what happens if you plug the twin deficits into your scenario?
Deflation in the US will be felt globally, ranging from Chinese imports to OPEC oil. In theory, that may help our trade deficit but in reality, it could be a lose lose situation. For example, if we import $100 and export $60, we have a $40 deficit. Now if we import $80 and export $50, we have a $30 deficit. $30 is better than $40, right? Wrong, importers lose, exporters lose.
As for the current accounts, would foreigners be investing in US? What would they invest in? Would a weak dollar be necessary before that happens? In a global deflation or recession environment, there may not be any money to invest anywhere anyway. With the global production capacity right now, we can easily have Asian contagion part II.
If fiscal deficit remains at current level, would the world have enough savings to continue to fund the deficit? What level of interest is needed? Do we want a strong dollar or weak dollar? Do we have a choice?
Finally, there is no doubt that the US is deeply entrenched in an asset based economy with little chance of switching back to an income based economy. In addition, the asset of the day is real estate, not just real estate but the home. Equity in your home, in a deflationary environment, is pretty useless when it comes to stimulating the economy. We will soon find out how many households are already relying upon this asset to support their current life styles.
Deflation/recession is much harder to fix than inflation, the Feds have repeatedly stated that. They are likely to be very aggressive if the economy slows. That is not going to make cash safe.
2006 is going to be quite an interesting year. |
