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Comment

America the Debtor

The US has borrowed huge amounts not only after the 2008 recession but during the last two decades. Especially, the US Federal Reserve Board has pumped in huge amounts of money since 2008. The key question is where has the stimulus money been deployed? If it has been deployed in superficially covering up the structural weaknesses of the US economy then it will go under as the loss making company selling goods at discounts. On the other hand, if the money has been invested in building infrastructure and undertaking frontline research then the US will bounce back like the loss making Company that makes productive investments.

Within the US, the main lending has been to the housing sector. People have borrowed to buy houses. This has generated demand for construction materials. Some of these are imported. That has led to the growth effect spreading throughout the world economy. The Chinese company making modular kitchens is making profits on the back of the US stimulus package. Chinese workers have got jobs in building these goods. So far so good. But housing does not generate a new stream of income. It is like a loss-making company taking a loan to build a multi-storey office in a prime commercial locality. The office is comfortable but, by itself, it does not generate income. So housing-led growth in the US economy will not enable it to repay the debt.

The second venue of deployment of borrowed money has been Government expenditures. The size and shape of US Government remains bloated. The military excursion in Afghanistan and against North Korea continues. The military and consumption expenditures of the Government do not generate a new stream of income. Welfare expenditures such as in food stamp programme also continue to grow. There has been very little, if any, investment in improving infrastructure that would help US companies face global competition. Airports in the US today bear a dilapidated look in comparison with those in Delhi, Dubai or Hong Kong. Grants for research are also being reduced. Many major technological advances made by the US such as nuclear energy and internet have been financed by the US Government in the past. Reductions in such investment will not provide the competitive edge to US companies which they have enjoyed in the past.

The third place of deployment of borrowed money has been overseas investments by US companies. Funds have been borrowed in US at near zero rates of interest and the money has been invested abroad. These companies have repatriated their profits and this has brought a new stream of income to the US. There is fear in India that tapering of the stimulus will lead to exit of FIIs from the country. This indicates that FII investments in India are financed substantially from the stimulus money. This is 'productive' from a global standpoint because the FII inflows into India ultimately find their way into investments by Indian Companies. But this investment is unlikely to help the US repay its debt. The interest rates will rise as soon as the stimulus is withdrawn; US companies will exit from overseas investments and this stream of income will come to an end.

Part of this money has been invested by US companies in new technologies. New generation of surgical parts such as those for knee replacement have started coming from the US. The US supremacy in high-tech items like routers and servers remains intact. This investment will truly help the US generate a new stream of income and repay the debt.

Whether the US- and the global economy grows in the coming years or it collapses will depend upon whether the part of borrowed money deployed in productive works like foreign investment and technologies that will generate a long term stream of income. Only a fraction of the stimulus money has been utilized productively. It is quite likely that the US economy will come under pressure as the withdrawal of stimulus works itself out and it is likely to collapse as soon as it becomes difficult to raise new loans.

The situation of China is exactly the opposite. It has the largest foreign exchange reserves in the world. It is the largest purchaser of US Treasury Bonds. It has very high rates of domestic savings. The Chinese Government is using these savings to buy US Treasury Bonds. The weakness of the US and strength of China are two sides of the same coin. There is little chance of the US economy growing at such pace that it may be able to repay the huge debt. In consequence it is likely to continue sinking under more debt. The choice before India, therefore, is whether to join hands with the big debtor or the small creditor. If anything the future belongs to the creditor, not the debtor.

Frontier
Vol. 46, No. 51, Jun 29 - Jul 5, 2014