Pitfalls of Credit Induced Growth - My Article in Hindu Business Line

Date: May 2, 2012

Link: http://www.thehindubusinessline.com/todays-paper/tp-opinion/article3374860.ece

With the operation twist coming to an end in June, the world is all ears to any hints dropped by the Federal Reserve of what may come next. Whether we agree with their existing policy or not it's important that we view the world from their co-ordinates and in particular the role that credit has played in our economy in the past 4 decades; because its only then we would realise that this exercise of bond buying  every year coupled by large government deficits is an exercise that would continue as far as one can see because the moment this stops the natural deleveraging cycle would take over and taking with it years of growth created on the foundations of credit.

 In the era of commodity based money, it was the savings that used to drive credit and thus growth. So people used to save their money in banks and banks used to lend that money to entrepreneurs and corporates. Ever since the dawn of fiat money it is really the credit that drives both savings and growth.

Since 5 centuries it is well known that an increase in credit is accompanied by an increase in growth rate. So post 1970 when the Central Bankers received an almost omnipotent control of the nation’s monetary policy they have used this relationship extensively; hence whenever the economy used to take a breather in order to unwind the malinvestments in the form of lower equity and bond prices particularly of the financial institutions, the Central Bankers always used to come in and artificially reduce the interest rates thus performing two critical actions: 1) Saving the financial institutions equity and bondholders from losses and 2) Reigniting the growth of credit which would then boost the GDP growth

However as a result of these interventions and the supposed transcendence of the period of “The Great Moderation” the malinvestments that would have unwound with some losses to equity and bondholders have become even bigger and now threaten to take down even the savings of the masses if a system wide deleveraging were ever to happen. Post 2008 with the financial and the household sector deleveraging (excluding the massive uptick in student loans) the increase in government debt is avoiding precisely such a scenario.

Now as we understand from preliminary economics an increase in government deficit is equivalent to an increase in private sector savings. So the government deficit is not just providing that marginal growth in credit but also allowing the private sector to de-lever.

Just so that the annual trillion dollar additional government debt doesn’t overwhelm the system, the Federal Reserve will constantly engage in its bond buying exercise and thus try to keep the bond and stock markets afloat.

Both these operations are justified under the garb of the fact that there still is a lot of slack in the economy which brings me to an important point associated with the credit growth of the past four decades. As can be observed from the graph, the impact of a dollar increase in credit on GDP has reduced significantly every decade. So much so that now the real GDP increases by just 8 cents for every dollar increase in credit.

The secret of the reducing efficacy of credit on GDP can be observed in the next graph. As one can see that even though the credit has been increasing over this time the financial sector of the economy has seen a massive growth while the credit growth in corporate sector has lagged behind, so much so that now the total credit in the financial sector overwhelms that of the productive corporate sector. Isn’t it ironic that a sector like financial which is supposed to be a facilitator or tertiary to the main economy is now infact the leader as far as its contribution to total credit is concerned. This is precisely due to the irresponsible policies of the Central Bankers that didn’t allow the unwinding of the bad debts of this sector and letting the bondholders and equity holders be wiped out. So with every single intervention these debts instead of getting unwound have only ballooned. As a result of this each of the recoveries since 2001 has produced fewer jobs.

Post 2008 with the overall credit in the financial sector reaching its zenith, what the policy makers are now hoping is that the corporate sector slowly picks up this debt that the financial sector unwinds and during this transitory phase the government carries the baton helped ofcourse by the Federal Reserve. However this is the same misguided hope that has led the world into the current mess. The government expenditure accompanied by the Federal Reserve’s bond buying programs is nothing more than a transfer of wealth, the same phenomena that has been happening for the last 40 years in the fiat money regime i.e. from people who earn their money from labour to holders of assets thus widening the income gap.

So meanwhile our policy makers wait for the corporate sector to takeover the credit creation baton, the misallocation and thus destruction of the resources in the real economy continue thus ensuring that the next fall would be even bigger.

Budget Points to Lack of Fiscal Discipline - My article in Hindu Business Line

Date March 20, 2012 

Link: http://www.thehindubusinessline.com/todays-paper/tp-opinion/article3013948.ece

With the budget and the RBI economic policy out of the way, the critical policy week for the Indian economy has proved to be a damp squib as the neither any credible action on tightening of the fiscal policy came through in the budget nor did the RBI relented on reducing the interest rates.

To be fair unlike the last year this time around the projected numbers on the revenue side are more realistic and the budget does attempt to talk about controlling the expenditure. The revenues estimates through direct tax collection assume a private sector credit growth of around 21% (the average of last 8 years) from the existing 16% which is certainly achievable if the government keeps its expenditure under control and consequently the RBI cuts the interest rates.

As a matter of fact the government has projected its credit requirements to increase by just about 13% (the lowest in the last 5 years) which if proven correct would make all the pieces of the budget fall into the right places perfectly. However the expenditure that it has projected to put across this number is a bit baffling.

The bloated government expenditure is primarily on account of two factors: The ever bulging food, fuel and fertiliser subsidy bill and it’s excessive re-distributionist policies that are squandering away precious economic resources and causing serious misallocations of capital without having much of an effect in increasing the real supply and economic productivity. It was critical for this budget to address the government expenditure issue as this has resulted into the country falling into an inflation and slowdown quagmire.

The budget does propose to cap the subsidies to 2% of GDP but the implementation is left in the hands of the executive. The fiscal deficit has been proposed to be brought down to 5.1% but the money reserved for subsidies provide some food for thought over the credibility of the forecast. While the fertilizer subsidy is proposed to be brought down by 6000 crores, the oil subsidy is planned to be cut by 25000 crores over the previous year i.e. a cut of about 36%! This can only happen if the oil prices collapse (unlikely unless we have a global recession) or the government actually raises the prices especially of diesel, kerosene and other petroleum products. If the previous year is any indication where the government missed its fiscal deficit target by 130 basis points, this price rise is unlikely to fall through.

The Brent crude prices are already averaging over 120 dollars/barrel which is about 7% more than last year’s average. Even assuming these prices hold through the year and the growth in crude oil demand stays at around 3 percent, the oil subsidy bill could actually grow to 75000 crores.

Inability to the pass the increased subsidy bill would add around 40000 crores to the government borrowing. This increase would negatively impact the private sector credit growth and in turn the government revenue estimates and may add in excess of 50000 crores to the government borrowing program. Suffice it to say that if the government is unable to pass part of this bill onto the consumers as indicated in the budget, it would end up increasing the government’s fiscal deficit to 5.5% and its expected credit growth by over 20% from last year. This may again restrict the hands of RBI in slashing the interest rates aggressively thus hampering the private sector credit creation and as a result the country may see a prolonged period of high inflation and lower growth.

This year has been a difficult one for the Indian economy. As more and more economic resources were being driven into stimulating the already high consumption levels, capital investment took a backseat. As a matter of fact the gross capital formation is actually estimated to be negative for this year. This has happened only 2 times in the last 2 decades (1996-97 and 2000-01). This is a serious problem for a fast growing economy like India as this would mean severe supply constraints going forward.

If the government is able to come out good on its promises in this budget things would look better the next year, otherwise the only hope would be that global liquidity conditions remain benign abroad thus enabling the private sector to cater to its capital requirements and avoiding the country’s growth rate from slipping down further.

The Indian Policy Week

This article of mine was published in Hindu Business Line yesterday on March 14, Link . Haven't written something exclusively for this blog in this year but working on an interesting concept (a little philosophical though) that would need extensive development, so posting on this blog would be the first step.

With the budget and the RBI economic policy coming up, this week would see both the fiscal and monetary policy in action and thus could end up sealing this year’s economic course. The RBI has already made its move with a 75 basis point CRR cut, however the more critical action on interest rate is needed now and at the same time the government should show some teeth by cutting back on its ultra-loose fiscal policy stance by bringing its expenditure under control, perhaps it is too much to expect from the besieged but certainly that is what is needed to rejuvenate the faltering Indian growth engine.

The RBI has already cut the CRR by 125 bps in the last two months. To put this into perspective of how grave things are; a CRR cut of this magnitude or more has been witnessed only twice before in the past decade, once during 2001 post Sep 9/11 and the second during the financial crisis of 2008 post the Lehman collapse.

Certainly there is some seasonality to the liquidity issues involved but what should not be missed are two serious structural underpinnings; slowdown in private sector credit growth and slowdown in the growth of forex reserves in the past two quarter.

Ever since the end of financial crisis of 2008 the private credit growth started to recover but unlike in earlier times in the past 2 decades this was accompanied by an increase in the government credit growth as well.

As can be seen in the graph; since 2009 unlike previously whenever private credit growth started to take off the government credit growth used to taper off thus enabling the country to tread on the path of high growth with moderate inflation (the golden period from 2003-2007 as can be seen in the graph). However post 2009 both the private sector and the government sector credit have seen a rapid increase, unforeseen in the last two decades.

The government credit growth has largely been as a result of its re-distributionist policies that is causing serious misallocations of capital and not having much of an effect in increasing the real supply, thus reducing the economic productivity. This has resulted into a near double digit inflation for the past 2 years.

The RBI with all its good intention tried to reign on this unabated credit growth and thus the inflation with the increase in the interest rates. Unfortunately the fiat monetary system that we are living in is like an inverted pyramid scheme which implies that even a moderate slowdown in the credit growth can cause severe stress in the system. So as a result of the increase in the interest rates by the RBI the private sector credit is only expected to grow by 16% this fiscal compared to 21% last year making it harder for the borrowers to service the debt and thus contributing to the liquidity stress but at the same time the government credit growth which is the real source of inflation continues unabated (expected to be around 25% this year).

The slowdown in forex inflows in the last year and the severe fall in the rupee that made the RBI to intervene in the forex markets has been another source of stress in the system that has resulted in the slowdown in the increase of base money.

The only way to get out of this mess and at the same time to keep a lid on the inflation is for the country to play a three tune symphony by again attracting substantial forex inflows especially in the form of FDI, reduce government expenditure and increase private credit. Hence on the fiscal front it is critical that the government in this budget presents a credible plan in cutting down on its expenditure and at the same time show its resolve to improve the investment climate in the country thus attracting the forex inflows. This would help in improving the stock of base money and maintain the value of the rupee.

On the monetary front this should be accompanied by rate cuts by the RBI, this would translate into higher private credit growth and in turn higher economic growth rate and thus the relieving stress in the system.

Greece Debt Deal - Only A Pause Before The Avalanche

This article of mine was published in Hindu Business Line on Feb 22, 2012 Link

The Bailout package announced by Euro Finance ministers for Greece is more of the same can kicking exercise which is unlikely to last.

First let me point out some of the key ingredients of the deal:

-          -  Greece government would be given 130 billion euros to pay down its creditors and also for its re-financing needs

-     -  The plan is to reduce the Greek debt to GDP ratio from 160 percent to 120 percent by having a dual approach of austerity and reducing the NPV of the Greek debt by making the creditors take a voluntary haircut of around 53.5% on their debt holdings by reducing the coupon payments on the debt and extending the maturity of existing debt

-         -  The ECB has swapped the Greek bonds worth about 50 billion euros that it was holding in its books with another set of Greek bonds that won't be subject to any future forced restructuring like those held by private bondholders.

Now let me elucidate the fallacy of each of the above three salient points of the deal. First let’s see how these 130 billion euros are expected to be distributed among various parties.

As can be seen from the graph only 19 cents for every dollar goes into spending inside Greece, the rest gets paid to the creditors. So almost 80 percent of the European taxpayers money is being channeled to the banks and financial institutions.

Secondly the plan to reduce the Greek debt burden from 160 percent of GDP to 120 percent of GDP without almost wiping out the debt held with the private sector banks/creditors would prove to be a mirage. According to the studies done by Kenneth Rogoff and Carmen Reinhart no country save for Swaziland has ever came out of the debt trap without hard restructuring of its debt or currency devaluation. For Greece being part of the Euro, currency devaluation is not really an option. Without the option of massive currency devaluation or such a restructuring a simple cursory understanding of economics would reveal the near improbability of bringing down the Greek debt load.

From basic  economics we know that a change in  change in private sector savings is equal to the change in the government spending net of change in the current account balance i.e. ∆S = ∆G + ∆NX. Greece is currently running a current account deficit of 6.7% of GDP and assuming it remains constant, as being part of the Euro Greece has relatively open borders for free flow of goods and labour within the Euro Zone thus making it difficult to impose huge tariffs and duties on imports. Now the government’s primary deficit is planned to be reduced from 2 percent of GDP (total deficit is 9.5 percent) in 2011 to a surplus of 4.5 percent.

This can only happen with a sharp reduction in Greek Savings or if the Greek citizens can come in and take more debt. With The private sector in Greece equally levered like the government and at the banking sector facing severe capital crunch , it would be difficult for the Greeks to take in more debt as a result the proposed massive public austerity would lead to a sharp reduction in the savings rate. This would cascade into the banks calling back the loans already given to corporates and public thus further lowering the growth rates and in turn the government tax revenues.

The chart below describes this growth conundrum:

As can be seen from the diagram that this austerity drive if not accompanied by massive debt restructuring/forgiveness or currency depreciation would lead Greece into a vicious circle of deflationary depression spiral.

Lastly the swap of bonds that the ECB has done is going to set a dangerous future precedence as now the sovereign bonds held at ECB would rank senior in any future restructuring and so the next time ECB buys the sovereign debt of Spain and Italy after this brief post LTRO hiatus it could lead to further turmoil among private bond holders.

The current debt deal would only ensure that the Greek depression that has continued for the last 5 years!!! is going to prolong much longer and so the only way out for Greece in getting back to a sustainable growth trajectory is to either restructure its debt even more wherein the private bondholders may end up getting completely wiped out (the ECB holds about 40% of Greek debt which as mentioned earlier is hands-off to restructuring) or break out of the Euro zone and re-ignite its industries with a competitively devalued currency.

Let’s Take It Backwards – Ruminations for a Foresight

Sometimes one has to take a step back to move forward.

As we end this year today and enter into a New Year one could be excused of being curious how this New Year would shape. I am certainly of the opinion that the world is witnessing some serious structural changes that would hopefully make it a better place in a decade or so but in between that period we would witness unforeseen chaos. Ofcourse no one has an authority over predicting the future however I guess most of believe one simple law that the “nature ultimately corrects the anomalies and take us to the point of sustainability”, to see where this point might lie “let’s take it backwards”.

The main anomaly/fragility I find in the world today is:

-         -  The unnatural government monopolized fiat currency system

From this very anomaly flow two other anomalies/fragilities:

-          - Universities across the world conditioning young minds with wrong economic concepts

-         -  Reward of labour taken away from the productive sector of economy and given to the unproductive sector

The Unnatural government monopolized fiat currency system:

Back in 1776 when Adam Smith wrote “The Wealth of Nations” he talked about the selfish motive of individuals that ironically leads to a functioning of a well functioning economy. This thought in my opinion is absolutely correct and also formed the bedrock of the modern economic machine. However in this context where do the governments fit in?

Surely they are also a part of the society and thus following the analysis of Adam Smith the people in government are also driven by their self interest. So what really is the self interest of people in government?

Well in my opinion again it is “power”; the power to control the destiny of others and the sovereign currencies is one of the most important tools by which they exercise this power. To give an instance, under the presidency of Abraham Lincoln a civil war broke out between the North and Southern states of America, to fund the war Lincoln needed money; ofcourse taxation would have been a way but it would have been grossly unpopular so his advisor asked him to fund the war by simply printing fiat dollar (which has become a norm across the world now). However Lincoln had his doubts, he asked his advisor how do I make people accept this fiat money, the solution was very simple… ask the people to pay their taxes in this fiat currency.

This fiat currency is the instrument by which the government controls not just the economic activity but also as we are seeing now our social lives. Unfortunately we have been brought up to think this cocktail socialism that has carried on since the abolition of gold standard in 1971 and went berserk ever since Alan Greenspan became the Central Banker as free markets. The only way to bring an end to this is by denationalising currency, i.e. bringing it out from the control of government and the few big banks.

Because of this power to siphon off your hard earn wealth without most people even noticing we find the governments becoming too powerful and entering other aspects of our lives and this where the other two points of fragilities come into play.

Universities across the world conditioning young minds with wrong economic concepts:

Teaching a wrong idea is more dangerous than teaching how to pull a trigger, as a misfired can affect lives of a few people but a wrong idea can stray an entire generation onto the wrong path.

A few days back Larry Summers , who happens to be the dean of Harvard, an ex-treasury secretary and was until very recently was heading Obama’s economic team said that “It’s ironic that the solution to the problem of too much debt and consumption is again too much debt and consumption”, listening to this I should have probably thanked my stars that I didn’t go to Harvard but that doesn’t matter as even in Indian colleges the course content is simply copied from such universities which happens to contain lot of macroeconomic gibberish of Keynesian and Monetarist variety (and ofcourse not to mention the financial statistics and option pricing). Ever since leaving college I have found these tools specially Keynesian, as a total waste in understanding the economic machine. I can go on to say that the two years spent in the study of these concepts was a waste of time and I had to spend extra effort unlearning them than I would have spent otherwise. The only purpose that these tools serve is to construct an analytical relationship between a set of variable at a “given point of time” (notice the quotes). However this is of no significant value in a dynamic world.

So the question is why these thought processes become so widespread, simple because under the garb of these economic views the government can have the authority with fiscal and monetary interventions. So the government essentially employs economists with these thought process and since the primary objective of the universities is to provide employment, a person equipped with these ideas find greater chances of employability.

Reward of labour taken away from the productive sector of economy and given to the unproductive sector:

Perhaps the biggest problem the world is facing today is misdirection of resources. The true reason why free markets flourished while socialism collapsed was one “incentives”; free markets gave rewards in lieu of your contribution to society. Aren’t our scientists, engineers, doctors the real people who improve the productive capacity of this world and make it a better place and then shouldn’t they receive the greatest rewards for their labour. However again because of this monopolized fiat monetary system we see that a few banks are hoarding on the wealth and adding very little value to the society and this is giving rise to serious imbalance in this world. Because of this a lot of talented people are going into this sector, the work where demands people of far less talent instead. To give a simple example:

If I want to buy a house and no one in the economy has more than 1 million dollars, the price of the house can never exceed that number. However now come our great banks that are actually nothing but agents spreading the government control of money; through the magic of fractional reserve banking they simply print 9 million dollars out of thin air and give it to an individual at 10% interest. This causes the value of the house to jack up to 9 million dollars and for this useless activity of printing money the banks garb a cool million dollars.

So in short without adding any productive value in this society the banks have accumulate a million dollars; what a waste of resources!!! And they can do it because they have the access to the government money first over any other individual and then on the top of that they have the license to exercise fractional reserve lending; which is nothing but a complete fraud and if done by any common individual can land him into jail.

The first Great War was fought when almost the entire world was captured by few powers and the conflict was the only option to gather more resources. Today as the world population has grown and evolved the need for resources has never been greater; however with the government interventions through monetary and fiscal stimulus, the brazen monopoly of credit by banks and the policy of too big to fail has led to stark misallocation of resources. These are the changes that would be brought about ultimately and probably in this very decade, however if history is any guide then no one likes to relinquish authority by will. While I would resist making any predictions and leave it at the judgment of the readers, all I would like to say is that as we enter into this New Year we are really entering interesting times and if during the course of the year any one wants to understand where the world is headed my suggestion would be to “Take It Backwards”…….

When All Roads Lead To Rome

This article of mine was published in Hindu Business Line print edition on December 8 (link). Has been some time wherein I wrote an article just for this blog so planning to write an article next for this blog in which I would continue my option pricing series.
Here is the article...........

Italy is among the richest countries in the world, a member of G7; among the top 10 largest economies; the population in northern parts of Italy is among the wealthiest by per capita; home to some of the top manufacturing brands and a gold reserve which is second only to Germany in the Euro region (valued at around 400 billion dollars). However now with each passing day the Italian economy is pushed deeper into to the abyss, a nation stripped off its democratic virtues; people burdened with taxes; a government saddled with debt and a nation with uncertain fate.

It’s indeed a real travesty that a nation with so many resources at its disposal is looking at a bleak future with no daylight in sight and one wonders why it is so?

Well a look at this chart can answer a lot of these questions. This graph maps the industrial production of Germany and Italy since 1993. Notice how much abreast the industrial production of these two countries used to move before the introduction of Euro in 1999. However since that time this gap has been widening and today with industrial production of Italy sagging while that of Germany rising, this gap has widened to historical levels!!!

The ills of this Italian economic catastrophe lie in none other than this common currency “The Euro” which is destined to create disparity instead of parity among nations

A currency may be a store of value for an individual but for a society at large it is nothing but a way to transfer wealth and so an increase or decrease in the currency supply doesn't actually change the overall wealth of the society; it simply moves it from one person to the other. Remember a currency is nothing but a short term government liability and so a currency note printed by the Central Bank and given to banks increases the assets of the banks but at the same time increases the liabilities of the government by an equal amount, so net impact on global wealth is “zero”. However this increase in government liability now has to be serviced by ordinary citizens; they end up doing this by either putting in more hours than usual at work for the same pay or giving away more from their existing share of their income to the government in form of taxes.

Central banks already have monopoly over money creation and thus can easily transfer wealth these days by creating more money (to the benefit of capital owners and debtors over labours and savers) or by reducing its supply (to the benefit of labours and savers)

By giving away the power to print money this transfer of wealth is now happening not just between individuals but also between countries in Europe. Euro on a consolidated basis is a weaker currency for Germany and a much stronger currency for Italy in other words there are too few euros for Italy and too many for Germany.

So with such a strong currency there is little incentive for the capitalists in Italy to setup industries thus reducing the country’s productivity and industrial growth (as seen in the graph). Consequently the government ends up picking up the slack (over 50% is government contribution to Italian GDP) by running exorbitant debt that now it cannot repay. Such a condition is advantageous for a country like Germany; this is not to say that Germany and German workers are not good at their work but this provides an even extra edge as with reduced competition from Italian industries it ends up selling lots of its products. A look at the graph below would tell you the story.

Had Italy been able to use its Lira it would certainly have devalued its currency by printing more money and thereby transferring some of the wealth from its labour to its capital holders, thus unleashing the country’s entrepreneurial spirit and giving an incentive for more people to start industries.

The fiat monopolised currency system existing today in any case is flawed and on the top of that a common currency area is structurally and economically wrong and as we are seeing today has disastrous consequences. By giving away the right to the printing presses not only have the Italians and other European countries given away their economic fates to foreign masters but have also as we are seeing today, possibly given away their democratic ethos. Not only is it unfair for the common Italian citizens to pay for the folly of the bankers but living under this flawed economic structure, they are also paying for the misjudgments and hubris of their politicians and economic elites. It’s time for Italy to exit this common currency experiment and in the process pave the path for others to follow.

Time for Redemption: Don't Blame The Oriental Land

This article of mine was published in Hindu Business Line on November 19 ( link ) , posting it here on the blog with some additions.

The world is steadily but surely moving towards an era of trade wars and protectionism. With the controversial bill to punish China over its currency having been approved by the Senate, the Sino-US tensions have moved up by a few notches.

When there is dis-illusionment among the masses and the protestors are on the streets it’s rather easy to put the blame for one’s precarious state of affairs on a distant foregin land and it’s government.

The reality is that it’s not the Chinese policies but the policies of the US itself that has been responsible the nations huge indebtedness, joblessness and high Current Account Deficits.

Ever since 1980s the US financial sector has been in trouble for some reason or the other, be it the tequilla crisis, LTCM, Asian crisis, the subprime crisis and now ofcourse the sovereign debt crisis and everytime the response of the US government (infact most Western governments for that matter) has been pretty predictable; transferring of the bank’s bad debts onto its own balance sheet thereby increasing the soveregin debt load and the Central Bank happily monetizing a part of it.

The problem with money printing and issuing sovereign guarantees is that it never increases the wealth of the society; money is a store of value for an individual but for the society as a whole it is just a medium to transfer wealth from one person to the other or more broadly from one sector of the economy to another. As a result of the government’s and Central Bank’s fire fighting exercises over the  last three decades, everytime the financial sector was saved capital was transferred from the manufacturing and other prodcutive sectors of the US economy and given to the financial sector.

Chart a

Chart b

 As one can see from the graphs above; that thanks to the government bailouts and Fed money printing the bloated financial sector sucked resources from every other sector of the economy specially the manufacturing sector. Even here a large part of what is actually accounted for as the contribution of financial sector to the US GDP is the non productive activity of flipping around assets and derivatives and generating a fee income. One can only fathom of the numbers considering the 700 trillion dollars market with a daily turnover of as much as 40 trillion (globally). As also seen from the graph, for all the GDP contribution that the financial sector makes to the US economy its contribution to job creation has been paltry to say the least.

Had all these dollars that were generated to save the defunct financial sector botteled up inside the US, the CPI levels would have exploded; instead it was because the Oriental land came to its rescue by happily servicing the US citizens with cheaper goods due to its lower labour cost and cheaper currency that the US was able to maintain its mojo.

The symbiotic relationship wherein the Chinese sold their goods and services for US dollar and then recycycled them back to US by buying up the treasury bonds is what gave the US government the ability to run its various social welfare programs and ofcourse save the banks every now and then.

Chart c

As can be seen from the graph, post 2007 with the bailouts having become bigger, the fiscal deficits have outgrown the Current Account Deficits forcing the Fed to intervene with it’s massive QE programs.

It’s not the weaker Chinese yuan that is the reason for US woes, the trouble lies with the government and the Fed “Put” on the US financial sector that has led to serious mis-allocation of capital. Infact the only reason why the bloated financial sector which has taken away the productive jobs but has still not managed to completely take away the purchasing power from the US citizens thereby draining the vitality of the average US household is because of the cheaper Chinese goods for which the cheaper yuan has a big role to play.

A bill in the US senate is required to be passed, but not against the Chinese currency manipulation rather against the Fed and government’s policy towards what they term as “Too Big To Fail”.