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March 16, 2006
"don't worry, be happy" - and trust in "dark matter"
It had to happen. The editorial board at the Wall Street Journal has discovered "dark matter" -- and the trade deficit is all an illusion (see Trade Deficit Disorder):
Foreigners are willing to accept a lower rate of return on their U.S. investments, such as Treasury bills, because they are partly buying dollar currency stability, liquidity, and a safe haven against political and economic risk. Foreigners, for example, hold hundreds of billions of dollars of U.S. currency, which is the equivalent of a zero interest loan to Americans.
By contrast, American assets abroad earn higher than normal rates of return because of noncounted factors such as insurance, know-how, and the value of universally recognized brand names like McDonald's and Disney. When taking these into account, the authors conclude that America is a net creditor, not a net debtor, nation. Even more surprising, correctly measured, China is a net debtor to the U.S.
Thus, according to the editorial writers, the "dark matter" thesis shows that if you adjust for the interest rate differential between US assets and foreign assets, there is no trade deficit.
That is a lot like adjusting for the water level, there was no flood in New Orleans.
It has been great that foreigners are willing to accept a lower rate of return. But, a zero-interest loan is still a debt. And the fact that we earn more on our foreign assets maybe because of the power of our intangible assets -- or maybe because those investments are riskier. Neither of these factors erases the debt. It does explain why we can have a positive income flow while the debt is growing (as I discussed earlier). Nor is it clear how long that advantage will last.
The editorial goes on to repeat the old canard about how wonderful this deal is for America -- foreigners lend us money so we can spend it on buying their goods and services. Unlike the Journal editorial writers, at least the Chairman of the Federal Reserve understands (from Chairman Bernanke's written responses to the Senate Banking Committee):
as our external debt rises, the cost of servicing that debt increasingly will subtract from U.S. income. Accordingly, it would be helpful to raise our domestic savings and reduce our trade deficit while maintaining an environment conducive to investment and growth.
Intangibles are an important and powerful part of the US economy - and of reducing our trade deficit, promoting savings and all the other important economic goals. Unfortunately, they have become the latest peg for the "don't worry, be happy" crowd to hang its hat on. We need a serious look at how intangibles affect our trade flows. The old "assume a can-opener" trick proposed by the WSJ editorial writers just doesn't hack it.
(PS: if anyone is interested, I would be happy to explain the "assume a can-opener" joke in the comment section.)
Posted by Ken Jarboe at March 16, 2006 10:45 AM
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