Butterfly effect, depression inevitable, economists know nothing of history

Doomed to repeat history, as economists ignore the obvious.

I went for a drink yesterday evening and discussed broad matters, on why the world was well and truly fucked.

Poor Tim, he must have had a severe headache thereafter. Once home I had a cup of tea and mulled over Tim’s comment and then the light came on, must have been PLN.

Joking, PLN take longer than that, Tim was caught in what I term a ‘useless loop thought’ in other words he was thinking about domestic issues, not global issues.

People and numb nut economists (so Tim and a lot of qualified people are in the same boat) do not see the link between global international imbalances and a countries domestic policies, that are never connected with the international consequences.

Butterfly effect, Keynes saw it, so did Adam Smith and a few others, but for some reason economists only take numbers from history, they do not read history or understand the nature of capital flows.

Anyway try to explain it in simple terms, why nothing will change what is coming economically. Paraphrasing a lot from Pettis.

Global savings and global investment must balance, if any country’s savings exceeds its investment by some amount, investment in the rest of the world must exceed savings by exactly the same amount.

The same relationship between conditions in one country, with conditions abroad in other countries can be summarized in two sentences.

First, the domestic imbalance in any economy….. i.e. high levels of unemployment or demand, large gaps between savings and investment, and so on, must be consistent with and equal to that country’s external imbalance at all times.

Second, that country’s external imbalance must be consistent with and equal to the external imbalance of the rest of the world at all times.

These two ways of seeing countries within their global contexts are basically identical.

Any country’s capital account of course is simply the gap between its domestic savings and its domestic investment, and because the capital account must balance the current account (the two always add to zero), to say that the gap between savings and investment in any country must be equal to an opposite gap between savings and investment abroad is simply to restate the far more intuitively familiar claim that every current account surplus in the world must be matched by a current account deficit.

Until we begin trading with extra-terrestrials the total must add up to zero.

This should all be obvious, but if an imbalance in one country must be matched by an opposite and equal imbalance abroad, there are only two possible explanations.

Either the imbalances in every country are set endogenously, and, by some miracle, at every point in time, they balance out perfectly, or an imbalance in one country can force imbalances onto other countries.

The first explanation is obviously absurd, so the gap between the amount a country saves and the amount it invests is as likely to be determined by external conditions, as by internal.

This is why it is possible to argue that a country’s savings rate (or its unemployment rate, or its investment rate, etc.) is determined by policies abroad, as much as by policies at home.

This is what it means to live in a “globalized” world.

History is much more usefully seen as the evolution of often complex institutions – financial, political, legal, cultural, and so on – through which economic behavior is mediated and which affect the ways in which recurring patterns of finance, commerce and trade unfold, and that without an understanding of history, economists lose so much complexity in our models, that we often end up making very obvious mistakes.

“You have to think historically to think usefully. Traditional economic models don’t incorporate historical analysis, despite its usefulness in explaining factors behind crises or finding holes.” Professor Charles Calomiris, Columbia University.

Now why America is not in crisis due to their debts and money printing, whilst there are imbalances there is no crisis in America (at present) as the printed monies are in the main, not for use domestically, but globally, about USD 22 trillion, not a small sum.

What one must bear in mind though is that the USD is the reserve currency, with the dollar comes surety …security and insurance. Some economists refer to this as “dark matter” as the security and insurance, you will always receive value.

Therein lies the problem, try and repay USD 22 trillion and the USD demand increases the USD value against all other countries. That is the problem for America, this strengthening of the dollar will put exports at jeopardy and domestically there will be problems.

The Great Rebalancing: Trade, Conflict, and the Perilous Road Ahead for the World Economy by Michael Pettis (Princeton University Press, 2013)

The Leaderless Economy, by Peter Temin and David Vines (published in 2013)



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