Oct 14, 2013 04:09 PM

Ungovernable America


The U.S. government shutdown reflects irreconcilable differences among different group of the population. Even if some stopgap measures are soon adopted to reopen the government, the cause of the shutdown will not be addressed. 

There is a significant risk that the U.S. Congress may not raise the debt limit and the U.S. government will default on its debt. If the United States does default, the global economy is likely to fall back into recession due to the resulting financial turmoil. The most likely scenario is for a temporary solution that would allow the government to continue to service its debt for another year. However, unless some sort of solution is reached to reconcile the differences between the left and the right, sooner or later the U.S. government will default.

A Divided Society

In the five years before the 2008 financial crisis, the top 1 percent of U.S. households garnered 65 percent of the growth in national income. Since, it has increased to 95 percent. The share of the national income going to the top 1 percent increased from 7.3 percent in 1979 to 12.9 percent in 2010. Median U.S. household income declined by 12.4 percent between 2000 and 2011, even as national income rose by 18 percent. These statistics show highly inequitable income distribution that gets more inequitable by the day.

The wealth side story is even more shocking. The top 1 percent accounts for 22 percent of total household wealth. As high-income households tend to have more wealth relative to income, they have benefited enormously from the Fed's policy of reviving the economy through monetary stimulus, which boosts asset prices. The economic benefit is supposed to happen when some who get rich from asset inflation spend, and the resulting trickle-down effect spreads the prosperity to everyone.

From mid-2012 to 2013, the United States' net household wealth increased by US$ 7.7 trillion, or half of GDP. The economy expanded by about 2 percent. And, the 2 percent, the supposed trickle-down effect, actually all went to the top 1 percent of the population.

I have argued for years that monetary stimulus worsens inequality. The Fed's experiment of using vast quantitative easing to revive the economy is a live example. While U.S. household net wealth rose from US$ 48.5 trillion in the second quarter of 2009 to US$ 74.8 trillion four years later, the average income did not move. Given the enormous concentration of wealth, rapid wealth expansion entrenches the power of the wealthy class in manipulating national policy in favor of capital income and an asset bubble.

Globalization Drives Inequality

Today's globalization is led by multinational companies that produce wherever the cost is the lowest and sell wherever the price is the highest. It is quite different from the previous wave of globalization before World War II. The current wave of globalization is driven by manufactured goods. As capital and materials are priced the same globally, the only driving factor for today's globalization is really the cost of labor.

As labor costs are low in emerging markets and selling prices are high in developed markets, manufacturing activities inevitably flow to the former from the latter. The progress in information technology is making more and more jobs moveable. A decade ago the impact of globalization was mostly on blue-collar factory workers. Today management and research and development jobs are also moveable. This is why the middle classes in developed economies have been under enormous pressure in the last few years. One could argue that the origin of the 2008 Global Financial Crisis is due to the Western middle class defending its lifestyle with debt.

The squeeze on the white-collar middle class is intensifying with further progress in IT. Most white-collar jobs within a large corporation involve collecting and analyzing information. The latest technologies use computers to perform such functions. If some work cannot be done by computers, they can be easily outsourced to anywhere in the world. In the 1990s, Western economies gave up on factory jobs and shifted to white-collar jobs that prospered on adding value to low-cost manufacturing in emerging economies. Hence, goods have been sold at five to ten times the ex-factory price. This enormous gap has allowed so many white-collar jobs to exist. E-commerce is likely to destroy most such white-collar jobs. The impact from globalization on developed economies is intensifying, threatening to unhinge them.

Corporatist Societies

Germany and Japan have handled the internal stress from globalization better.

Their companies tend to prolong the employment of existing workers, and do not slash or hire according to short-term business conditions. This culture has the advantage of not leaving workers unemployed for a long time, which tends to degrade their working skills. Their governments provide direct incentives for prolonging employment. The German government offered subsidies for keeping workers employed during the last downturn. The Japanese government is offering a fiscal incentive to businesses that increase wages. The corporate cultures in these countries are clearly different from Anglo-Saxon countries like the United States, Britain and Australia. This is why, despite similar costs, Germany and Japan have kept a large manufacturing sector, while Anglo-Saxon economies have lost out.

Another difference is in keeping the cost of living down. Globalization has made compensation global. However, the cost of living, dominated by housing, health care and education, is still locally driven. Germany and Japan have done quite well in keeping the living costs down. While their corporate culture keeps down income inequality, government policies keep down living costs through policies against property speculation, for providing quality and government-subsidized health care and education. Anglo-Saxon countries do the opposite. While they lose out in manufacturing, their policies have encouraged financialization of their economies for temporary gains in economic prosperity. Financialization leads to inflation of non-tradable goods and services like housing, education and health care. While their workers lose out in global competition, they face escalating living costs. The social impact from the squeeze is obvious.

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