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How Keynes would save the euro
Howard Richman, 6/19/2012

World leaders are lending euros to the PIGS (Portugal, Italy, Greece and Spain); that won't work. They are trying to recapitalize the PIGS' banks; that won't work. The loans will simply flow out of the PIGS to buy imports.

The real problem is trade balances. In statistical terms, trade balances (i.e., current account balances) explain more than 40% of the variation in unemployment rate within euro-zone countries that have GDPs of at least $100 billion (and more than 20% of the variation worldwide). As shown in the graph below, all of the failing countries of the euro-zone have high unemployment rates and large trade deficits (as a percentage of GDP):

UnemploymentAndTrade0512.gif

Keynes summarized the relationship between trade balances and unemployment in the chapter about mercantilism in The General Theory of Employment Interest and Money (1937):

(A) favorable balance, provided it is not too large, will prove extremely stimulating; whilst an unfavorable balance may soon produce a state of persistent depression. (p. 338)

Less than 2 years before his death, negotiating for the United Kingdom at the Bretton Woods Conference, Keynes tried to create an international organization that would keep trade balanced. The resulting organization, the International Monetary Fund, has largely been a failure.

It doesn't even bother to enforce its own Articles of Agreement. For example, China and many other emerging market countries freely violate Article IV which prohibits "manipulating exchange rates or the international monetary system in order to prevent effective balance of payments adjustment or to gain an unfair competitive advantage over other members."

The organization that Keynes tried to create would have had different rules for trade deficit and trade surplus countries. Trade deficit countries would be allowed to charge tariffs, while trade surplus countries would be required to stimulate their demand for imports. Such rules are vitally needed in the euro-zone today.

If Keynes were in charge, Germany and the other trade surplus countries of the euro-zone would be required to stop charging their value-added tax on the products of the trade deficit countries of the euro-zone. Meanwhile, the trade deficit countries would be permitted to charge trade-balancing tariffs on the products of the trade surplus countries. These steps would lead to business investment in the trade deficit countries and save the euro.

The same principle applies to the rest of the world as well. Since 1996, the U.S. manufacturing sector has been gutted by mercantilist governments which intentionally produce trade surpluses for themselves and trade deficits for the U.S., resulting in the current high-unemployment economic stagnation of the United States.

There is no need for a new international organization to provide for balanced trade. Under WTO rules, trade deficit countries, including the United States, can unilaterally impose the scaled tariff to balance their trade with those countries with which they are running trade deficits. Such a tariff would go up as the trade deficit with a country goes up, down when the trade deficit goes down, and disappear when trade approaches balance. If the U.S. were to impose the scaled tariff, other trade deficit countries would soon follow suit. The result: balanced world trade.

Unfortunately, it is unlikely that European leaders will do anything effective to save the euro-zone and it is unlikely that American political leaders will do anything to save the U.S. economy. As a result, the entire current system of world economic and political cooperation will eventually crash, ushering in a new wave of world anarchy and totalitarianism.

All because world leaders and economists failed to learn the last lesson that John Maynard Keynes was trying to teach them: Balanced trade can grow forever, but imbalanced trade eventually bankrupts the trade deficit countries causing the entire trading system to collapse.

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    Wikipedia:

  • [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]