Friday, December 2, 2011

"GERMANY LOVES EUROPE, BUT NOT THE EURO"

Wolfgang Ishinger, ex-deputy foreign minister of Germany, published and op-ed article in the October 12, 2011 edition of The New York Times in which he argues that for prime minister Angela Merkel to convince her countrymen on saving the Euro, the arguments must be couched in the importance to Germany of preserving the European union, rather than placing emphasis on saving the Euro. Most Germans, according to Mr. Ishinger, never liked the Euro in the first place and wish they had the German Mark back.

They should be careful, lest their wish comes true.

The whole Euro project was built on flimsy foundations from the very beginning, and its current travails should come as no surprise.  A common currency joining disparate nations, languages and cultures without common and enforceable fiscal policies cannot and will not work smoothly, neither in theory nor in practice.

Sure, there was at the outset a mutual undertaking of fiscal prudence, where any member state running budget deficits in excess of 3% of GDP would be subject to substantial fines.  And who were the first ones to ditch this undertaking?  You guessed it - Germany and France, the two largest members of the club which used their clout to avoid any further talk of the stiff penalties which they themselves originally insisted on.

And - say the Germans - why should we now, after having pinched and saved and made sacrifices to keep our wage levels competitive, have to pay for the indiscipline of others?  Well, one answer which comes to mind is that Germany is conceivably the only European nation that has had any real benefit from the Euro.

Where do you think the German Mark exchange rate would have been these days, and what do you think it would have done to the competitive position of German exports, the main engine of the nation's prosperity?

Sure, a stable Euro and the possibility of borrowing cheaply unlimited amounts of money gave Greece, Spain, Portugal and Ireland a temporary high, until the financial markets woke up to the fact that - hey! - we may not get any of that money back. Now these and other Euro club members are stuck with the unenviable - not to say impossible - task of deflating their economies and living standards back to pre-Euro levels, and in the process hurting the German economy by their Euro-associates not being able to afford their products anymore.  After all, Europe is by far Germany's main export market.

Germany, stop whining and start fixing.  If or when the Euro falls apart, you will be the biggest loser.

FUNDING THE U.S. FEDERAL GOVERNMENT

The debates around the Federal budget deficit and what to do with it is a classical case of not seeing the forest for all the trees.  Let us start with a broad structural framework and stop getting lost among all the single issues and opinions that are out there.

United States federal government expenditures currently amount to about 25% of GDP.

I would consider this a reasonable long term target level, but one not necessarily that easy to stay within given increasing health care cost and pension obligation trends.  Nevertheless, by making necessary long term structural adjustments to the expenditures side of the equation, 25% should be a reasonable target to aim for and stick with.

In current 2011 dollars, we are thus talking about an annual funding requirement of approximately $4.0 trillion.

Here is how I would propose to raise the money.

FEDERAL PERSONAL INCOME TAX
Income tax should be payable on all personal income, whether on salaries, wages, interest or capital gains, levied at a rate of 30% on the nation's top 10% income group.  In accordance with 2010 Internal Revenue Service data, the income split point for this group was $113,800, and the group reported income of $3.9 trillion. Thus, this tax rate would raise about $1.2 trillion.

Incidentally, the top 10% income group in 2010 already paid 70% of all federal income tax revenue under the current tax code, but at an average effective rate of only 18.7%.

Those below the income split point of $113,800, but above $33,100, would pay 15%, which would raise a further $0.5 trillion.  Earners below $33,100 would pay no income tax.

There would be no exemptions or deductions, other than on capital gains from the sale of a primary residence.  The income tax declaration form would be a one-page document.

PAYROLL TAXES
Federal payroll taxes would be abolished, stimulating job creation and diminishing the fiscal and bureaucratic burden on small businesses which overwhelmingly are the nation's main job creators, as well as reducing the need for federal control and enforcement bureaucracies.

CORPORATE FEDERAL INCOME TAX
Corporations would no longer pay federal income tax, under the philosophy that income should be taxed only as received by the individual shareholder in the form of dividends or capital gains on sale of their shares.

Although business lobbies carp about the 35% nominal federal corporate income tax rate being among the world's highest, the naked fact is that U.S. corporations - particularly the larger ones able to hire sophisticated and expensive tax accountants - actually pay little or no income tax to the federal government.

So let us stop this whole charade.  I know the idea would not be welcome with the lobbying, legal and accounting professions, where dribbling the federal corporate tax code is an important source of income. On the other hand, and what is more important, it would presumably induce U.S. corporations to conduct their business at home rather than overseas.

FINANCIAL TRANSACTIONS TAX
The aggregate value of all annual financial transactions in the United States currently amount to some $750 trillion.  A one third of one percent tax on these would raise close to $2.5 trillion.

This 0.33% levy would be collected on your behalf by financial institutions every time monies leave your account, being that personal or corporate, regardless purpose or destination of funds.

Such a levy would not be regressive,  it would be easy to collect, administer and control, and to boot discourage a certain amount of entirely unproductive financial churning caused by the trends towards "financialization" of the economy.

IN CONCLUSION
So there we are:  With a few simple and straight+forward strokes we have raised the $4 trillion needed by the federal government to do what it needs to do, with a bit to spare.

We also have in the process eliminated several thousand pages of tax code, reduced the work load on Congress so that they may hopefully find more constructive things to do and, admittedly, also robbed a comfortable livelihood from several thousand legal and tax specialists.

The economically better off among the citizenry would be paying a fair and affordable share of their incomes in taxes, and corporate America no longer would have an excuse for failing to invest at home because the federal government is in their way.

It's not that complicated, is it?

Friday, October 28, 2011

WORLD FINANCIALIZATION

What?  Financialization?

Yes, apparently there is such a word, although I have been unable to trace it to any dictionary in my possession. Wikipedia, where I came across this literary monstrocity, defines it thus:

A term that describes an economic system or process that attempts to reduce all value that is exchanged (whether a tangible, intangible, future or present promises to pay) into a financial instrument, or a derivative of a financial instrument.  


The original intent of financialization is to be able to reduce any work-product or service to an exchangeable financial instrument, like currency, and thus to facilitate trade of such products or services among people.


Modern banking originated during the Middle Ages with merchants linked to the production and trade of grains on the Italian Lombard plains, a place name that has remained associated with banking to this day.  The farmer could raise money to cover expenditures against a promise to deliver his crop at harvest time to a merchant banker against an agreed price. This was a risky business, calling for a high nominal interest on the monies thus lent.  Since both the Catholic Church and Islam condemned usury,  the business became dominated by Jews, who were under no such religious constraint.  In time, merchant banking activities expanded to include both insurance against crop failure, as well as guarantee of future delivery to distant markets at a predetermined price.

The more successful of the merchant banking families became exceedingly wealthy, and went looking for profitable applications of surplus capital beyond their traditional metier, such as lending to kings, princes and their likes.

The main form of government deficit financing in those times was to cover war expenditures.  These were not always repayable, and consequently bankrupt kings would in turn bankrupt their Jewish creditors by declining to honor their debt and banning them from their kingdom.  End of problem.

Those were simpler times, if not necessarily happier ones.  Now the the world, and particularly the developed western portion of it, is staring into an abyss of financial turmoil and accompanying economic hardships of unknown proportions and consequences.

Financialization - in other words, creation of money - was once a pretty straight forward concept. That is no longer so.

Traditionally, the most relevant and closely watched monetary index was that of M3, the widest aggregate definition of money in circulation.  There used to be a fairly close correlation between M3 and the state and likely course of the economy.  This correlation seemed to be slipping during the 1990s, and particularly so after the repeal of the Glass-Steagall Act of 1933 and the consequent deregulation of the financial markets in function of the Financial Services Modernization Act of 1999.

As a result of this apparent decoupling of M3-to-GDP relationship, the Federal Reserve decided in March 2006 to cease compiling and publishing M3 data.  The justification was that M3 no longer told us anything about the economy that we could not just as easily surmise from M2 data.  The additional work and expense involved in compiling M3 data was therefore no longer thought to be justified.

Here I have to ask myself:  could the real reason be that the Federal Reserve had simply lost control of aggregate money supply as a consequence of financial deregulation and the creativity of the financial industry in coming up with ever more exotic financial instruments, many of which are traded privately, off balance sheet and out of sight, involving staggering amounts of money?

Here is one reason why I am asking:  In 1970, world M3 was estimated at $2 trillion, at a time when world GDP was $3.7 trillion in nominal 1970 dollars. This gives a M3-to-GDP ratio of 54%.  In 2008, world M3 was estimated at $62 trillion and nominal world GDP $59 trillion, a M3-to-GDP ratio of 105%.

Historical data indicate that the 1970 M3-to-GDP ratio was a fairly representative one for the world economic conditions at the time.  If a a 54% ratio kept the world economy ticking over at a pretty healthy clip in the 1960s and 1970s, why should not a M3 of $32 trillion do the job in 2008?  Where have those extra $30 trillion come from?  Are they indeed real money, or just smoke and mirrors?

Since we are talking of values equivalent to half the entire world GDP, this is not pocket change.

The doubling of "money" during the last 40 years also finds a parallel in the United States, where financial industry profits went from 4 percent of GDP in 1970 to 8 percent on the eve of the 2008 financial crash.

So, let us return to the Wikipedia definition:  "The original intent of financialization is to reduce any work-product or service to an exchangeable financial instrument, like currency, and thus to facilitate trade of such products or services among people".

I can by this only conclude that there must be a lot of "money" in circulation these days that do not facilitate trade among people, but is just sloshing around the financial industry, to no common benefit but that of the financiers and their shareholders.  That is, at least until the day when the smoke blows away and the mirrors break, and when the common taxpayer is called to the ramparts to save the day, once again.

If you are scared of what could happen, you are probably not scared enough.

Thursday, September 22, 2011

"READ MY LIPS - NO NEW TAXES!"

So said president George H. W. Bush during his election campaign.  Elected, he did raise taxes and became a one-term president.

There are now even more dogmatic elected anti-tax representatives in Congress, playing Russian roulette with budgetary and debt ceiling issues at a time when the federal government of the United States is facing an in modern times unprecedented deficit, equal to 11% of Gross Domestic Product. This takes us somewhere north of annually missing 1,600 billion dollars to balance the books.  While federal government revenues from taxes and other sources represent about 14% of GDP, expenditures amount to 25%.  According to the dogmatists, mostly to be found within the Republican Tea Party movement, this gap is supposed to be closed without recourse to higher government revenues - in any shape or form.

This is total fantasy.

Even making some fairly heroic assumptions about the course of the economy over the next 10 years, government revenue as a percentage of GDP will, as far as I can surmise, have to be raised by some 10 percentage points on GDP over current levels to see the United States through to a balanced budget by 2020.

In trying to look objectively at this issue, a quick overview of the financial structure of U.S. governance will be helpful, since it is different from that of other countries one often compares it with.

While budget talks in Washington DC revolve around revenues and expenditures of the federal government, state and local governments generate their own expenditures and collect their own revenues (complemented by some 550 billion dollars of annual transfers from the federal government).  With the exception of Vermont, state and local government budgets need to be balanced under a variety of rules, while that of the federal government is under no such restraint.

However, for the federal government to run a deficit it has to obtain the authorization of Congress to borrow money to fund it.  Originally such authorization had to be sought on a case-by-case basis, but in 1917 Congress resolved to rationalize the process by stipulating debt ceilings within which the executive branch is at liberty to issue the required government debt instruments.  The debt ceiling was raised annually during World War II and has been raised 74 times since 1962.

Note that any such borrowing will always be the result of a budget deficit a priori approved by Congress, so for Congress to procrastinate on raising debt ceilings to accommodate the deficit it has already approved seems to makes no procedural sense.

Currently, total federal, state and local revenues represent 30% of GDP, while total expenditures represent 41%.  With state and local government budgets in balance, we end up with the same 11% federal deficit referred to above.  As far as total national government expenditures go, this still leaves the United States fairly far down on the international totem pole.  A representative cross section of other developed economies show an average of around 45% of GDP.

We can probably all agree that an 11% deficit is no way to manage the world's designated superpower.  But when it comes to solving the problem, political courage and common sense tend to be left at the door.  And the elephants in the china shop are called Health Care, Social Security and Unfunded Government Pension Entitlements, granted by law in bygone and happier times when the days of demographic reckoning were decades into the future.  Mind, this is not a uniquely American problem.  Most other developed nations are to varying degrees in a similar quandary about long term entitlement funding.

On the combined federal, state and local expenditures side, I cannot for the life of me see how they will drop below 40% of GNP in foreseeable future.  Between now and 2020 the number of Medicare and Medicaid recipients will increase by some 20 million.  Per capita health care costs have a history of increasing at twice the rate of GNP over the last 40 years, and there are powerful vested interests within the health care industry against any change to this trend.  The industry is the second largest spender on lobbying Congress, neck-to-neck with Finance, Insurance & Real Estate.

By stint of demographic realities, Social Security and government pension obligations, the second biggest budgetary items, will have increased by 50% in 2020 measured in constant 2010 dollars.

Number three on the list, defense spending, can and most probably will see reductions from its current 6.5% of GDP, but within the big picture this will not make all that much difference, particularly since there are other issues such as public infrastructure and education that could do with additional long term funding.

The expenditures referred to above currently consume close to 70% of joint federal, state and local revenues, leaving little room for substantial and politically digestible cuts from other holds.

On the revenue side of things there is the level of economic activity to consider, as well as the level of taxation.  Consumer spending is the main driver of the U.S. economy, and the immediate outlook on this front is not encouraging.

Average household income measured in constant 2010 dollars has fallen by 12% during the last 10 years. During the same time the debt-to-household income ratio has gone from 1.02 in 2000 to 1.92 in 2010, having peaked in 2008 at 2.14.  It may well take until 2020 for the average U.S. household to repair its balance sheet, during which period one can only hope that the trend of steadily falling real household income levels will be reversed.

If we take 2020 as a target for reestablishing economic normality, some 12 million new jobs must have been created between now and then to reach full employment.  This should not be all that hard, but would take some determined and creative action.  During Clinton's two presidential terms 22.7 million jobs were created, and the federal budget generated a substantial surplus. There is talk of a national development bank.  Brazil has operated such an institution for decades with considerable positive effect.  To this I would add incentives for bringing back industrial jobs from abroad.  For more on this, visit THE U.S. ECONOMY - A STRUCTURAL PROBLEM.

So, let us not be fooled.  Government revenues will have to be raised, and not only from the super-wealthy few, while the tax code needs to be restructured and simplified.  For example, while the nominal U.S. corporate income tax rate is a relatively high 35%, actual tax collected by the federal government amounts to only 10% of total corporate income, thanks to exemptions, loopholes and tax deferment opportunities allowed in the tax code.  The New York Times recently referred to a study pointing out that some very profitable major U.S. corporations actually pay less federal income tax than the remuneration they pay their chief executive officer.

On the expenditures side, the restructuring task is gargantuan, particularly in the out-of-control health care sector.  And the scary part is that political leadership and patriotic consensus-seeking among lawmakers to get the job done is nowhere to be seen.

The demographics and a resourceful populace of the United States leave me optimistic for the long term, but prospects for the next ten years or so look grim.  We can only hope that the nation will recover its footing and legendary recuperative abilities soon.

Sunday, August 7, 2011

YES, THEY CAN

Manufacturing profitably in the United States seems to be a problem for American management.  Why is it not so for Brazilians?

I wonder whether, rather than an actual lack of profitable investment opportunities, a major cause for the decline of well-paying manufacturing jobs in this country is due to American hubris, combined with a decline in business management capabilities, substituted by rapacious focus on personal reward through outrageous levels of top management financial rewards.

The following is one of many examples of how foreign management resources can reignite the candles of hope for decent-paying American manufacturing employment, an ability the locals seem to have lost.

CNN Money's Manitowoc plant gets second chance to make cookware tells the story of how Tramontina, a company located in the southern Brazilian state of Rio Grande do Sul, in 2005 was able to acquire vacant cookware production facilities in Manitowoc, Wisconsin after its U.S. owners had abandoned it for cheaper labor costs in Mexico. According to the Cookware Manufacturing Association, 63% of all cookware and bake ware goods sold in the United States are manufactured abroad, a fact which the Brazilians saw as an opportunity rather than a threat.

How did this come about?  Tramontina was looking for a way to get a "Made in America" label on high volume product offerings to retailers like Wal-Mart, Sears, Costco and others.  Pots and pans now manufactured at the Manitowoc plant are shipped to another U.S. production facility operated by Tramontina in Houston, where final product assembly, packaging and shipping to U.S. customers take place.

The Manitowoc plant even came with its own aluminum production facilities, which enables Tramontina to recycle process waste on site without added transportation costs.  As a matter of fact, the plant is even shipping aluminum raw materials to facilities in other countries, including to Tramontina's main plant is Southern Brazil.

Manitowoc mayor Kevin Crawford was quoted as saying that he is delighted to have Tramontina in town.  "Antonio Galafassi - the local Brazilian CEO - is an amazing individual," Crawford said. "He treats all the people right. The employment was very important and the plant opening helped the esprit de corps of the whole city."  Crawford said the Tramontina operation shows that a company can produce this product at a competitive cost at U.S. wage rates.


Why is it that U.S. management no longer seem to be able to do the same?

Monday, July 18, 2011

THE U.S. DEBT CEILING SAGA

That there should be a discussion in the nation's Congress about whether to adjust the debt ceiling so that the United States government may honor financial obligations to its own citizens and foreign creditors - obligations such as previously authorized by the very same Congress - is beyond my comprehension.

While not being an expert in law, on the United States Constitution or otherwise, I nevertheless wonder whether there is a legal basis for the current political carnival.

The United States Constitution, in its Section 8 which deals with Powers of Congress, reads as follows:

The Congress shall have Power To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the common Defense and general Welfare of the United States; but all Duties, Imposts and Excises shall be uniform throughout the United States;


Section 8 empowers Congress further:


To borrow money on the credit of the United States.


The Constitution's Section 9 deals with the Limits of Congress and states in part:

No Bill of Attainder or ex post facto law shall be passed.


When the Constitution grants Congress a power, I find it reasonable to assume that there is also an implied duty associated with this power.  The section about "... to pay the Debts and provide for the common Defense and general Welfare of the United States; .....", taken in context with "no ex post facto law shall be passed." would - at least to me - imply that Congress has no business even thinking about defaulting on obligations that, after all, have previously been authorized and passed into law by that very same venerable institution.

The Constitution's empowerment of Congress to "borrow money on the credit of the United States" to me sounds an awful lot like that the nation's founders did not consider the nation's credit as something to be trifled with.

Take note, all ye conservatives who proclaim a wish to return the nation to the purity of its origins of principle.

Saturday, July 16, 2011

WHAT IS THE MATTER WITH U.S. HEALTH CARE?

All developed economies struggle with keeping their health care systems good, as well as affordable.  The United States struggle more than most.  Much more.

I have been looking at the situation in the United States and comparing it with a representative group of other countries, the citizens of which, to my knowledge, are reasonably satisfied with their health care systems (Canada, Denmark, Finland, France, Germany, Israel, Italy, Japan, New Zealand, Norway, Sweden, Switzerland and the United Kingdom).  This is what emerges:
  • In the United States current annual health care costs per capita have reached $11,700.  The average among the above mentioned nations is $4,300.
  • The United States spend 17.0% of its Gross Domestic Product on health care, the other nations average 9.1%.
  • Average life expectancy from birth is 78.4 years in the United States, against an average of 80.6 years in the sample countries.
  • There are 2.3 physicians per 1,000 inhabitants in the United States, but an average of 3.0 in the above mentioned nations.
  • The United States have 3.3 hospital beds per 1,000 inhabitants, while the other countries have an average of 6.2 beds.
While the sample countries - I believe without exception - have cradle-to-grave universal health care coverage funded through general taxation and with only symbolic co-payment requirements,  the United States have 52.6 million individuals without health insurance, 46.5 million on Medicaid (health insurance for the poor), 43.4 million on Medicare (health insurance for the elderly from age 65) and 10.8 million individuals covered through the U.S. military, all in all costing taxpayers $1,100 billion per year.  Incidentally, the number of individuals either uninsured or on Medicaid has increased by 25.6 million during the last 10 years.  During the same period, measured in 2010 dollars, average U.S. household income has fallen by 12%.  There is probably a connection here?

Additionally, in the United States there are 156.4 million individuals covered by private insurance companies through employer sponsored programs (6.9 million fewer than 10 years ago), and 27.9 million covered through individual private policies, all for an additional total annual cost of $1,500 billion.

During the last 45 years U.S. health care costs have consistently been growing twice as fast as the the nation's Gross Domestic Product.  A 2005 report published by the Congressional Budget Office generally attributes this cost inflation to a relentless growth in the use of ever more sophisticated and expensive medical equipment and procedures.  The tendency of U.S. physicians to order a battery of costly medical tests to guard against frivolous malpractice lawsuits was also highlighted in said report.  Were this trend to continue unchecked, health care expenditures would in the next 45 years have surpassed 50% of GNP and have reached 100% before the end of the current century, an obvious fiscal impossibility.  Something will have to give long before that.

But what?

The truth is that nobody has the slightest clue of how to get health care cost growth under control, with the added problem in the United States that the starting point already is absurdly high in comparison with other advanced economies around the world, which face health care cost escalations of their own.

The U.S. health care system is basically a for-profit environment where hospitals, pharmaceutical companies, doctors and insurance providers strive to maximize revenue and earnings.  Who isn't sick and tired of relentless prime-time television ads for costly prescription drugs that we ought to consider taking for this, that or the other potential illness or physical malfunction?  Like the case of alcohol and tobacco, such advertising should be banned, as it indeed is in most other countries around the world.

 On the other side of the equation, the "health care customer" has no direct notion of the costs of the services he is induced to or feels entitled to seek, whether that is because the person is uninsured and is treated "for free" at taxpayers' expense in hospital emergency wards, is covered by Medicaid or Medicare with substantial built-in taxpayer subsidies which the beneficiary does not see, or by miscellaneous employer-provided insurance plans, the true cost of which is not apparent to the beneficiary.

It does not take a doctorate in economics to spot the perverse incentives for run-away cost development in the U.S. health care environment.  It may, however, take a magician to do something about it, particularly as long as one declines the option to deal with health care in the same manner as the rest of the world does, while also refusing to provide for the necessary funding through adequate taxation.

The whole concept of a separate health insurance scheme for those over 65 - while wonderful for those enjoying its subsidized benefits - is ludicrous from a conceptual insurance point of view.  Insurance works best when premiums and risks are spread as widely as possible, which in practice means shared equitably across the entire working population.  And for that to make sense, sharing the costs in this manner would mean that the corresponding benefits would also have to be universal.  This is exactly how all those "socialist" foreign countries have dealt with the problem, and the statistical highlights referred to above show that the loser here is the United States, not the "socialists".

No society can afford to spend nearly 20% of its Gross Domestic Product on health care.  Universal cradle-to-grave coverage through general taxation would go some way towards solving the problem, in as much as it is cheaper to administer, is not for-profit based, and gives increased possibilities for cost control.  But this being - at least for now - political anathema in the United States, health care rationing in one form or other is the only option.  This possibility was met by cries of "Death Panels!" and "Pulling the Plug on Granny!" during the health care legislation debates of 2010.  Some of the very same politicians now want to eliminate Medicare all together.

You may not have noticed, but the American health care rationing option of choice is to make coverage too expensive for 52.6 million of its citizens.  The per capita cost of treating those through hospital emergency wards is only 30% of the average cost of the Medicare patient.  That is certainly a market-driven way of solving the problem, but is it the right one?

Medicare is, logically enough, per beneficiary the most expensive portion of the U.S. health care system.  Old people generally require more, and more expensive, care.  5% of Medicare fee-for-services beneficiaries account for close to 50% of total Medicare spending.  Another estimate indicates that end-of-life treatment costs represent 10% of total U.S. health care expenditures, which in turn would be equal to 55% of current total Medicare costs.  Both statistics tell the same story: it is extremely expensive to prolong lives of the terminally ill.

Chronic conditions are closely linked to high expenditure levels:  more than 75% of high-cost beneficiaries have one or more of seven major chronic conditions for which there is no glimmer of hope for a permanent cure on the horizon.

David Brooks' New York Times column Death and Budgets is a good read on this issue. Says David Brooks in part:  "This (current) fiscal crisis is about many things, but one of them is our inability to face death - our willingness to spend our nation into bankruptcy to extend life for a few more sickly months."  Dear I add that this is also an extremely lucrative practice to the health care industry?

In order to significantly roll back out-of-control health care costs I cannot see any other realistic solution than to have less of it, at least in the manner practiced today.  But it will be a cold day in hell when we see a politician willing to step forward and grab this nettle.






Thursday, May 26, 2011

THE U.S. ECONOMY - A STRUCTURAL PROBLEM

The economic fundamentals of the United States have come unstuck, and the problem begins at the water's edge.

A country's Current Account is the balance of payments which records its exports and imports of goods and services, as well as transfer payments related to its foreign assets and liabilities.  A persisting Current Account deficit implies that a country borrows funds abroad to sustain its level of economic activity at home.

This has been the case of the United States since the early 1980s, having by now reached a structural annual Balance of Trade deficit - adjusted for temporary effects of the recent financial crisis - of around $1,000 billion, or 7% of Gross National Product, and a structural  annual Current Account deficit of around $800 billion.

In the 12 months to March 2011, total U.S. Public Debt increased by $601 billion to $9,652 billion, of which $4,479 were held on foreign hands.  The two principal creditor nations were China with 26% of the total held abroad, and Japan with 20%. (So, it is not quite true what we so often hear, that the United States is borrowing all its money from China).

A quick aside on the subject of U.S. government debt might be in place, now that the impending increase of the Federal Debt Ceiling has become a political football in Congress.

At the end of March 2011, total government debt stood at $14,270 billion, of which the $9,652 billion referred to above is debt actually owed to the public, national and foreign.  The remaining $4,618 billion is intra-governmental holdings, primarily represented by borrowings from the Social Security Trust Fund which since its inception has been taking in more money in taxes than it has paid out in benefits (a situation which is soon to expire).

The fundamental problem behind the $1,000 billion U.S. structural trade deficit is that non-agricultural imports  are twice as large as non-agricultural exports.  The classical free-trade answer to that problem would be that the United States needs to double its exports by an additional $1,000 billion.

May I be so free to ask - export exactly what, and to whom?

Dare I instead be so politically incorrect as to suggest that the solution lies in the opposite direction, namely to bring $1,000 billion worth of manufacturing and some 3.5 million jobs back to the United States from overseas?  After all, the country also has a serious structural unemployment problem, and not everybody can make a good living from being bankers or lawyers.

Orthodoxy tells us that developed economies are service economies, leaving manufacturing to the low-wage developing world, and that world trade should flow freely and unfettered.  The only problem is that the very word TRADE implies exchange of goods and services of equal value between two consenting parties.  When such parity no longer exists, one of the parties will eventually go broke, and the other is not going to get paid.

What is more, the orthodoxy about the service economy is fundamentally flawed.  Why should not a modern society seek to maintain a vibrant manufacturing sector, particularly the United States which has the privilege of being by far the largest consumer market "under one roof" in the world?  Manufacturing, historically the fundamental backbone of the U.S. economy, is now reduced to 22% of Gross National Product, while in tiny Israel it is 33%, in dynamic Finland 29% and in Europe's power house, Germany, 28%.  While we hear much about German engineering, we do not hear much about U.S. engineering anymore.

Bringing $1,000 billion worth of manufacturing back to the United States would put the sector close to 30% of GNP and the country back on a solid footing.  Government should put in place policies to make it happen.

Saturday, May 14, 2011

AFGHANISTAN

An article in the internet version of NYT/International Herald Tribune of May 11, 2011 quotes Senator Richard G. Lugar (R - Indiana):

"The broad scope of our activities suggest that we are trying to remake the economic, political and security culture Afghanistan - but that ambitious goal is beyond our power.  A reassessment of our Afghanistan policy on the basis of whether our overall geostrategic interests are being served by spending roughly $10 billion a month in that country was needed before our troops took out Bin Laden"


You bet, Senator Lugar, right on!

There was also a panel discussion on the MSNBC "Morning Joe" show that same day about the efficacy of "bad-cop" U.S. special troops assassinating Taliban leaders in night raids, while regular daytime army units are trying to play "good-cops" and establish mutual confidence.  The panelists expressed some doubt about the long term efficacy of these efforts.

There needs be no doubt.  Any and all U.S. efforts in Afghanistan are doomed to failure, as has been the case of all foreign involvement in the area throughout history.

The first world power to come away from Afghanistan with a bloody nose was Alexander the Great during his Hindu Kush campaign during 327-26 BC.  He ran into so much trouble that his normally invincible army revolted and demanded to return back home.

Next came the "Great Game" era, with the British and Russian empires hustling for control and influence in the region, the British being anxious to protect the flanks of its imperial "crown jewel", India.  The First Anglo - Afghan War came in 1838, and a puppet regime was installed under Shuja Shah.  (Comparison to America's current "local partner" Hamid Karzai, anyone?).  By 1842 mobs were attacking British nationals in the streets of Kabul forcing full retreat of 14,000 troops, among which all but one of 690 Europeans were killed.   The Second British - Afghan War with 40,000 troops came in 1878 fared no better.

Then came the turn of the Soviets.  After having spent billions of dollars on Afghanistan between 1955 and 1978 to no effect, they finally invaded and slugged it out for ten years until giving up and withdrawing across the "Friendship Bridge" in 1989.  A total of 620,000 Soviet troops were engaged during the period, much of Afghanistan's infrastructure was destroyed, and one-third of the population fled to Pakistan and Iran.

Ironically, it was U.S. money and covert supplies of weapons during this period that gave rise to the Taliban movement.  The movie "Charlie Wilson's War" tells the story.

The Taliban are predominantly ethnic Pashtuns, and the Pashtuns constitute by far the largest segment (42%) of the Afghan population.  There is a saying among them that "First we are Pathan, then we are (Sunni) Muslims, and finally we are either Pakistani or Afghan".   Afghanistan has 8 million Pashtuns and Pakistan has 10 million, and the Pashtuns have never accepted the frontier drawn up in bygone times over a glass of port in an imperial officers' club in London.

The Pashtu Walie (Way of the Pathans) is the iron-bound Pakthun code of honor which has to be obeyed by all Pashtuns at all times, tenets of which sanction murder when honor is insulted.  Men carry weapons at all times.
(1) Badal (Revenge) obligates members of a tribe to exact a revenge for a wrongdoing on other members of a tribe.
(2) Zar, Zan, Zamin (Gold, Women, Land) incite blood feuds which can last for generations.  Families live in high-walled compounds complete with turrets and gun towers.
(3) Death to Old Enmity - Report in every edition of the Khyber Mail.
(4) Milmasthia - Bonds a tribe's members to serve a guest, and that includes giving sanctuary to anyone asking for it, even an enemy.

By paying heed to the above, it does not seem to me particularly difficult to draw some conclusion about the direction of U.S. policy towards Afghanistan, namely:
(a) Do not give money.  It will be stolen or at least not used as intended.
(b) Do not think there is a Pashtun Afghanistan and a Pashtun Pakistan.  There is only a "Pashtunistan".
(c) Do not believe that assassinating Taliban leaders will solve anything.  To the contrary - it will only provoke a whole clan in eternal  search of revenge.  For generations on end, if necessary.  Time is not of essence there.
(d) Do not waste time getting righteously upset at the Pakistani for giving succor to Bin Laden et al.  Think Pashtu Walie.
(e) Stop wasting American lives and treasure on the place.

Leave it to the locals.

Wednesday, May 11, 2011

THE ELECTRIC CAR & THE GASOLINE MARKET

I have been reading up on the NISSAN LEAF, the first mass produced family-type, fully electric car to come on the market.  I did not realize how incredibly energy efficient electric engine technology is, or maybe rather how inherently inefficient the traditional internal combustion engines is.

The Leaf's energy consumption is 0.34 kWh per mile (0.21 kWh per km) and is capable of a top speed of 100 mph.  A typical conventional gasoline-powered car on the American market, getting 25 miles to the gallon (9.4 liters per 100 km), will consume the equivalent of 1.41 kWh per mile, or 0.88 kWh per km, more than four times as much energy per distance driven as the all-electric Nissan Leaf.  Even if the electricity consumed would be generated from coal, the Leaf  is certainly a great deal more environmentally friendly than its gasoline equivalent, as well as cheaper to operate.

However, the battery packs needed to power those electric cars are heavy and still expensive.  The Leaf batteries are reported to cost Nissan $13,000.  The manufacturer guarantees them for 100,000 miles and claims a working life of five to ten years, depending on driving and recharging conditions.  Frequent use of quick-charge options reduces battery life.  Average driving range between charges is said to be 75 miles (120 km), again depending on driving conditions.  Battery technology has improved by leaps and bounds and prices have come down, a trend that is likely to continue.

Here is the other side of the equation.  There are currently about 250 million cars and light trucks in circulation in the United States, being driven an average of 35 miles per vehicle/day while on the average consuming 1.56 gallons of gasoline.  That comes to 143 billion gallons of gasoline per year, or 540 billion liters.  To put this in perspective, with 5% of world population the United States consumes 43% of the world's gasoline!

This disproportionate consumption of gasoline has its origin in the fact that the United States is a country where practically nothing is within walking distance, nor within easy reach of (mostly inexistent) public transportation.  Its sprawling demographics is a direct consequence of relatively inexpensive automobiles, traditionally powered by cheap gasoline, as well as the fact that Americans like things big and comfortable, not least their cars.

Crude oil is not a uniform commodity, but varies greatly in quality from one source to the other.  The proportion of light hydrocarbons - from which gasoline is produced - can be as high as 97% in weight from some fields, and as low as 50% in heavier oils and bitumens.  While the rest of the world in the aggregate refines just short of 20% of its total crude oil consumption into gasoline, in the United States that proportion is 45%.

Anybody who has seen an oil refinery knows that it is a capital intensive, complex and dirty process, and refineries are designed and built to optimize the specific needs for hydrocarbons of its particular market environment.  Once built, there is little leeway to jiggle its hydrocarbon output mix.  Thus, U.S. refinery capacity has traditionally been built to handle light crudes, which are cheaper to refine but more expensive and progressively more scarce on the world market.  The United States represent about 25% of total world consumption of crude oil, but light crudes represent less than half - and falling - of all currently known crude reserves.  This is an added factor of vulnerability to the United States in an intensifying world struggle for crude oil supplies.

Eventually, Americans will have to get used to driving smaller cars using less gasoline.  This is probably one reason why oil majors are in a hurry to get out of the refining business and selling at distress valuations.  Now costing $4.00 per gallon at the pump - still a bargain in European eyes - the average U.S. household is spending close to $15.00 per day on gasoline, a social and political hot potato. Driving much less is hardly an option, unless American demographics could be totally rearranged overnight.

Electric and hybrid-electric cars will play a role in this process, but not a very significant one for a long, long time.  The American household owns on average 2.2 cars which remain operative for over 15 years.  The oldest and least fuel efficient cars tend to be owned and driven by the poorest segment of the population, least able to cope with high fuel prices.

The public and politicians are already clamoring for President Obama to "do something" about gasoline prices, and that something is definitely not a price increase in the form of European style carbon taxes.  Watch the sequel.

Wednesday, May 4, 2011

US ALCOHOL AND DRUG POLICIES

It is interesting to compare the economic and social effects of U.S. drug policies with those for alcoholic beverages.

ALCOHOL
Through the Eighteenth Amendment to the Constitution, the United States resolved in 1920 to ban the sale of alcohol.  It had some effect on consumption during the first couple of years of the Prohibition era, but by 1925 there were upwards of 100,000 speakeasy clubs serving liquor in New York City, alone.  And the Prohibition unleashed a vicious period of violent organized crime.  President Roosevelt saw the futility of it all and guided repeal of the Eighteenth Amendment through Congress in 1933.

Today, the U.S. Beer, Wine and Liquor industry posts annual revenue of around $45 billion, employs close to 170,000 people and pays in excess of $3 billion in wages.  Not including income taxes, government earns about $ 6 billion in annual tax revenues from the legal sale of alcoholic beverages.

Not that alcohol is not cause for social problems.  The United States is estimated to have in excess of 17 million alcoholics or persons with alcohol problems.

DRUGS
Due to its illegal status, reliable statistics about the underground drug industry are naturally hard to come by.  World wide its estimated value is $400 billion, with the United States as its single biggest market with a retail value probably around $ 70 billion.  About 60% of this goes on cocaine, 20% on heroin, 15% on marijuana and 5% on other narcotics.

There are around 17 million consumers of illegal drugs in the United States, coincidentally about the same amount of people estimated to have problems with alcohol.  Among those drug users there are around 4 million hard core addicts responsible for about 70% of all drug purchases.

During the years between 1920 and 1970, the U.S. incarceration ratios were stable at just under 0.2% of total population.  After President Nixon launched the "War on Drugs" in 1971, the incarceration ratio began rising steeply and steadily.  It had reached 0.8% of total population by 2008.  That would leave us with a current prison population of around 2.6 million, of which about 2 million would be in for drug related offenses if we take the old 0.2% core ratio as the base for other crimes.  The United States has by a wide margin the highest incarceration ratio in the world, nearly eight times higher than the average ratios of Europe and Canada.

During 2010 the Federal Government spent over $15 billion in consequence of the "War on Drugs", while state and local governments spent at least another $25 billion.

Does this make sense?