The State of Capital in the US

Over the Thanksgiving weekend I had a discussion with one brother about the current economic situation. He commented that he was concerned about the twin deficits of trade (current fund) and government. I told him I was less concerned. Over the next couple of weeks we have had a lot of email exchanges about the issue.

His concern is that we seem to be "buying more than we sell" abroad and seem to be giving up some key industries. He is also concerned that the federal deficit is, if anything, understated. On that I agree. However, the situation is a bit more complex.

On the trade deficit, we do have a continuing problem with buying lots of stuff from other people in the world. A lot of the democrat critics seem to think that somehow it would be better to get shirts made in the US instead of where they are made now. And that we would be much better off as a result of keeping a lot on industries in our midst and our country. I think that is wrong for a number of reasons. First, is measurement. I am not sure we actually have an accurate count of the whereget and wheregone of trade. About a third of the total current fund balance is intercompany transfers. When GM makes a Suburban in Leon that shows up as a deficit. At the same time I am not sure that the numbers we collect accurately count the number of idea moves and their value. A recent book from the World Bank makes that point - and I will deal with that in a later post - but we are quickly moving from the physical production (which we are not as good at) to the intellectual production of goods. Those, at this point, have a much higher return. A second broad issue in my thinking relates to demographics. The US has been a huge importer of people. More than Europe. More than Asia. That has done a couple of things for us - it has created some new complexities of life through languages and customs that seem out of place. But at the same time it has lowered our demographic profile at a time when places like most of Europe and China are experience demographic imbalances. Europe has an aging population and a welfare system run amok. China has an aging population and an imbalance of males to females. In the long term neither trend is helpful to economic growth. Thus, I think the net gains from trade are significant - we are transitioning into an economy (if not already there) where mobility of capital is real and consistent. In the long term that can mean some greater variability but the net benefit outweighs the net potential risks. It seems silly to me to think about trying to get back the auto or steel jobs or other industries that have moved to off shore. At the same time we need to be energetic in promoting better educational opportunities to assure that we continue to be at the forefront of new areas of economic growth. Both of us agree that we have not been as good at that in the last couple of years as we should have been.

On the federal deficit, there are two trends. I do not think we have properly accounted for some potential liabilities including the new Medicare program and Social Security (curiously my brother thinks with "minor" changes the Social Security problem will go away). But at the same time, I think some of the contributors to the deficit are justified - the efforts in Iraq - if successful - will pay some significant dividends. (I realize that is an if). I liked Bush's emphasis on creating an "ownership" society although wish he would have put a bit more political muscle into his proposals. I am also worried, as I have commented before, that this president has been a bit too willing to allow new types of federal spending to be created on his watch.

On the whole I am less worried about the trade deficit and concerned about the federal budget deficit than my brother. He speculates that the long term problems will increase interest rates significantly and could produce a round of pretty agressive inflation. I think we have positioned ourselves a bit better than he does. There are risks ahead but I believe they are managable. The World Bank book makes some interesting comments including one that capital is not simply a set of physical assets but it is also (economic) climate and the intangibles that are created when people have the opportunity to be creative.