Saturday, October 15, 2011

Possibilities for the American Economy in the Near Future

One thing that Austrian economics can teach us is that the future is uncertain.  In order to understand economics at all, you have to understand the importance of human action.  Human beings have free will.  They will act according to their personality, their needs and wants, and their environment.  It is impossible to predict exactly how billions of people on this planet will act.

Based on economics, history, and our understanding of what generally motivates people, we can take some good guesses at what the future will look like, at least in an approximate way.

The future of the American economy will depend on the actions of Obama, Bernanke, their advisors, and the federal government in general.  It will also depend on foreign governments.  It will also depend on the American people and popular opinion.

With all of that said, let's look at some of the possibilities that America is facing economically.

The Federal Reserve has tripled the money supply in the last 3 years.  Most of this new money is with commercial banks, most of which is parked at the Fed as excess reserves earning the banks .25% interest.  The government is involved in military conflicts all over the place.  The national debt is about as high as the yearly GDP and the annual deficits are well over one trillion dollars.  There was a big correction that showed up in 2008, but the government has prevented this correction from fully taking place.

The previous artificial boom led to a misallocation of resources.  For example, there were too many resources (labor and material) going towards new housing.  This became obvious in the last few years and this is why unemployment tends to be higher in the housing and construction business.

I see only two ways of returning to real and significant growth.  One way is that the government could get out of the way and we could allow the correction to happen.  The second way is that we could see great technological advances, even in the face of massive government spending and regulations.

While I am optimistic for the future in the long run, I am less optimistic that the government will shrink in the next few years.  The government will eventually be forced to cut back when it faces the threat of hyperinflation or bankruptcy.

I think one likely scenario is that we keep bouncing in and out of recessions.  It is looking likely that the economy is turning down again.  If this happens, we could see another round of "stimulus" from the government and/or the Fed.  It would not surprise me to see high price inflation at some point, although, as I have said before, I don't expect hyperinflation.  Eventually, the Fed would have to pull back as it did in the late 1970's and early 1980's.  This would cause a huge correction.

I think another scenario that is possible and even more likely than I originally thought, is that the economy muddles along in stagnant mode.  Due to the internet and the Ron Paul revolution, the Fed cannot get away with things like they did in the past.  This makes severe price inflation a little less likely.  Perhaps we will see something in America that resembles Japan of the last 20 years.  This would be a scenario where the government will not allow the correction to happen all at once.  It is the equivalent of pulling a band-aid off slowly.

Another possible scenario, but one that I see as unlikely right now, is that we have another recession (or a continuation of the recession, depending on your point of view) and the government actually does little to stop it.  The only problem I see with this is that the politicians in DC are still spending massive amounts of money.  Most of the spending is on the military and entitlements.  I just don't see this spending coming under control unless the politicians are forced to, either by voter opinion or by the laws of economics.

There is one thing we can be certain about.  As long as the government keeps running huge deficits and keeps interfering with the economy, then a genuine recovery will be difficult.  The government is sucking up resources from the free market economy and it is misallocating these resources at best or destroying these resources at worst.

Barring any revolutionary technology that bursts on to the scene, the government is going to have to loosen its grip for the American economy to get back to significant growth.  People are feeling squeezed right now and it all comes down to government spending and regulation.

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