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"What Would Keynes Do?" The Diagnosis is Right. The Solution?
Jesse Richman, 10/2/2011

Of course, others (even in the pages of this magazine) have pointed out that the US external trade debt is a bad thing, though it gets very little mention in our political debate. But it has a whopping big role in the current global crisis. The world filled up with foreigners holding dollars. They put the money back into the US economy in the form of loans—Treasury bonds, to be sure, but also corporate bonds, financial instruments, prime loans, subprime loans, payday loans and all manner of corporate debt. And the bloating of the financial sector—unregulated—led to the collapse.


Part of the reason the United States isn’t doing better is that, thanks to the trade deficit, Keynesianism has lost its punch. On the evidence of The General Theory Keynes would argue that a stimulus has to be bigger, or work harder, as long as we have this external debt. Consider a twist on Keynes’s famous Aesop-like fable about the Bank of England. Let’s drop the Bank of England and make it all about the Federal Reserve. As Keynes would put it, rather than do nothing in a slump, it would be better for the Fed to bury bank notes in bottles and pay Americans to dig them up. Not only do we goose employment but there is a multiplier effect.

But Keynes did not say we should put bank notes in bottles and bury them in China and have Chinese workers dig them up. Why not? Well, it doesn’t do us any good. It does not employ any US workers. And of course, there would be no “multiplier.” The beauty of the stimulus is the “multiplier” effect. OK, I will oversimplify: if we hire Americans to dig up the bottles with bank notes, they have cash to spend. In 1936 they might go to spend it at the corner bar. The bar hires more wait staff. They go out and buy more groceries. Someone buys an extra truck and truck driver to bring the fructose syrup in from Iowa for our Froot Loops, and… should I stop?

It just goes on and on… jobs, jobs, jobs, multiplying to the Pythagorean heights.

But it’s not 1936. It’s 2011. Now after digging up the bottles, Americans will go to Target and Walmart and spend on bags of kitty litter made by child labor in China. And what’s going to happen to the multiplier when the Obama bucks we spend end up over there? In Chapter 10 of The General TheoryKeynes writes, “In an open system with foreign trade relations some part of the multiplier…will accrue to the benefit of employment in foreign countries.” Or, as he said, there will be a bit of “leakage.” But that’s OK if they buy back from us. If there is a balance of trade, it’s OK. But they aren’t buying back from us. They are buying more from Japan and Germany, so our stimulus goes out of China and over to those countries.

The solution proposed? In a nutshel it is that we should start investing more in America.  As we have shown elsewhere, net manufacturing investment in the US is near zero.  U.S. workers are not getting the new tools, the new factories, and the new opportunities that would allow them to compete effectively. The actual policies Geoghegan has proposed are pretty thin though.

Everything in the United States is set up to encourage the rich to put money into financial instruments rather than long-term investments. What would Keynes do? Get the rich to think outside the Wall Street banking box. Get them to put money into the part of Main Street that used to trade abroad. How do we do that? For starters, put in usury laws—limits on interest rates. In a general way, cut down the appeal of being a creditor and not an investor.

Specific proposals mentioned include national health insurance, putting labor on corporate boards, taxing financial transactions, and increasing regulation of the financial sector to cut down on speculation.

There is a lot to like about this article, particularly the first two online pages with their bracing review of Keynes thought on trade deficits and their importance.  Hopefully "Keynesians" will begin to realize the flaws in trying to pump up the economy through deficit spending without stopping the trade deficit from leaking most of the stimulus abroad while deflating the multiplier.  We have discussed similar themes on these pages and in our book.  But the solutions are pretty thin.  Import certificates or better yet the scaled tariff directly change the incentives and begin to make investment in productive capability in the U.S. make sense.  Reimposing the withholding tax would help discourage excessive financial investment in the United States.   

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Comment by Caleb Burns, 12/12/2011:

Excellent, excellent posting! I was debating the unemployment issue with others yesterday, and thought that the huge trade deficits we're running up are a huge problem for us. This morning I thought the problems would render the stimulus spending approach less effective, and I see you have already hugely fleshed out (better than I could ever hope to do) this idea. Well done!



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  • [An] extensive argument for balanced trade, and a program to achieve balanced trade is presented in Trading Away Our Future, by Raymond Richman, Howard Richman and Jesse Richman. “A minimum standard for ensuring that trade does benefit all is that trade should be relatively in balance.” [Balanced Trade entry]

    Journal of Economic Literature:

  • [Trading Away Our Future] Examines the costs and benefits of U.S. trade and tax policies. Discusses why trade deficits matter; root of the trade deficit; the “ostrich” and “eagles” attitudes; how to balance trade; taxation of capital gains; the real estate tax; the corporate income tax; solving the low savings problem; how to protect one’s assets; and a program for a strong America....

    Atlantic Economic Journal:

  • In Trading Away Our Future   Richman ... advocates the immediate adoption of a set of public policy proposal designed to reduce the trade deficit and increase domestic savings.... the set of public policy proposals is a wake-up call... [February 17, 2009 review by T.H. Cate]