How many more bubbles can the US economy throw up before it sinks?

How did this massive obstacle to growth - and now, recovery - of the United States economy, come about?

If we take a quick look at its causes, we can see that the raising of interest rates to "fight inflation" after 1969 brought, not lower inflation, but stagflation, that is, higher inflation with unemployment, lower productivity and lower production. As time passed, this domestic inflation was shifted to external trade deficits as overseas suppliers, such as the Asian Tigers and, later, China, emerged to meet supply shortfalls. Domestic industry was gutted and moved offshore. This shift occurred particularly after the dramatic inflation and huge interest-rate hikes under Fed Chairman Volcker in the late 1970s and early 1980s and the supply-side Reagonomics of the 1980s.

Imports damped down inflation, interest rates fell; but money flowed not into enhanced production - and a return of "offshored" industry - so much as into speculation, especially stockmarket (including bonds and derivatives) and real estate, resulting largely in asset-price inflation. The latter caused interest rates to be lifted again, economic growth and employment to slow, the trade deficit to persist or move still higher, and so on. There was thus a vicious circle, leading from domestic inflation to the gutting of domestic industry, to financial speculation rather than real, fixed-capital investment, to asset-price inflation, to a resumption of higher interest rates and then the whole vicious circle started again.

(This vicious circle or cycle was not and is not unique to the United States. Australia has been plagued with it too; and its viciousness has been as marked for us as it has been for our big brother - our big brother in misguided economic policies. Our external-trade deficit now seems to be running at about $40 billion a year.)

Mainstream economic thinking, at the theoretical/academic, banking and business, and political level remains dedicated to the policies which have produced this vicious circle of instability and misuse of resources.

However, in its latest annual report, the Bank for International Settlements (BIS) effectively pulls the rug from under monetarism, draws attention to the ineffectiveness of monetary policy, questions the wisdom of the inflation-target policy of central banks, and the wisdom even of the independence of the central banks themselves.

BIS warns of the liquidity trap and advocates demand stimulation.
Are we entering a new era? So far, national political, business and academic "leaders" have not aligned themselves with the report of the BIS. Perhaps they never will. In the past, we have had brave statements from institutions which have not been followed by effective action. There is no sign that the International Monetary Fund, for example, which remains always under the effective command of the United States Treasury, has changed its spots.

What is certain however is that we face a crisis of unusual dimensions - economic, social, political and, indeed, strategic. One of the world's most prestigious international financial institutions, the BIS says in its report that:

Unless the leading industrial countries get their act together and pursue compatible economic policies, the world economy may be threatened by 1930s-style competitive devaluation and an outbreak of protectionism.

Although the BIS has drawn attention to the shortcomings of present policies, it has not identified, at least with any clarity or precision, the lines of policy, beyond demand stimulation, that national governments and international institutions should follow.

What is clear, as Dr Richebaecher puts it, is that "the obvious indispensable further condition for sustained, stronger economic growth is higher business fixed investment" and he quotes Greenspan as saying that "the central question about the outlook remains whether business firms will quicken the pace of investment".

Richebächer concludes that "there are no reasonable signs of an imminent pickup in U.S. economic growth in general and of business fixed investment in particular."