–Do you know what you want? Deficits vs. exports vs. stronger dollar vs. inflation

The debt hawks are to economics as the creationists are to biology.

Here is a little test for you. Check all you believe will help the U.S. economy:
|__] 1. Reduced federal deficits
|__| 2. Increased exports (positive balance of trade)
|__| 3. Stronger dollar
|__| 4. Low inflation

Actually, it’s not so “little” a test. Many lay people, including most politicians and media people, would check all four. But you, being smarter, realize that #2 and #3 are incompatible. A stronger dollar makes our exports more expensive, while making imports cheaper. So to achieve increased exports or even a positive balance of trade, the dollar must weaken. This comes as a great disappointment to those who equate “stronger” with better. Sorry.

Now we get to the tricky pair: #1, reduced federal deficits vs. #2, increased exports. Who doesn’t want those?

Federal deficit spending increases the number of dollars in the economy, which many people reject because of fears about inflation. Ironically, these same people want increased exports – a positive balance of trade – which also increases the number of dollars in the economy. In short, federal deficit spending and exporting essentially are identical.

In the first case, the federal government buys, and pays with dollars, for goods and services. It is the customer. In the second case, foreigners buy, and pay with dollars, for goods and services. Foreigners are the customers. In both cases, dollars are added to the U.S.economy.

Admittedly, there is are differences. First, unlike exports, federal deficit spending adds to the federal debt, which most people mistakenly believe adds to our tax burden. However, because spending by a monetarily sovereign nation is not constrained by taxes, or any other income, there has been no historical relationship between tax collections and deficits, no will there be. See: Summary, numbers 9 and 9a. Your grandchildren will not, and actually cannot, pay for deficits. So this supposed “difference” amounts to a non-difference.

Second, while federal deficit spending adds to the world’s supply of dollars, our positive balance of trade does not. So, which is better? A growing economy requires a growing supply of money. So, any amount of inflation, plus population growth requires increases in the nominal supply of currency, just for GDP to remain level, let alone grow. Because the dollar is the world’s reserve currency, world GDP growth requires ongoing growth in the world’s supply of dollars. So, on balance, federal deficit spending is more beneficial to America and to the world, than is U.S. exporting.

Returning to the four questions, above, I suggest that this would be the ideal mix for America and the world:

1. Increased federal deficits, for world economic growth
2. Reduced exports (negative balance of trade), to supply the world with dollars.
3. Stronger dollar, for more imports, providing us with better goods and services at lower prices
4. Modest inflation, to stimulate present demand for goods and services.

Sadly, the U.S. federal government wants to do the opposite –reduce deficits, increase exports and reduce the value of the dollar — and that is just a sampling of reasons why we fall into a recession, on average, every five years. With a record like that, why do Americans believe what their leaders tell them?

Rodger Malcolm Mitchell
http://www.rodgermitchell.com

No nation can tax itself into prosperity

7 thoughts on “–Do you know what you want? Deficits vs. exports vs. stronger dollar vs. inflation

  1. Great article Rodger,
    I’ve only been reading you for a short time, but I like the way you explain the complicated subject that is our economy and how it has changed since 1971 when we went off the gold standard. By the way I totally agree with your view that because the U.S. can create its own currency, taxes have nothing to do with paying back deficits. A piece of knowledge that really needs to be taught in schools and everyone should grasp.

    However, I have a question that always comes up when I read your posts and in this post in particular that I hope you can explain. You say that federal deficits should increase (I agree with you its great for growth), but also that inflation should stay low. How do you balance the two?

    And I am inferring from your post that as long as the worlds population increases, inflation should stay in check because there are more people for all the extra dollars to go to, but what happens when populations decrease? Will we have to contract some of the dollars out there to prevent inflation?

    I’m no economist, but I guess my question boils down to this: what would be sound monetary policy regarding continuing to grow the deficit and keeping inflation in check? Or are they two separate issues?

    Again thanks for the great posts and keeping it real, regarding our economy.

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  2. Stu,
    There is a point at which money creation can cause excessive inflation (i.e. inflation beyond the Fed’s goal). We are nowhere near that point. Read point #12 at Summary.

    Were we ever to get to that point, inflation easily could be prevented/cured by raising interest rates. By increasing the reward for owning money, an interest rate increase makes money more valuable.

    I too wish the implications of Monetary Sovereignty were taught in schools.

    Rodger Malcolm Mitchell

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    1. That makes sense because a higher interest rate makes it harder for banks to lend, decreasing the amount of money in the economy.

      Thanks for the clarification. Keep puttin’ your message out there. We will all get it someday ; )

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  3. Stu, actually the higher interest rate makes money more valuable.

    Money is a commodity. The value of any commodity is determined by supply and demand. So if the supply rises, the demand has to rise by enough to prevent inflation.

    Demand is determined by risk and reward. Risk is inflation, so to prevent inflation, the reward must increase. One of the rewards for owning money is interest, so preventing inflation involves raising interest rates.

    That seems pretty straightforward, but it gets a bit more complex. Inflation is not just the fall of money’s value. Inflation is the fall of money’s value relative to the values of all the goods and services money buys.

    This is why for the past 40 years, inflation has been caused by the rise in value of energy. See: Inflation

    Rodger Malcolm Mitchell

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  4. From Warren Mosler:

    pretty good!

    of course you might want to add to your discussion about exports that any nation buying US goods and services is using up its dollar savings/going into dollar debt, etc. which is unsustainable. That’s why nations with export driven policy usually buy the currency of the nation that are aiming their exports at. This fx buying is off balance sheet deficit spending’ which allows the importing nation to continue to do so without borrowing in fx.

    this applies to the US and Japan or China. They buy our currency with their currency which gives us their currency which we use to buy their goods and services.

    and, as you say, good for our real terms of trade, not so good for theirs!

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  5. Actually, this is not a very viable line of reasoning. It is akin to saying that exercise and getting sick is the same thing since both increase the body temperature. When you export, you get real dollars for real products or services. Whereas, deficits prints real dollars for IOUs. If the deficit aka the IOUs were to be used for something productive like infrastructure, it may be justified since it is akin to borrowing money to build your business and not blow it on the latest fancy gadget. But we have been using deficit financing to blow it on the latest war or bloating the bureaucracy. Since we are just incapable of using the deficits for anything useful, deficits are bad.

    Just to add, if one were to use the line of reasoning mentioned in this article, any economic growth is bad since that will be increasing the dollars in the economy.

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  6. When we export, we receive back the same real dollars we previously created by deficit spending. Foreign dollars are identical with domestic dollars in every respect.

    For a monetarily sovereign nation, borrowing (those IOUs you mentioned) is unnecessary. Our creation and sale of T-securities is a useless relic of gold standard days. For any seller, there is no functional difference between selling to a foreigner and selling to the U.S. government. Both add the same dollars to the economy in exchange for the same goods and services.

    Your last sentence has me puzzled. Readers of this blog know I favor adding dollars to the economy.

    Rodger Malcolm Mitchell

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