Teaching Comparative

Money talks

What will it say?

In 1980, Milton Friedman wrote Free to Choose in which he argued that the United States' trade deficit with the rest of the world was not something to worry about. I'd contend that four things have changed in the past 28 years, and that at least one of those changes is in the province of comparative politics.

The big changes have to do with the ballooning of the trade deficit, the amount of oil the US buys from other countries, the appearance of sovereign wealth funds, and, now, growing reservations about the inerrancy of markets.

At the time Friedman wrote Free to Choose, the trade deficit was averaging about $23 billion a year. In the past ten years, the US trade deficit has been 20 to 40 times larger. In comparison, the real GDP (adjusted for inflation) has only doubled since 1980.

In inflation-adjusted terms, the price of oil in 2008 (except for the late summer spike) is about the same as it was in 1981. But our imports from OPEC countries are almost 1.5 times what they were in 1980.


The third thing that has changed is the growth of sovereign wealth funds (SWFs). The Coucil on Foreign Relations states, "... over the past five years, wealth accumulated in existing funds has ballooned and the number of new funds has spiked... The sheer size and rapid growth of these funds increasingly commands the attention not just of economists, but also political analysts."

One of Friedman's arguments for the unimportance of the trade deficit (that sends lots of dollars out of the county) was that the dollars sent abroad to pay for imports came back to the US as loans (primarily in the form of purchases of safe government bonds). American overseas investments, he argued, wee in riskier, but more productive assets. Thus the income from foreign investments here were smaller than the income from American investments overseas. Thus the balance of foreign investment income was in our favor, and the importance of the our trade deficit was reduced.

However, SWFs are no longer content to invest only in safe, low-return U.S. government bonds. They are investing in financial institutions, transport facilities, real estate, and industrial businesses. The Economist reported that the China Investment Corporation invested $3 billion in Blackstone, an American private-equity firm. The Abu Dhabi Investment Authority (ADIA) bought a $7.5 billion share of Citigroup. Another Abu Dhabi fund, announced that it intended to become one of GE’s ten biggest shareholders.


The money in these investments has the potential to talk in much more direct terms than money loaned through the purchase of government bonds.

Finally, after nearly 30 years in which faith in markets was nearly unquestioned, the strongest advocate of market economies and the world's largest economy has nationalized huge banking and insurance companies. These moves tend to contradict the "government is the problem" theme that has come out of Washington, D.C. These moves tend to lend credence to the idea that political decisions can and sometimes should trump market decisions. It reinforces the call in Europe for more political involvement in economic issues. A BBC headline recently reported that EU 'needs more market regulation'

Do these changes mean that the U.S. trade deficit contributes to a changes in the power of states that have spare cash?

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Labels: economics, globalization, politics

posted by Ken Wedding @ 6:07 AM