Economics and the World Order - Part 2
Feb
16
Written by:
2/16/2012 1:06 PM
By: C. Roderick Martin European and American politicians continue to put off making the difficult choices required to avoid a financial meltdown, the likes of which the world has not seen. To date, the actions taken amount to little more than, “kicking the proverbial can down the road.” I liken these politicians to a man jumping off a 100-story building, falling 98 floors, and yelling, “Nothing has happened to me yet!” In the years to come, many will look back on this period with great regret and say, “We should have known.”
When the dogwood first buds, we know spring is near. A red sky in morning means bad weather is coming. When the morning dew turns to frost, is winter not imminent? Did not Christ say, “When the fig tree’s branch is yet tender, and putteth forth leaves, ye know summer is nigh.” These prescient signs we quickly discern, but dark clouds gathering over Europe, just over the horizon, go undetected by most Americans and Europeans. With most people today, until dire circumstances affect one personally—altering one’s lifestyle or threatening one’s family—little attention is paid to strife in countries oceans apart.
Why should we care about Europe’s debt; banks fearful of lending to one another; stagnate growth; Italian bonds commanding in excess of seven percent? Before we can answer these questions, we must understand the difference between macro- and microeconomics. In the simplest terms, macroeconomics looks at the economy as a whole, and focuses on issues such as growth, unemployment, inflation, and business cycles.
Microeconomics studies how individuals (firms or households) make choices influenced by economic forces. Think of it like a ship sailing the seas: wind speed and direction, wave motion, atmospheric conditions, even invisible gravitational forces, all affect the ship in various ways— these are macro. Poor crew attitudes, a defective ship’s rudder, a jib set too early, a captain who spends more time with Caribbean rum than plotting course—these are micro. For the purposes of this series of articles, our concentration will be macroeconomic.
In addition, we should have a cursory knowledge of the European Union (EU). Created in the aftermath of World War II, the EU is a unique economic and political partnership between 27 European countries. With the implementation of the Treaty on European Union on January 1, 1993, a single market with a single currency was born. Today, the EU comprises seven percent (327 million) of the world’s population and 20 percent of the world’s exports and imports. The mere size of the EU, coupled with the fact it is America’s largest trading partner, dictates we should closely watch any political or economic developments. Should a currency crisis or recession hit Europe, it would have an enormous impact on the US. A severe recession in Europe would most certainly lead to recession in the US. If Europe sneezes, the United States gets a cold.
A word about US debt; consider the following: current US debt exceeds $15 trillion (this is equal to 100 percent of GDP, which measures total value, in dollars, all goods and services produced in one year); total US debt—$54 trillion; debt per US citizen—$174,230; debt per US family—$659,938; US unfunded liabilities (Social Security, prescription drugs, Medicare)— $16 trillion. This equals $1,035,956 per taxpayer (source: US Debt Clock.org). These numbers are difficult to fathom. Personally, I cannot wrap my brain around such staggering numbers.
Since $4.8 trillion of US debt is held by foreign countries (short-term debt), we find ourselves at their mercy. Why? Once or twice a week, the Fed auctions US Treasuries. This provides the monies to operate our government. Foreign governments buy our Treasuries for several reasons: the US is a very safe investment because we have a stable government, rule of law, and we have never defaulted on our debt. These instruments—US Treasuries —bear interest. If the Fed cannot attract buyers at a certain interest rate, they raise the rate. However, there is a point the Fed will not exceed at any given auction (target rate). If they cannot get enough buyers at a given rate, they simply buy the Treasuries themselves, increasing their Balance Sheet. At the end of each auction, the Fed publishes the coverage rate. Usually, this rate is between three and three and a half. This means there were three to three and a half more buyers to cover the sale of Treasuries. This figure should be monitored closely. These auctions are extremely important. Interest rates on mortgages, car loans, student loans, credit cards, all tie to US Treasuries.
The inner workings of the Federal Reserve are very complex and sophisticated; one would need many hours of college level study to grasp how it works. However, for our purposes, think of it in the following way: You are in debt and you can no longer pay your monthly bills. To raise cash you have an auction, to sell some furniture you no longer need. You prepare a list of this furniture—call it your Balance Sheet. If your grandmother’s hutch is not bringing the price you believe it should, you bid a higher price. You have bid against yourself. You keep the hutch and it remains on your Balance Sheet. You still need cash to meet your monthly bills, so you go to your bank and borrow the money, or you put it on your credit card.
If the Fed cannot raise money through these auctions to pay the operating expenses of the Federal Government, it has one option you and I do not have: it can print the money. Its citizens back US government debt. Consequently, without our knowledge or approval, our portion of this debt as citizens, increases daily (review US Debt Clock referenced earlier).
Today, most of the US debt (short term) is held by Japan, China, and England. For several years, they have been the largest purchasers of US debt. Recently, China has reduced its US holdings and is no longer buying the quantities it once did. Perhaps it is now easier to understand what impact this could have on you personally.
It is not my intent to offer solutions. Frankly, the enormous economic problems facing the US and Europe are far too complex for me. I hope that we can simplify the perplexity of the issues and better understand the state of affairs in which we find ourselves. Can we rely on governments and politicians to guide us through the troubled waters ahead? History has proved we cannot. In July 2008, Bernanke (Federal Reserve Chairman) and Paulson (Treasury Secretary) testified before a joint session of Congress that the economy was sound. President Bush echoed these sentiments, albeit these were the conclusions of his economic advisors. Two months later, during one weekend in September, these same men told a select committee of Congress and the President the US was facing a total financial collapse that would spread throughout markets worldwide within 48 hours after a US collapse. We had to act before the markets opened Monday morning. Either these men lied to Congress and the American people or they did not see it coming. What is truly frightening is the latter. Oh, “the plans of mice and men.”
I am reminded of an old Yiddish proverb, “Man plans, and God laughs.” What is ironic is the economic Armageddon facing this country and Europe is of our own making. The Hand of Providence is absent. Unbridled greed, pride, and vanity have led us to where we are today. We have forgotten it is God who blesses this country and because we have forgotten who our God is, we are about to reap the whirlwind. There is a Day of Reckoning and it is fast approaching.
In our next article, we will examine the European Union’s debt and how a collapse in the Euro could cause a worldwide depression. Is there anything we can do to protect ourselves?