Will the US turn into a modern day Weimar Germany? Marshall Auerback

Will the US turn into a modern day Weimar Germany? Marshall Auerback

Why do we tax Reason 1 The modern state can make anything it chooses generally acceptable as money It is true that a simple declaration that such and such is money will not do, even if backed by the most convincing constitutional evidence of the state s absolute sovereignty. But if the state is willing to accept the proposed money in payment of taxes and other obligations to itself the trick is done. - Abba Lerner

Why do we tax? Reason 2 Taxes serve to regulate aggregate demand. Not to raise money to so that government can afford to spend. "The central idea is that government fiscal policy, its spending and taxing, its borrowing and repayment of loans, its issue of new money, and its withdrawaal of money, shall all be undertaken with an eye only to the results of these actions on the economy and not to any established traditional doctrine about what is sound or unsound. Abba Lerner So we look at the EFFECTS and IMPACTS of government spending. But acknowledging this operational reality does NOT create the conditions for hyperinflation.

Weimar Germany vs USA Weimar Germany faced large foreign claims from war reparations, as well as exploding budget deficits. By 1919, it is reported the German budget deficit was equal to half of GDP,, and by 1921, war reparation payments represented one third of government spending. Projected fiscal deficits are as high as 7-8% for the US in 2009, so the scale of the fiscal responses, though large, is not nearly as large as the undertaken by the Social Democratic Party as they attempted to quell social unrest following the Revolution of 1918 with a variety of social benefit programs.

Foreign debt vs domestic debt Weimar German government was forced to pay extremely large war reparations in foreign currencies which they didn't have, so they had to aggressively sell its own currency and buy the foreign currency in the financial markets. This relentless selling continuously drove down the value of its currency, causing prices of goods and services to go ever higher in what became one of the most famous inflations of all time. The US only issues debt in its own free floating, non-convertible currency. When a government issues debt in its own free-floating currency, there is no financial constraint on the ability of that sovereign nation to deficit spend, and there is no EXTERNAL constraint along the lines faced by Weimar Germany

US where s s the pricing power? German trade union membership quadrupled from 1914 to 1920, and the 1918 revolution ushered in a government led by a Social Democratic party that instituted an 8 hour work day and provided social benefits in order to reduce social unrest. Many unions were able to negotiate cost of living adjustments in their wage packages after the mark fell in 1921, creating an automatic feedback mechanism from price inflation to wage hikes. Absent such mechanisms, nominal wage and salary growth cannot keep up with rising consumer prices. Real wages fall, household purchasing power is undermined, and the volume of output households can claim diminishes unless consumer credit facilities can fill the gap. This is the situation in the US today. The new US administration does display a social democratic rhetoric, but so far, redistributive policies have primarily benefited financial institutions.

Weimar Germany operated in a gold standard world. The US does not The May 1921 so called London ultimatum required annual installment payments of $2b in gold or foreign currency, in addition to a claim on just over a quarter of the value of German exports. Germany attempted to accumulate foreign exchange by paying with treasury bills and commercial debts denominated in marks, but the mark simply went into free fall on foreign exchange markets as this ploy fell flat. The January 1923 occupation of the Ruhr by Belgian and French troops seeking to secure reparation payments in goods since the mark was nearly worthless - was the final straw. German production was lost as workers employed a passive resistance response, and money was printed by the Weimar government to continue to pay workers despite their production halt. Within months, the German monetary system collapsed.

USA vs Zimbabwe Zimbabwe had a civil war huge chunk of the economy s s productive capacity was destroyed even before the onset of land reform.

Zimbabwe prior to Land reform

Land reform disaster The whites in Zimbabwe had always been reluctant to share with the majority blacks and ultimately reaped the nasty harvest they sowed. From an economic perspective though the farm take over and collapse of food production was catastrophic. Unemployment rose to 80 per cent or more and many of those employed scratch around for a part-time living. So the land reforms represented the first big contraction in potential output. A rapid demand contraction was required but impossible to implement politically given that 45 per cent of the food output capacity was destroyed. Source: Bill Mitchell - http://bilbo.economicoutlook.net/blog/?p=3773

Zimbabwe Manufacturing Output Manufacturing output fell by 29 per cent in 2005, 18 per cent in 2006 28 per cent in 2007. End result: no foreign currency to buy raw materials, so Bank of Zimbabwe uses foreign reserves to import food. Causality: Land reform destroys domestic food production. Foreign exchange used to buy food to prevent starvation. No funds left to import raw materials and manufacturing output collapses. End result: 80% unemployment

Government Response: Buy political favours by increasing net spending without adding to productive capacity. Result? Inflation and then hyperinflation.

Conclusions THERE IS NO VALID BASIS OF COMPARISON BETWEEN THE US AND WEIMAR GERMANY OR ZIMBABWE BAD GOVERNMENTS WILL WRECK ANY ECONOMY IF THEY WANT TO A WISE GOVERNMENT USING THE FISCAL CAPACITY PROVIDED TO IT BY A FIAT MONETARY CURRENCY SYSTEM CAN ALWAYS GENERATE FULL EMPLOYMENT YET SUSTAIN PRICE STABILITY

Conclusion 1. If labor does not have a bargaining mechanism, like a cost of living adjustment (automatic COLA), or infinite access to credit, wage gains will not keep up with escalating price inflation. The hyperinflation will flame out - it will not be sustained. Clearly, in the US and elsewhere, labor has very low bargaining power, COLAs are visible only in government benefits, and household credit accees is negligible at best. 2. Beyond the demand side components, there is almost always a supply side capacity destruction issue fueling the latter stages of hyperinflation. Whether it is the ravages of war, occupation of existing plant and equipment by foreign forces (French in the Ruhr Valley), failure to reinvest profits made during hyperinflation episodes in tangible capital equipment, or the flight of entrepreneurs to speculation in durable assets that are not easily reproduced (near vertical supply curve, as in ancient Chinese porcelains, etc.), hyperinflations usually require a supply restriction/destruction component. At the moment, we have a global glut of excess capacity in a number of industries and sectors. 3. Inflation is ultimately about competing distributive claims over real resources. The main limitation then, or rather the determinant of the limits of a "sustainable" fiscal policy, especially with respect to hyperinflationary risks, have to do with real resource constraints, not "running out of money" or absence of government financing, for countries possessing sovereign currencies.