Old inflation never dies; it only fades away

As we all know, the rest of the world is crazy - and therefore wrong. Only each one of us is, in his or her view, NOT crazy - and, ipso facto, has the brilliant insight to be right.

On that basis, I have the "right" to tell those who have been contributing to the discussion of the United States trade deficit, that none of you has come even close to a true and reliable analysis of the dollar situation and that huge - should I say massive? - US dollar trade deficit.

So let me enlighten you.

The huge dollar trade deficit is not unique. It has its little-cousin equivalent down there in Australia - a country whose currency has never dominated world markets, never been a reserve currency, never done any of those grand things that are customarily attributed to its big cousin across the Pacific.

The huge US dollar deficit - and the smaller but still not inconsiderable Australian $ deficit - are both due to the inflation - domestic inflation which then spread internationally - the inflation that started in 1969 and whose "remedy" produced the even greater inflation and stagnation which followed throughout the 1970s and into the 1980s. The inflation plus stagnation came to be known, reasonably enough, as "stagflation".

Most people have come to believe that it was some sort of clever policy - possibly founded on some variant of monetarism - and the "discipline" of central banks, including the Fed, which brought about a cure to this inflation and stagnation and delivered us into the mind-bogglingly prosperous 1990s.

None of this is true.

First, anything resembling "monetarism" has been/is an unqualified disaster. Not only did it not cure inflation, it made inflation worse, indeed, made it chronic.

Second, there were no other clever policies that had anything to do with providing a cure for "stagflation." Almost without exception, US policies and the equivalent elsewhere, again for example in Australia, made things worse, if not in the short term, then not much later. The policies did result in a lowering of the living levels - or at least a stagnation of those levels - for the workers and the middle classes. This was accompanied by a stagnation or even an absolute reduction of social services, including such things as unemployment benefits, invalid and old-age pensions and so on.

Third, the reduction of social-services expenditure tended, ceteris paribus, to stabilise inflationary pressures. Unwillingness of governments to undertake essential infrastructure expenditures and eagerness to sell off the family silver to private enterprise also gave the impression that something closer to a match between demand and supply was being achieved. However, these savings were made in a context in which investment generally was limited, in which disinvestment took place through failure to replace depreciated assets, and in which the economy exported much of its industry overseas or across the national borders.

Fourth, while all this was going on, inflation in the US (and Australia, remember) was offering a juicy market to anyone who could get in there and sell. For a while, in the 1970s and 1980s, only countries like Japan and West Germany, who maintained their real investment and their export capacity, could help meet these needs but the Asian Tigers and their kin gradually and quite quickly came into their own. Their unprecedented economic growth was the other side of the United States coin, which, comfortingly, showed a decline in levels of domestic inflation. At the same time, there came into being those famous trade deficits - which have, after so many years, become chronic trade deficits.

That's a rough and brief outline.