The truth about import export imbalances, part 2.

In response to my last post on export imbalances, a reader commented, "But isn't Spain getting the better deal by trading apples and worthless paper for Mercedes?"

This is soooo the right question to ask.  Unfortunately, the answer is not a one-liner.  When dealing with a corrupt global money supply, everything is made 10x more complex than it should be.  Simple trade is never simple in this environment of Wimpy promises.  At the same time, I want to try to state the answer succinctly up front and then dive into some supporting arguments later in the response.

And so the simple answer is that Spain is getting exactly the deal that it and Germany have agreed upon, not more and not less.  If Spain were to show up at the border with apples and no worthless paper to use as a deal “kicker” then Germany might not show up with cars.  Germany should (and I believe does) know that the paper Spain is bringing with it is worthless given the many hundreds of years of trading history they share.  But it demands that paper anyway.  Why?  Because Germany has made unkeepable promises to others, all of which are tracked by possession of the worthless paper.  Germany has ramped up production using debt for the very purpose of acquiring more apples plus worthless paper from Spain, more olives plus worthless paper from Greece, and so on for the rest of the PIIGS.  We are now in the end stages of a global circle jerk of debt.  Real money (i.e. gold and silver) have been pushed to the back of the bus over the past 50 years.  All that counts now is the debt because it is floating around in the global economy in quantities which are an order of magnitude (conservatively speaking) higher than real money.

But back to Spain and its apples where the Chester Karrass factor is at play.  Spain did not get what it deserves, it got what it negotiated.  Spain has allowed Germany to intimidate it into accepting a cars:apples exchange rate that is unrealistically in Germany's favor and the result is a huge trade imbalance.  In reality, it's a form of intimidation.  Now before you roll your eyes, look to history for precedent like I always do.  Remember the Gouda Tulip mania of the 1600s?  At one point a single tulip bulb was traded for 12 acres of farm land.  On another occasion, a lot of 40 tulip bulbs were sold for 100,000 florins which were worth about 2 man-years of skilled labor.  Could you imagine working 2 full years in order to earn 40 stinking inedible tulip bulbs?  This actually happened.  Some how, some way, people had placed a ridiculous value on tulips which you can't even eat!  Chester Karrass was there in full force on the side of the farmers back then.

At the border, people want to trade value in one form for equal value in another form.  In order to see the truth of the matter, you have to go all the way back to the basics about how value is created which is through the labor of man (multiplied by tools/machinery which are powered by energy).   Take away the tools component (rendering the energy component non-applicable) and what is left is man A in country A trading some percent of his labor with man B in country B.  In aggregate, labor must be traded straight across for labor.  Man A cannot reasonably trade 90% of his labor for 10% of man B’s labor.  What cannot happen will not happen.  Something (debt) is causing this imbalance on the production side  and so the only way it can be made up on the consumption side is also debt.  The labor component of humanity is essentially fixed.  There are only so many laborers with only so many hours to work and only so much energy to put into their work.

Spain’s problem is that one German is standing on the border ready to trade the one car that he took one day to build because of the work multiplication enabled by tools and energy whereas 5-10 Spaniards are standing on the other side of the line to represent the labor that it took them to grow and deliver to market the massive boxcar full of apples which they have negotiated as a fair trade for the one German car.   Spaniards lost sight of the fact that German productivity is so high because they have so much automation without which one man would not be able to build 1/10th of a car in a single day.

And so we get into the very heart – the very engine – of the debt Ponzi because where did Germany get the money for all that automation?  Did they earn it first?  If so, how did they amass so much wealth to buy such tools while Spain made no relative progress?  I contend that people are basically the same the world over in aggregate and so when I see such imbalances I am not inclined to blame them on laziness of the people or some other genetically driven factor.  For example, I have written in the past how Toyota’s awesome manufacturing capacity was all funded by debt. 

The use of debt to build capacity distorts everything resulting in gross unfairness.  Consider this: you and your neighbor decide to start small businesses that compete head to head.  At first, you are both in your garages working away but the market for your product is big and so you want to expand.  You are politically unconnected and so nobody will loan you money to expand.  Thus, your expansion must wait until you earn the money honestly to do so.  Your neighbor, on the other hand, has a brother in the banking system.  His loans inexplicably sail through the approval process and he expands his production rapidly to fill market demand.  You are unable to compete with his economy of scale and so you are pushed aside in the market place even though you worked just as hard if not harder and even smarter than your neighbor.  He won and you lost because of his political connections, not because of his hard work and ingenuity.  This is the unfairness of capacity growth that is funded by debt. 

In another situation, both companies are greeted by willing lenders.  First company A expands using debt.  Company B responds by making unkeepable pension promises (just another form of debt) to attract better labor.  Once started, this upward spiral of leverage must continue until one side can, for whatever reason, no longer leverage up.  The winner is not the one with the best products or management but rather the one with the best lawyers, bankers and government connections (really handy for bailouts, loan guarantees, etc.).  Unfortunately, the salaries of workers were funded by this debt spiral and when one side collapses then jobs and salaries collapse, eventually leading to collapse of demand because nobody has any money to buy anything.  At the end of the day, even the winner is a loser because it is left to pay off all that past debt with a fraction of the income that it was projecting it could have. 

Debt is the engine of crony capitalism and it is the fuel source of economic booms and busts.  It it is a slap in the face of any honest, hard working capitalist and it is the friend of bankers and politicians who use it to concentrate power into a very few hands.  If debt based prosperity was sustainable then I might sing a different tune despite its unfairness.  After all, doesn’t the rapid expansion of debt create jobs exactly as politicians and money men keep telling us?  The answer is, yes, but it is a false, unsustainable expansion that must inevitably collapse under its own corrupt weight.  Why must it be so???  Because debt based growth can only be fueled by debt based consumption and consumers can only afford so much debt, even at historically low interest rates.  Why do you think the housing market is still rolling over despite historically low interest rates?

At some point it will be discovered that somehow, some way, German car makers are in the same boat as the Japanese car makers and none will be better off than Spanish apple growers or Greek olive farmers.  To be fair, I haven’t taken much time to look into the books of Germany.  But I don’t need to because I know they are not “the master race” or in any way superior to the rest of the workers of the world.  They are in fact just good, hard working humans like the rest of us.  They do not work twice as hard as anyone else or even 15% harder.  They are just good, solid workers. 

They are also world renowned bankers which is the more important factor.  Bankers are experts at playing the debt shell game and so you will not see the full truth of the German problems until the big debt Ponzi collapses.  I believe that German production expansion is more related to the cunning of its bankers than the productivity of its workers.  There are many things that point to this including but not limited to the frantic way that Merkel is trying to prop up the Euro Ponzi.  She is not doing this for the benefit of Greece or Spain or Italy but rather because she does not want to admit that the money lent to PIIGS was gone the minute it was lent.  She wants everyone to continue to think Germany is prosperous simply because deadbeats owe it money.  Nothing could be further from the truth.