The US and cyclical economic theory – Part 3

The US and cyclical economic theory – Part 3

In the 1970s, conservatism movements gained popularity. Libertarians argued that un-regulated capitalism and individual autonomy where the essence of American freedom. They were against the regulatory state that had been created by the New Deal. Other conservatives where not libertarian but moral conservatives, they were ok with the regulatory government but for them, virtue was the essence of America. Both movements were against big governments. 25 years of economic prosperity and expansion came to a grinding hault in the 1970s, replaced by inflation and extremely slow growth. A long term process of gradual decline of manufacturing was one of the explanations in relation to competing manufacturing in the rest of the world. The US started to experience a commercial deficit, which is when the imports are higher than the exports. One of the reasons was because the USD was linked to gold, making it a strong currency but also making American products more expensive abroad. So Nixon took the US off the gold standard, hoping to make American goods cheaper overseas and reduce imports. But that didn’t work because the US was also competing against countries with cheaper labour, and raw materials and more productive economies. This growing competition put American companies that couldn’t compete out of business, especially in manufacturing. Competition led employers to eliminate either high paying manufacturing jobs, or else to increase automation or shift workers to lower wage regions of the US or even overseas.

In 1973 the mid-East suspended oil exports to the US which led to the price of oil quadrupling. Prices of everything went up since oil is used for production or transportation of just about everything. Inflation soured to 10% a year and economic growth soured to 2.4% in what became to be known as “stagflation”. The “Misery Index” was born, as a combination of unemployment and inflation. According to economic theory unemployment and inflation where supposed to be inversely proportional, the so-called “Phillips Curve”. But that relationship broke down with the new concept of “stagflation”: both unemployment and inflation. This gave way to a different way of thinking about the economy that emphasized the economy as an aggregate of individual economic decisions. The main impact of the new way of thinking was on taxes.

In the 1980s, reform and change took place in the US in a period known as “Reaganomics”. Reaganomics refers to the economic policies to promote business in the US. These policies are associated mainly with the supply side. The 4 main points where: to reduce the growth of government spending, reduce the federal income tax and capital gain tax, reduce government regulation and control the money supply in order to reduce inflation. This was the beginning of a period called “New Liberalism”, which was based mainly in the ideas of the previously studied economist Milton Friedman. Supply side economics is the idea that lower taxes is the best way to estimulate growth. High interest rate together with lower taxes especially for wealthy people (business owner), is applied with the goal of fighting inflation. Those rich people then spend more, and invest more in private enterprise which creates new jobs. Lower taxes should also encourage people to work harder since they get to keep more of their money. Inflation dropped from 14% to 4% in the decade, in an expanding economy. However, wages did not rise accordingly. The financial world became a superstar, being more profitable to buy and merge companies than to run them properly. The Star Wars programme was the largest military program in US history, the Strategic Defense Initiative, to defend itself against the Soviet Union. It included space base missiles and lasers for shooting soviet missiles out of the sky. In Clinton’s presidency, liberal economic reforms, such as privatizations, continued. However, a welfare reform was passed in which families would not receive their money not directly, but through state programs that had strings attached, including work requirements and time limits for total benefits. Increased global competition kept wages down, while fuel prices took to lows as world-wide oil production increased. The internet took a central scene, which would have remained as a military communications network if computer scientist and entrepreneurs had not worked out how to sell things.

In the year 2000, the .com bubble burst. At that point in time, investors would jump upon any time of internet based business. But it turned that the business model of selling online dog food at a loss was not a sustainable business model. A new wave of migration arrived, this time coming from Latinamerica and Asia (and not so many from Europe), 40% though had college education. Multicultarism and change created a very tense political environment.  Social differences remain even today between Caucasians, Latinoamericans, Afroamericans and Asianamericans.

It is important then to see how the US has been switching economic policy according to the cycle of the economy and the historical period: from Adam Smith to Keynes to Milton Friedman, there is no “left or right” economically speaking in the US but simply the application of economical theory. Usually, the Social Democrats are associated with Keynes (and the fight for worker rights), and Republicans are associated with Liberal economics. However, consider that Bill Clinton, a Social Democrat, applied pro-business liberal economic theory as well in the New Liberalism period that extended from 1980 – 2008. This model was exported later to Latinamerica with disastrous results. Later on, we will discuss WHY it failed in Latinamerica.

Finally, 2008 sees a new economic period under the Obama administration, submerging in a period of “New Keynesianism”. A mixture of private and public economic thinking twisted towards speculation and irresponsible spending. With low interest rates, housing bobble burst in 2008. When banks stop lending, business can’t function, so the stock market collapsed. American cut back on spending impacting consumption. Millions of jobs were lost, mainly in construction and manufacturing. The banks were bailed out to avoid a total stop of the financial system, but this did not help the house-owners. Obama’s signature act has been Obamacare. The affordable medicare seeks to move the US into the ranks of countries with universal healthcare. It aims to make it easy for the insured to buy private healthcare. The government will subsidize those who can’t afford insurance. Besides having appeal towards the latino and afro-american communities, Obama brought back typical Keynesian values into the economy. “For everywhere we look there is work to be done. The state of our economy calls for action, bold and swift. And we will act, not only to create new jobs, but to lay a new foundation for growth. We will build the roads and bridges, the electric grids and digital lines that feed out commerce and bind us together. We’ll restore science to its rightful place, and world technology’s wonders to raise health care’s quality and lower its costs. We will harness the sun and the winds and the soil to fuel our cars and run our factories. And we will transform our schools and colleges and universities to meet the demands of a new age. All this we can do, and all this we will do”. ‘Nuff said!

Don’t go anywhere, soon... THE EYE OF THE BIG BROTHER is watching us. Uhhh, creepy.

Your friendly economist,

Cristian “Nash” Bøhnsdalen.