The Principle of Balance of Payments

Today I’m going to continue with the history of the dollar.  From the announcement of the dollar’s peg to gold in 1944 to the run on gold in 1971, the Bretton Woods system collapsed after only 27 years of survival, and the dollar, free dwindled by gold, was on the road to debt inflation. Today, I continue to use the story to illustrate what happened to the dollar after the decoupling from gold.  

Let’s liken the main countries to families, namely, the American, the European, the Chinese, and the Japanese.  Despite tearing up the promise linked to gold, the American’s economic strength is very strong together with alliance of European Union, other small ethnic groups have no ability to fight against them, and thus want to continue to do business with the Americans.  The US dollar unpegged with gold continue to circulate and accumulate as savings among the various ethnic groups.

In the 80’s, the Japanese family began to grow. The products that Japanese sold to Americans greatly exceeded the products bought from Americans. Therefore, the Japanese family hoarded a large amount of US dollars. The Japanese used the money they earned to buy the houses and lands from the Americans.  The self-esteem and vitality of the Americans were severely damaged. Eventually the Americans and Europeans jointly pushed for the appreciation of the Japanese currency. As a result, the appreciated Japanese currency reduced the competitiveness of Japanese goods.  The single out Japanese could only endure the unfairness in order to survive.   During this period, despite many trade disputes between the various ethnic groups, life for the Japanese was relatively peaceful.

In 2000, American’s big trouble came, and the Chinese family, which has always been hard-working, smart and not prone to troubles, accelerated to rise. The Chinese family not only worked hard, but also cooperated with the most advanced American bosses to set up factories. The Americans are good at scientific research and development. The Chinese people are pragmatic and hard working. The American bosses have mastered most of the initiative and gave the dirty work to the Chinese people. They still make most of the profit. Why not? The Americans control the design and consumer ends of the industrial chain, and the Chinese are responsible for production. This is what the Americans calls the smiling business rule.

However, after playing with the smiling business rule, it becomes the rule of crying. One after another, the American factories have moved to the territory of the foreigners, and even all the necessities of daily life must be purchased from other ethnic groups. In addition to the Chinese, other families are also willing to sell goods to the Americans’ chassis. As the Americans have high wages, and people are lazy, they have nothing to sell to other ethnic groups, so they continue to raise debts and owe more and more debts.

The above story illustrates the model of the international trading system. The current international trading system is actually still a variant of barter trade. When the international trade has reached the settlement level, the trade surplus country owns the debt of the trade deficit country, the surplus is positive, and the deficit is negative. Between 2000 and 2018, the U.S. accumulated a current account deficit of $10 trillion, and the U.S. net external debt was $10 trillion.  Please pay attention to this critical phenomenon!  The cumulative current account deficit of the United States is equal to its net external debt.  Important words have to say three times: the cumulative current account deficit of the United States is equal to its net external debt; the cumulative current account deficit of the United States is equal to its net external debt. This is the principle of balance of payments.  How much deficit a country has accumulated, it would accumulate an equivalent amount of foreign debt. While we are trying to understand the problem of the dollar and looking for a way out for the new monetary system, we must keep this principle of balance of payments in mind. With this in mind, all other problems could be solved.  The United States has accumulated a long-term trade deficit, and its dollars naturally flow to the trade surplus countries, leading to the constant expansion of U.S. external debt.  To put it bluntly, when international trade has reached the settlement level, it undoubtedly becomes a zero-sum game.  Let me analyze why it is a zero-sum game in next talk.

Time is up for this session. The dollar problem concerns all of us. Out of this centennial change, the most important one is the change of currency. Foreseeing correctly how this happen perhaps providing the biggest opportunity for wealth explosion in the next 20 years. This is my original aim for this series of lectures. Keep listening, and you will definitely gain something.

Thank you, see you next time
 
Ma Xia on November 9, 2019.