Sunday, September 28, 2008


When physicians harm their patients, they face lawsuits, higher insurance premiums, and possibly loss of licenses as a result of their malpractice. When Wall Street wizards build a Ponzi scheme of worthless assets, some of them at least stand to lose their bonuses, their jobs and even their companies. It’s gratifying to hear reports that the FBI is investigating possible criminal wrong-doing at four of the failed companies. That might mean some degree of restitution and even jail time might result from their financial malpractice. There’d be a modest measure of justice in all that.

But when it comes to economics, bad advice seems to go unpunished. Throughout the Wall Street meltdown, an opinion piece published September 10 in the Washington Times has been gnawing at me. The article in question, “Another Nonproblem,” was penned by Richard Rahn, Ph.D., a regular contributor to that paper’s op ed page. Rahn is a senior fellow at The Cato Institute, former chief economist at the US Chamber of Commerce, and a university professor.

His sterling credentials didn’t speak to me as loudly as his argument, which in essence is:

• The United States can run a trade deficit, importing more than it exports, “forever.”
• Citing a study by the Federal Reserve, he bases this startling contention on one statistic: “U.S. investment in other countries receives, on average, a higher rate of return (because more of it is in equities) than foreign investment does in the United States (because more of it is in bonds).”
• Thus, he concludes: “As long as the United States is politically and economically more stable than many other countries, the trade deficit can persist without doing any damage to the U.S. economy – for many decades or even centuries. [emphasis mine] So drop this from your list of worries.”

Now, Dr. Rahn wrote his opinion without once mentioning “China,” “renminbi,” or even “debt.” Instead, he makes a lot of the aggregate “net asset position” of US citizens. In his view, our net asset deficit – debt in straight talk -- is “only” $2.5 trillion or 17 percent of GDP. Rahn suggests that this level will remain constant because the US will grow so strongly that the economy will double by 2023.

Wait a minute! Our current account deficits, which include the net return on foreign investments, have been piling up for decades. Foreigners are holding huge stocks of dollars beyond what they owe us. Every one of those dollars is a claim on goods or services that we can produce or assets that we own. Our capacity to produce is now so limited that we rely on imports to fill our own needs. The value of what we own – especially real estate and shares of stocks – has fallen dramatically. Moreover, we have a chronic savings deficit; exactly where are the future foreign investments that Rahn assumes will be made supposed to come from?

Trade deficits have sapped strength out of the US economy, hollowing it out for a lack of investment in productive assets and supplying vast amounts of foreign funding for the Wall Street Ponzi scheme that has just come crashing down on us and the rest of the world. Trillions of loose dollars are held by foreigners now anxious to do something with them before they lose more of their value. America is ripe for a fire sale. It’s a question of “confidence” in America, says Dr. Rahn. Does that mean confidence in Fannie Mae, Freddie Mac, Bear Stearns, AIG, Lehman Brothers? Just whom are foreigners with ready cash supposed to trust now?

Should we place our confidence in economists trading in snake oil? Not me. They are prescribing more of what’s been ailing us – for centuries to come. So, caveat lector. The stuff in this bottle surely won’t cure you, but it might kill you – not in a matter of centuries, either, but any day, week or month now.

Charles Blum

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