In other words, the longer the U.S. dollar-kiting scheme continues, the greater the increase in the otherwise seemingly remote probability of, not just U.S. recession and recurrent stagflation, but a global depression? "Multiple catastrophic failures in the global financial system" would be the proximate cause,- (which presumably no amount of hedging could protect against, since the risk-arbitrage of financial markets is adjusted to a "normal" range of probability distributions and can not effectively price remote, but catastrophic tails, partly due to their lack of liquidity, e.g., Long Term Capital Management)-, but the underlying cause would be an endemic mismatch between production and consumption in the "real" economy, in other words, the failure of "Say's Law", due to underconsumption (by workers) and overproduction (by capital), but this time enhanced by the novel technological boost to the productivity of capital, together with its skewing effects on income distribution.

On the other hand, what enables the dollar-kiting scheme is the fact that the U.S.A. pays such a low rate of interest on its debt, in comparison with its returns from abroad, which has only been enhanced to date by the pumping of excess liquidity into the "system". If the U.S. external debt is $3.5 trillion at, say, 4% average interest, that is only about 1.5% of GDP. So long as the East Asians are willing to chow down on U.S. $, the profit differential between the U.S.A. and RoW maintains the illusion on sustainability, especially as deflationary pressures drive corporate strategies. (And one suspects, at least in the case of the PRC, that there is a geo-political motive and not just an economic one: they might be helping to finance our profligate "defense" spending now, but that is cheaper than trying impossibly to compete on those terms, hence "economic" for them, but, when they are better able to produce and afford a military build-up, our "defense" spending will have to be drastically slashed, since there is scarcely any other room in the "discretionary" budget.) Is one permitted to ask how much of the current trade imbalances involve, de facto or de jure, infra-corporate transfers in the operations of MNCs? At any rate, both the recklessness of the current U.S. government and the apparent complacency of much mainstream economic analysis- (a good deal of it goes back to all those tax cuts)- are worth pausing for amazement. As the old saying goes, penny wise, pound foolish. That's pound sterling...

Posted by: john c. halasz at March 2, 2005 09:23 PM

In other words, the longer the U.S. dollar-kiting scheme continues, the greater the increase in the otherwise seemingly remote probability of, not just U.S. recession and recurrent stagflation, but a global depression? "

Yes.

Multiple catastrophic failures in the global financial system [... which] presumably no amount of hedging could protect against, since the risk-arbitrage of financial markets is adjusted to a "normal" range of probability distributions and can not effectively price remote, but catastrophic tails, partly due to their lack of liquidity, e.g., Long Term Capital Management

Yes, true.

But ...the underlying cause would be an endemic mismatch between production and consumption in the "real" economy, in other words, the failure of "Say's Law"

Yes, I neglected to mention that.

Is one permitted to ask how much of the current trade imbalances involve, de facto or de jure, infra-corporate transfers in the operations of MNCs?

According to what I have heard, most of it (>80%, certainly). I would love to have a source for that...I'm hoping that my next macroeconomic post addresses precisely this ("Hopes," because it'll be on a paper by Roubini & Setser, ensha'allah).

At any rate, both the recklessness of the current U.S. government and the apparent complacency of much mainstream economic analysis are worth pausing for amazement

Come here often? Seriously, yes, I don't know what inhibits me from screaming this.

Posted by: James R MacLean at March 3, 2005 05:13 AM

Kasriel at Northern Trust came through the other day with an interesting article that shed some light on this dollar kiting business.
http://www.northerntrust.com/library/econ_research/weekly/ (Mar4 2005)
What those Islandic fisherman don't know: Growth in central bank holdings of US treasuries is a leading indicator of US growth and that has been declining since mid 04. According to Kasriel the lag is 4 quarters.

Posted by: calmo at March 6, 2005 05:09 AM