Trump’s Trade Tantrum Triggers Slump

For decades, Western governments have been pursuing a policy of transferring wealth from the public to themselves, their licensed banks and the banks’ favored customers by means of interest rate suppression and monetary inflation. Consequently, inflation of financial asset prices has benefited the financial sector to the detriment of those employed in the productive economy. Over time, this has badly weakened productive capacity and the long-term ability of the market economy to fund future government spending.

It is a situation which seems bound to eventually lead to major economic and monetary problems. Additionally, global economic prospects have worsened considerably as a result of President Trump’s tariff wars against China and others. Empirical evidence from the 1930s, as well as economic analysis, illustrate how trade tariffs have a devastating effect on domestic economic activity, a prospect wholly unexpected by today’s economists.

The coming together of a trade-induced slump and the public’s discovery of its true losses through underreported wealth transfer by means of monetary inflation is set to become a major issue for fiat currencies worldwide, risking a catastrophic loss of confidence in them. 

We shall commence by explaining why trade tariffs are likely to be the trigger for a possible slump before moving on to the important issues that arise from the public’s discovery of its own financial precariousness, the discrediting of macroeconomic theories and the likely reactions in currency markets.

The trade tariff problem

Those worried by the bigger picture cannot fail to have noticed that globally, there are now geopolitical shifts on a tectonic scale. The American government is alienating China, its key Eurasian creditor, which with its principal Asian partners has been planning to reduce exposure to the dollar. The influence of this movement against the dollar extends to China’s trade counterparties nearly everywhere outside the United States. This even includes Japan, which remains officially on the side with America for now, but her zaibatsu are being drawn into China’s sphere of influence. Good Europeans such as Poland and Hungary are hedging their dollar bets by accumulating gold reserves, now that the silk road is transiting goods to and from the Far East.

Meanwhile, there is no sign of America’s twin deficits reducing and they are more likely to increase (explained below), particularly given an emerging global recession. China will still have its trade surpluses with America, but America is restricting Chinese re-investment in America and wherever it still has influence. It is a deliberate policy to contain China’s technological development but will have the effect of forcing Chinese entities to instruct the People’s Bank (PBOC) to swap their surplus dollars for yuan or another currency. The PBOC then has to decide whether to reinvest them in US Treasuries, leave them on deposit in American banks or just sell them.

The row over trade deficits and the introduction of tariffs by America is underestimated as a major cause of the global economic slowdown. To guide us, we have the precedent of the Smoot-Hawley Tariff Act of 1930, which played a major part in driving the world into the depression. China’s economy is now contracting rapidly, and while analysts are blaming China’s shadow banking squeeze, there can be no doubt that its export markets have contracted sharply as well. It is this dimension, one of contracting global trade for which China is the bellwether, which few analysts know how to analyze and even fewer governments know how to handle.

Let us walk through an example. A welfare-spending state (such as the US) facing a contraction in economic activity, will experience a significant increase in government welfare spending at a time of falling tax revenues. The budget deficit rapidly escalates. Unless it is offset by an increase in savings, a rapidly increasing budget deficit must lead to a broadly matching increase in the trade deficit. We can explain this with the following national accounting identity, for which there can be no other result.

(Imports - Exports) = (Investment - Savings) + (Government Spending – Taxes)

In other words, a trade deficit is the net result of a shortfall in the combination of savings and budget deficits. More correctly it applies to both capital and goods without distinction and is captured by the balance of payments statistics.

The US has two problems with this issue. Not only does the budget deficit need funding by foreign investors recirculating their capital, but the trade deficit will continue to rise irrespective of tariffs. If the currency was to be fully recirculated from the trade deficit to fund the budget deficit, the cost of that funding would be set mainly by domestic considerations. This is unlikely to happen in America for political reasons.

We have seen President Trump try to reduce the trade deficit by imposing tariffs. It is clear he does not understand that his government is causing the trade deficit by running a budget deficit. And when the trade deficit widens further as a consequence of the rising budget deficit in the coming year, further restrictions on trade will also be unsuccessful and counterproductive. Assuming there is no increase in savings (they are discouraged by neo-Keynesian government economists anyway) then with the trade deficit still increasing, it will be domestic production that ends up being curtailed. It is the only way the sums can add up.

Given the parlous condition of state finances in most advanced nations, escalating deficits and tariffs in combination will end up squeezing both consumers and manufacturing businesses in all net importing countries. Unemployment then rises rapidly, and as the Smoot-Hawley episode informed us, before long a recession becomes a deepening slump as all nations are sucked into a trade vortex.

In other words, President Trump’s tariff wars are in large part responsible for the global economic slowdown. Worse, the slowdown can be expected to feed on itself as an increasing trade deficit ends up collapsing domestic output. This is the nightmare yet to come. But it is not all. We must put the trade issue to one side while we delve into an even larger issue that has undermined the economic performance of high-spending welfare states for a considerable time and is likely to be exposed by the impending slump in international trade.

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Gary Anderson 8 months ago Contributor's comment

Your use of the terms welfare driven and Keynes seems inaccurate, although I like the article. It is more MMT than Keynes, as Cheney said deficits do not matter. Keynes didn't advocate that view. And seems like the financialization class receives welfare from the Fed. Welfare goes to the elite for the most part.