logically less attractive than an income stream that pays out money that holds its value. Getting right to the point, severing the dollar’s link to gold logically made it more difficult for Treasury to borrow. Deficits could have been much, much larger absent Nixon’s error. Obviously.
Importantly, history supports the above – and rather obvious – contention. Indeed, the British pound was the world’s reserve currency in the 19th century. The pound was fixed to gold, yet budget deficits in England were 261 percent of GDP as of 1819. Perhaps more crucial for the purposes of this piece is that budget deficits in the U.S. hit a record in terms of GDP during World War II. Even though the dollar was defined as 1/35th of an ounce of gold, deficits as a percentage of GDP hit 120 percent. All of this runs counter to the Kemp Foundation’s odd contention that the devaluation of an income stream makes it more attractive. More modernly, Japan presently has a budget deficit that is 225 percent of GDP. This rates mention given the Kemp Foundation’s still puzzling assertion that currency devaluation enables “rising” federal “debt as a percentage of gross domestic product.” History once again disproves the Kemp Foundation’s unfounded assertions, and Japan surely instructs in this regard. Figure that the yen has soared against the dollar since 1971; a dollar that once purchased 360 yen now is only exchangeable for 105.
Which brings us to the next blatant inaccuracy in a thought piece full of them. The Kemp Foundation argues that thanks to “high global demand,” the “dollar’s international position is always stronger and U.S. interest rates are lower than they would be otherwise.” Laughably, the piece goes on to contend that this alleged strong dollar dynamic “has made it difficult for American companies to add manufacturing jobs inside the U.S.”
Back to reality, since 1971 the dollar has easily been the weakest of the major global currencies. That the latter is true isn’t even debatable, and it’s only worth remarking on because a fact checker at the Kemp Foundation could have easily corrected what is so factually inaccurate. So with brevity yet again in mind, it’s worth repeating once again that a dollar that once purchased 360 yen now only purchases 105. And while the euro has replaced most of the European country currencies, it’s a simple fact that the Deutschemark and Swiss franc crushed the dollar after it was delinked from gold in 1970s. Though a dollar was exchangeable for 1.4 francs as of 2001, it now purchases .95/franc. A euro was exchangeable for roughly .80 cents when then 21st century began, but it now buys $1.23. Gold? A dollar that was exchangeable for 1/35th of a gold ounce in 1971 now buys 1/1340th of an ounce.
All of the above requires mention as a response to the obnoxiously false assertion about the dollar’s “always stronger” international position, but also to correct the similarly false narrative that good money is inimical to exporting. Indeed, if we ignore the obvious, that the sole purpose of production is to import as much as possible, the yen has pummeled the dollar since 1971. The latter exists as an inconvenient truth for the mercantilists in our midst who think wealth springs from devaluation, exports and “manufacturing jobs,” not to mention that Japanese exports surged into the U.S. in the ‘70s and ‘80s in concert with the yen’s stupendous rise against the USD.
As for the allegedly strong dollar having “made it difficult for American companies to add manufacturing jobs,” this too was a backwards assertion. Jobs are a function of investment, and the more investment in a country, the higher the pay. The U.S. is once again a magnet for investment. That’s why compensation in the States is so robust, thus explaining why people around the world routinely risk their lives to get to a country in which even the illegal, under the table jobs pay well relative to what’s available elsewhere. Crucial here is that manufacturing work is no longer valuable. So thankfully automated has it become that actual factory jobs in China pay the equivalent of a Starbuck’s latte on a daily basis. In short, it’s difficult for “American companies to add manufacturing jobs inside the U.S.” because it’s too expensive to hire the typical American worker. Such is the genius of investment. It’s compassionately priced Americans about out of back-breaking factory work.
Interesting about all of the above is that in making the comically false assertion that the dollar has been “always stronger” since 1971, the Kemp Foundation is oddly calling for the kind of devaluation of the greenback that Jack Kemp was so famously against. The Foundation members no doubt pay lip service to a gold-defined dollar, make the naïve contention that pegging two floating currencies together (dollar/euro) is the equivalent of currency nirvana, but the main point of the Foundation’s thought piece is that the dollar has been too strong, and that its strength has caused an economy-sapping “trade deficit.” That's tood bad, though in their defense they would never knowingly write what is so untrue.
Oh well, readers are probably getting tired, but it’s worth pointing out that the Kemp Foundation piece, if followed, would likely bring down the so-called “trade deficit.” It would because the disciples of Kemp are implicitly calling for a devalued dollar, a devalued dollar is an investment repellent, and if less capital is flowing into the U.S. such that we’re earning less, it means we’ll be exporting fewer shares of our less attractive corporations. And because Americans will be earning less, it’s possible that the low-paying manufacturing jobs of the past will return to the U.S. We would be quite a bit poorer under such a scenario, but it’s worth pointing out that the path to a lower “trade deficit” is only possible if we’re willing to accept being much poorer. A champion of growth is having his name associated with well-meaning individuals unwittingly calling for policies inimical to growth
So that’s it. There’s much more that’s easy to disprove in the Kemp Foundation piece, but time is precious. Inquiring minds were curious and sent the text my way. Here’s a semi-brief response.
John Tamny is editor of RealClearMarkets, Director of the Center for Economic Freedom at FreedomWorks, and a senior economic adviser to Toreador Research and Trading (www.trtadvisors.com).