US Economy: Rudderless and Reeling From Direct Hits

We were promised a
"New Economy"
of high-tech tradable services
to take the place of the offshored manufacturing
economy.  Wondering what had become of the
"New Economy,"  Duke University`s Offshoring Research Network
searched for it and located it offshore.  Yes,
the activities of the
"New Economy"
are also outsourced offshore.

Call centers, IT operations,
back-office operations, and manufacturing have long
been moved offshore.  Now high-value-added
proprietary activities such as research and
development, engineering, product development, and
analytical services are being sent offshore. 
All that`s left is finance, and it is crumbling
before our eyes.

Independent broker-dealers are
disappearing:  Merrill Lynch, Bear Stearns,
Lehman Brothers.  These venerable institutions
were too thinly capitalized for the risks that they
took.  Merrill Lynch is now part of the Bank of
America, and

Lehman Brothers is history

Ill-advised financial
deregulation led to financial concentration and not
to more efficient markets.  Independent local
banks, which focused on financing local businesses,
and Saving and Loan Associations, which knew the
local housing market, have been replaced with large
institutions that package unanalyzed risks and sell
them worldwide. 

Regulation over-reached. The
pendulum swung. Deregulation became an ideology and
a facilitator of greed.  

Deregulating electric power
gave us


Deregulating the airlines
destroyed famous American brand names such as Pan
Am, shrank the number of companies, and caused a
decline in service.  When airlines were
regulated, they could afford standby equipment, and
cancelled flights were rare.  Today, the bottom
line prohibits standby equipment, and mechanical
problems result in cancelled flights.  When
economists calculated the benefits of deregulation,
they left out many of its costs.

There are no longer any blue
chip companies, which means that investing for
retirement  has become a crapshoot. 
People realize this; thus, the privatization of
Social Security has no support. 

If we look realistically at the
US economy, we see that what is not moved offshore
is being bailed out.  Last year, the US
Department of Energy was authorized to make $25
billion in loans to auto manufacturing firms and
suppliers of automotive parts.  Last week the
Secretary of the Treasury took $5 trillion dollars
in Fannie Mae and Freddie Mac home mortgages under
its wing.  

The Congressional Budget Office
this action by the Treasury means
"that the
operations of Fannie Mae and Freddie Mac should be
directly incorporated into the federal budget."
Their revenues would be treated as federal revenues,
and their expenditures as federal expenditures. 
If the former were greater than the latter, there
would be no reason for the takeover.

The open question is: 
what do these new liabilities do to the Treasury`s
own credit standing?

For now, this question is
submerged.  The traditional practice of fleeing
to the US dollar and US Treasury bonds during
periods of financial stress and uncertainty has
boosted the dollar and kept interest rates low. 
But sooner or later the large US budget deficit,
worsened by recession and bailouts, and the large
trade deficit, which requires constant recycling of
dollars held by foreigners into US financial and
real assets, will result in renewed effort on the
part of foreigners to lighten their dollar

When this time arrives, US
interest rates will have to rise in order for the
government to be able to continue to rely on
foreigners to recycle the dollars acquired in trade
to finance the US government`s annual budget

The current financial problems
have pushed into the background the larger problems
of the US budget and trade deficits.  Goods and
services for American markets that US corporations
outsource offshore return as imports, which widen
the US trade deficit.  Moving production
offshore reduces US GDP and employment and increases
foreign GDP and employment.  Moving production
offshore reduces the export capacity of the US
economy while raising the import bill.

Therefore, how is the trade
deficit to be closed?  One way is through the
dollar`s loss in exchange value, which would reduce
American consumers` real incomes and leave them too
poor to purchase the offshored goods and services.

How is the budget deficit to be
closed when jobs are disappearing and GDP (tax base)
is being relocated offshore?  

Not by higher taxes. Higher
taxes are problematic for a recessionary economy in
which unemployment, properly measured, is already in
double digits (

Some people have speculated
that the budget deficit will be closed by
dismantling entitlement programs such as Medicare. 
However, considering the cost of medical insurance,
this would be catastrophic for tens of millions of
older Americans.  

The more likely avenue will be
a raid on private pensions. The Clinton
administration`s appointee,

Alicia Munnell,
as Assistant Secretary of the
Treasury for Economic Policy argued that private
pensions should face a capital levy to make up for
the fact that their accumulation was tax free. 
I expect that the federal government, faced with its
own bankruptcy, will resurrect this argument, as it
will be preferable to

printing money
like a

banana republic

Weimar Germany

In the 21st century, the US
economy has been kept going by debt expansion, not
by real income growth.  Economists have hyped
US productivity growth, but there is no sign that
increased productivity has raised family incomes, an
indication that there is a problem with the
productivity statistics. With consumers overloaded
with debt and the value of their most important
asset–housing–falling, the American consumer will
not be leading a recovery.

A country that had intelligent
leaders would recognize its dire straits, stop its
gratuitous wars, and slash its massive military
budget, which exceeds that of the rest of the world
combined.  But a country whose foreign policy
goal is world hegemony will continue on the path to
destruction until the rest of the world ceases to
finance its existence.

Most Americans, including the
presidential candidates and the media, are unaware
that the US government today, now at this minute, is
unable to finance its day to day operations and must
rely on foreigners to purchase its bonds.  The
government pays the interest to foreigners by
selling more bonds, and when the bonds come due, the
government redeems the bonds by selling new bonds. 
The day the foreigners do not buy is the day the
American people and their government are brought to

This is not the financial
position of a superpower.

Will what happened to Lehman
Brothers today be America`s fate tomorrow?

Paul Craig Roberts [email
] was Assistant
Secretary of the Treasury during President Reagan`s
first term.  He was Associate Editor of the
Street Journal.  He has held numerous academic
appointments, including the William E. Simon Chair,
Center for Strategic and International Studies,
Georgetown University, and Senior Research Fellow,
Hoover Institution, Stanford University. He was awarded
the Legion of Honor by French President Francois
Mitterrand. He is the author of

Supply-Side Revolution : An Insider`s Account of
Policymaking in Washington
and the Soviet Economy

Meltdown: Inside the Soviet Economy
and is the co-author
with Lawrence M. Stratton of

The Tyranny of Good Intentions : How Prosecutors and
Bureaucrats Are Trampling the Constitution in the Name
of Justice
. Click

for Peter
Forbes Magazine interview with Roberts
about the recent epidemic of prosecutorial misconduct.