Dear Treasury Secretary Geithner:
I noticed you recently told the Japanese press that you intended to maintain a strong dollar, and that the Obama administration would bring the U.S. fiscal deficit back to a “sustainable balance.”
Tell me, don't you feel your nose extending like Pinocchio's when you tell these fibs to innocent Asians?
The dollar is not strong. In fact, it's sinking to record levels of weakness, and it's going to stay that way, for three reasons:
- First, the U.S. Federal Reserve is running a zero-interest-rate policy and has announced that it intends to continue doing so. While it does, there's easy money to be made out of borrowing dollars and lending almost anything else – especially Russian rubles at the moment (maybe we lost the Cold War, after all!). That will actually make the dollar drop.
- Second, the Internet and all the cheap money sloshing around has made it attractive for U.S manufacturers to outsource production to emerging markets, more so than ever before. That leads to big U.S. balance-of-payments deficits. It also means emerging-market wage levels are rising fast against U.S. wage levels. Sadly, this is happening so fast that U.S. wage levels will probably have to drop – which is probably why unemployment has risen so much this time around. A weak dollar – perhaps with a little inflation – is the best way to make this adjustment without throwing everybody out of work as in the 1930s.
- Finally, the U.S. government is running huge deficits and pretty much everyone else in the United States has debt coming out the wazoo. A weak dollar – ideally mixed with a teensy, weensy bit of inflation – will make all those debts get smaller â€¦ like magic!
There are some very good reasons why the U.S. dollar is weak, and given the constraints on your policy, you'd probably like it weaker. It's just that you can't say so, because then foreign investors might stop buying U.S. Treasury Bonds.
Which brings me to the other point. We all know – don't we? – that the budget deficit for the 12-month-period that ends next September will be even larger than the $1.4 trillion shortfall recorded for the 12 months that ended in September of this year.
Even though you've stopped bailing out banks – well, except for the odd $100 billion for Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE) – there are just too many other demands on the public purse. There's the rest of February's stimulus, most of which actually doesn't get spent until the 2010 fiscal year. There are little details, like the extension of the $8,000 tax credit for first-time buyers – one that's now extended by a $6,500 tax credit for non-first-time buyers.
And still to come is the medical reform bill (which we know isn't “deficit neutral” at all), the cost of which will kick in around 2013, just as the other budget pressures are abating. (Or not, since Congress will probably have found something else to spend money on by then).
It's a mess, isn't it? I mean, we're actually talking about trillion-dollar deficits as far as the eye can see, aren't we? Of course, Japan can't really grumble about that, because it has public debt of almost 200% of its gross domestic product (GDP). On the other hand, Japan runs a balance-of-payments surplus and has lots of savings, so it actually owes that money to itself.
I'm not saying that it won't be a challenge to restore American prosperity. Indeed, as the old saying goes: “If I wanted to get there, I wouldn't start here.” At the same time, as a veteran banker who's worked with troubled economies before, I do have a few tips to pass along:
- First and foremost, enough with the stimulus. You're going to run into trouble soon in the bond markets, and that will prevent small business from getting the capital it needs. Cut at least $100 billion of the flaky projects out of the stimulus bill.
- If you want to encourage clean energy, put in a small-but-simple carbon tax and take away an equal amount of handouts to ethanol producers and clean-tech companies: You'll get double the deficit cut – without having to boost your clean-energy incentive.
- Know who's making money right now? Goldman Sachs Group Inc. (NYSE: GS) – that's who. Unfortunately, those profits aren't being delivered via sound capitalist practices. They instead stem from such contrivances as credit-default swaps and high-speed trading. And those are short-term rent-seeking activities – not long-term wealth-generating initiatives. Place a small Tobin tax on each trading transaction – the country needs the revenue much more than do the partners of Goldman Sachs.
- Get Fed Chairman Ben Bernanke to stop printing money. His zero-interest-rate policy is sending gold through the roof, and will cause huge trouble down the road. Interest rates need to be higher than inflation, so savers get rewarded for saving – which isn't the case right now.
You may think those changes are “politically impossible.” We disagree. In fact, we believe there's no time to lose. And we'd very much like to hear your reaction to our proposals. If you write to us here at Money Morning, we'll gladly share your thoughts with our readers.
We'll look forward to that time.
105 West Monument Street
Baltimore, Maryland 21201