Economic Theory

Degen Hagos Jan 2018

It is often the case that individuals project their own circumstances onto others. This truth extends to the case of governments. As such, one of the major economic drawbacks of democracy, is that governments that believe that they should run the county as a well run household get the support of the masses and secure control of the government.

People have the tendency to believe that governments, such as households, should focus on paying down their debts, increasing their savings, and accumulating wealth. However, the truth is much different. Governments wealth is limited to the land and resources it possesses, and as such they cannot increase their wealth the way a household does by simply saving. By doing so they would merely be moving assets which they own from one form to another.

An example of this is when an oil producing country drills its oil. The commodity always belonged to said country, so the total value of the oil produced does not add to the countries wealth but rather changes its form from oil to money or another commodity for which the oil was exchanged. This fact has series implications in how a government should treat and use its resources.

The true goal of a government should not be to trade off all of its resources for money, as the country would be no better or no worse off had it simply held its own resources. The true goal of a government should rather be to increase its capability to produce resource, secure trade with other governments that have resources that they lack, and improve the state of the nation for the individuals that reside in that nation.

Goal 1: Increasing Capability to Produce Resources

There are 3 main factors that influence a countries ability to produce resources. They are the natural resources available to the country, the working capacity of the individuals in the country, and the technology available to the country. As the first of these is fixed, countries should focus on the remaining 2 variable factors when trying to improve its ability to produce resources.

Developing technology, is also a difficult focus for a government, and although resources can be applied to increase research and improve education, the government will have little direct impact on when new technologies will become available. However, countries should continually consider a direct correlation between the level of education of its citizens and the amount of resources it applies to research and the attainment of its goals.

When a country finds that it's working capital is being deployed to full effect; it has reached full employment, it should turn its efforts to increasing technology. This means that a country should continually be in a cycle of increasing technology and directing resources to implement that technology.

The third factor, the working capacity of the individuals, is the easiest for a county to influence unless it is near or at full capacity. The majority of countries that struggle to put their citizens to work, have difficult due to their ill guided goals. Rather than having the goal of getting to full employment, their main objective is to increase savings and reduce debt. If countries were to focus solely on increasing the employment rate with little regard to their debt they would achieve this goal much quicker.

Countries must be careful when they take on debt, as all debts are not created equal. And thus the first difference between a country and a person. Countries have two main types of debt, individuals only have one type of debt. A country can borrow in its own currency, or in a foreign currency, and these are not equivalent transactions.

A person that takes on debt must repay that debt, or they will default. A country that takes on debt, may avoid paying off the debt in the traditional sense, if the debt is in a currency that the country can print. If the debt is in its own currency, a country can pay it back by printing money, and inflating its currency. As a result of this a country should not consider money it has borrowed in its own currency as a debt, but rather as a record of account.

Whenever possible a country should issue debt in its own currency. It should then use this money to improve its nation, increasing its countries productivity and working capacity. In doing so, it will increase its ability to access its own wealth. If a country takes on debt in its own local currency, and deploys it to improve the living conditions of its individuals, increase the productivity of its country, and increase access to raw materials within its boarders it will improve its GDP. So long as the GDP to debt ratio is maintained within reason, the country will not experience inflation.

The second kind of debt that a country can take on is foreign debt. This debt should be monitored carefully, but separately. Although a country should keep enough foreign reserves to remain solvent and liquid, it need not focus all of its attention on stockpiling foreign reserves. A country should rather focus on attaining foreign assets which produce incomes that can offset their foreign debt, and producing commodities that the foreign country from whom the debt is borrowed is in need of.

So long as a country is producing a good that a foreign country requires, it need not worry about its debt in denominated in that countries currency. Using oil as an example, if a country produces oil and can sell it for USD, it need not worry about its debt in USD in total terms, but rather the ratio of the oil it produces to the debt. As a consequence of this, so long as the oil producing country is using the money it gains from oil to increase the productivity of oil companies it need not worry.

It need not deploy the foreign currency to achieve this goal (unless it is acquiring foreign technologies or resources). A country can simply print its local currency, in an equivalent amount to that which was borrowed in the foreign currency, and use the local currency to deploy local resources to produce more oil.

As such, a country is always trying to balance the deployment of its resource between improving the productive capacity towards resources it and its citizens need, and that of the needs of foreign countries with which it trades. This should not be a surprise, as these two things are equivalent. Since the debt accumulated in foreign currency was done so to acquire resources that it and its citizens need that are not readily available at home. That is, the country really has only one goal, to increase the resources it and its citizens require to improve productivity at home, but this is accomplished in the two manners outlines above.

In the absence of a major paradigm shift (oil no longer being used as a resource), a country need not worry about its foreign debt so long as the country deploys the right amount of resources to increasing its productivity to its exports. That is for every foreign dollar trade deficit it incurs, it should deploy 1 dollar of resources to the commodity that the foreign country desires.

In real world situations this will translate to increasing any of your imports in direct relations with your trade deficit. Thus a government will be balancing its deployment of resources between what it requires and what it exports (to attain what it requires). But in both instances it should not be mainly concerns with the accumulation of money, but rather with Increasing Capability to Produce Resources.

Goal 2: Securing Trade with Foreign Governments

One can quickly lose sight of ones goals when attempting to implement an idea. This is often the case with foreign trade. Governments tend to learn that foreign trade is good, and then make increasing foreign trade their main objective. Increasing trade for the sake of trade is not a good goal. A country should rather attempt to secure resources it requires as its main goal. This means all trade is not equal.

It is worth mentioning that a trade deficit is not necessarily a bad thing. Since the main goal is to secure resources, a trade deficit would translate to the accumulation of more resources than are being lost. This is a net increase to the true wealth of a nation. However, it also means that a country is accumulating debt. This needs to be balanced out as explained above.

If a country is increasing its ability to tap resources that its trading partners desire, it will be able to enter into a trade deficit. Since its deploying additional resources that are received as a consequence of the trade deficit to improving the acquirement of commodities that are desired abroad, the country will be able to repay the debt at a lower cost of capital.

I will illustrate this with an example. If Country A produces beef, and Country B requires beef and has lumber (all of which it currently consumes) that Country A wants, Country B can enter a trade deficit with Country A where it gives beef to Country A as well as taking on debt to Country A. This debt will eventually need to be repaid with the commodity that Country A requires (lumber).

If Country B is currently producing and consuming 1 ton of lumber a year, and buying 2 tons worth of lumber in beef a year, after 1 year it will be in debt to Country A in the amount of 1 ton of lumber. This is equivalent to 1 years production of lumber for Country B. But if country B allocates resources to improve its ability to produce lumber, such that it is producing 2 tons of lumber a year next year, it will no longer be in a trade deficit as it can export the excess 1 ton of lumber to Country A.

Now if Country A does not require more lumber, in an open market, Country B can still sell the lumber for the equivalent amount of money and pay off the debt. Thus focusing on the amount of exportable resources being produced will insure that debts balance out. In addition to increasing the amount of resources Country B is producing, this will have the added benefit of increasing the strength of Country B's currency, as currency strength is correlated with trade balance and productive capacity; the foreign debt to GDP ratio will decrease.

In the short run, running a trade deficit to improve the productive capacity of a country is not a bad thing. It insures that more resources are going into your country, than your trading partners. One must just insure that these resources are deployed well. This is true so long as the country is not at full employment.

Once a country reaches full employment, they will find it difficult to increase productive capacity until technology is developed. This means that as a country improves its deployment of working capital and its attainment of current technologies, it should insure that it reduces its trade deficit.

When a country has a trade surplus, it should reduce the amount of capital it deploys in improving the production of commodities that are desired in foreign countries and focus on improving the living conditions and productivity of locally desired goods. Increasing living conditions should be considered a crucial activity for a Country as it does not want to lose its working population, and wants to attract foreign investment and talent.

Many countries have large trade surplussed, but struggle with maintaining capital, attracting investment, or keeping their citizens satisfied. This is mainly due to economist neglecting living standards when addressing the deployment of capital. Countries should remember, the end goal of government and consequently the deployment of capital, is to build a country that is efficient and a desirable place to live. Once a country has built itself to be a desirable place to be, it will gain many advantages over other countries. Economic goals should go hand in hand with social goals. Improving the life expectancy of citizens, education levels, health, and living standards insures that a country can attract the best and brightest citizens. It also insures that its citizens are their most productive.

A country has not reached full employment until it has achieved the highest living standards of the time. As such, any trade surplus should be used to improve the living standards of a country in addition to the development of new technologies.

this should be the true goal of a nation in every aspect of every activity a government takes on. Governments tend to spend efforts on securing their own power, or maintaining the status quo at the expense of the Nation. If governments would focus more on improving the state of the nation for the individuals that resided in it, they would need not worry about losing power.

When deploying a countries resources the main objective is to improve the country for its citizens. For what is a government in a democracy if not a subgroup of the individuals that reside in the country. This goal is made easier, by the fact that a country need not worry about the debt it holds in its own currency. So long as the debt it takes out in its own currency is used to improve the living standards and productivity of its citizens it will always be able to service its debt. This is true since its citizens will never desire to leave the country, and will always require the local currency to conduct business. Taxation in a nation that offers the highest standard of living is a guaranteed way to insure that a government can print more money and take on more debt.

We must remember, that a countries expenditures are not limited by taxation, but rather by the resources it can deploy. If a country does not increase its ability to deploy resources or improve the standard of living of its citizens, printing more money will only lead to inflation (this is true of all nations with the exception of the USA). However, if a country uses the money it prints to improve the standard of living of its citizens and/or improve its ability to tap resources it can print money while simultaneously maintaining the value of the money it prints (within reason).

This means that a country should not increase or decrease taxes in order to balance its deficit. The deficit should be balanced as outlined above. So what is the purpose of taxation. Taxation, simply put, gives value to your currency. The only other requirement is that people desire to live in the country that has imposed the tax. So long as citizens desire to live in a country, the country can print money and give value to the money by commanding that taxes be paid in the local currency. The tax money can then be used to reallocate resources in the manner outlined above.

Since the value of a local currency is dependant on individuals wanting or having to live in the country, increasing peoples desire to live, visit, or do business in a country will increase the countries ability to print money, and consequently balance their accounts.

The ultimate goal, of the first two goals is to get your country to a point where it has a trade surplus which is being deployed to increase the standard of living of your citizens and attract foreign investment and travel. Once a country has entered into a trade surplus and is near or at full employment, it should focus on the living standards of its citizens. It can do this by increasing education and developing new technologies, increasing life expectancy of citizens, developing beautiful works of arts or entertainment, improving cities, or improving the environment.

It is easy to look back at great civilizations and assume that it is vanity that causes them to deploy great amounts of resources to building works of art. But one must note that there are very few great civilizations, if any, that have not gone down this road. This leads one to wonder if they knew something that has been forgotten. People want to work. if a country is at or near full employment, has a trade surplus, and is considered one of the great places to live, a country can use works of art and monuments as projects to keep its working capacity high (this is akin to using war to keep employment high). This will improve its citizens desire to live in the country as well as tourism. It will also insure that citizens don't grow idle and lose their desire to work. After long periods of low amounts of work, people will become lazy and it will be difficult to get them to work should circumstances change. Make work projects insure workers stay active and used to working in local conditions.

Although the template I've outline is fairly straightforward, there are other obstacles a country must look out for. These include debt levels of individuals and corporations etc. , wealth distribution, and the depletion of natural resources. As mentioned above, a country cannot go bankrupt from debt in its own currency. This however is not true of smaller forms of governments or individuals. Money tends to accumulate. This is due to the fact that households and corporations main goals are to accumulate wealth. This should not be discouraged as it helps to motivate productivity in a lot of instances, but it should be monitored and at times governments should intervene to insure these goals do not prevent the countries goals from being accomplished. As a countries true wealth is the resources it owns, the main way a country can go bankrupt is through the depletion of resources.

Economies are made up of a number of transactions. Although some of these transactions are conducted by the federal governments, in a capitalistic society the majority of these are conducted by individuals, businesses and corporations, and smaller forms of government. Any of these groups, or all of them, can go bankrupt. This can be very disruptive for an economy, and even detrimental at times. Once this occurs, a country will have difficulty creating money as its citizens and corporations will not be able to pay taxes. A country will also have difficulty deploying resources, as it will not be able to use money to do so without printing more than it gets out leading to the risk of inflation or deflation.

Preventing a crisis is much easier than dealing with a crisis. This is easily done by a transfer of debt, and consequently a transfer of wealth. One must pay attention to the flow of money when dealing with the buildup of debt. If a country bails out the entity in debt that is not at the start of the flow of money, they will need to repeat the action or also bail out another entity. I will illustrate this with an example.

If a country finds that all levels of government are in debt, it must bail out the level of government that receives funding from other levels of government first. If the country is made up of states that have cities, and the states allocate resources to the cities, it must bail out the cities prior to bailing out the states. By doing so, the cities will be free to improve themselves without the help of the states. This will free up the states resources to balance its own debt.

These debts should be compared to the economic productivity and resources of the region. More productive cities can be permitted to take on more debt, as this will insure that resources are allocated to productive places. Similarly, if a region has a resources that you desire to tap, it may be permitted to take on more debt. You must keep in mind that the debt is only a record of how much resources you deployed in developing that region and nothing more.

Once the debt levels of all the cities, or a large majority of the cities, in a state gets too high relative to the productivity or resources in the cities, the state should reset all debts in the state by transferring the cities debts to the state. This will insure that cities never go broke, and can always allocate resources. Since the bailout only occurs when the majority of cities are at high debt levels, a single city can still have debt problems and thus must still insure that it does not overspend relative to the rest of the state. Bailouts can also occur when a region has a resource that is in high demand. This will permit higher levels of government to allocate resources where they are required.

Similarly, when the majority of states get into debt trouble, the federal government should bail them out. If both levels of governments, city and state are at high debt levels, the federal government can forgive all lower levels of governments debt. In order to prevent cities and states from being wasteful, levels of spending should be established. Cities and states spending should be limited at a percentage of their GDP, however deficit spending should be encouraged or permitted so long as full employment is not reached.

Deficit spending should be targeted in accordance to the goals of higher levels of government based on trade surpluses and deficits. In order to facilitate this, higher levels of government should invest in lower levels directly. For example, if a certain city or state has an untapped resource that is required, the federal government should invest money directly in the state for that purpose, and the state should invest in the city for specific purposes.

The same approach should be used when dealing with individuals. Should the large portion of the citizens and or corporations become indebted, the federal government should bail them out. The bailout does not need to be a complete bailout, and can be directed as the country needs. That is, for example if the citizens have a high level of debt, and car manufacturers have a high level of debt, a country can inject money to citizens to pay down car loans. This will bail out the citizens to some degree and the car manufacturer. This can be accomplished by buying back used cars at a predetermined price. All citizens with old cars will then get cash from the government for their cars, which they will then use to buy knew local cars. Stipulations that the deal only exists when a local car is purchased can be made. The government can then sell the cars to foreign markets to recoup some of its losses, or it can sell them at a discount to citizens that need cars but can't afford them.

By being directly involved in debt repayment, a country can better direct the flow of investments such that the debt surpluses and deficits can dictate where assets are allocated. It can simultaneously insure that a debt crisis is avoided. Bailouts must be balanced off with increased productivity in order to avoid inflation. Industries and individuals that incur debt in the pursuit of wealth rather than in a productive manner should be left to their own devices. The biggest challenge that a country will face when dealing with lower levels of debt is balancing the debt with productivity. Countries must insure that any money that is freed up is applied in productive manners.

Debt levels should also be adjusted for wealth. Even if a person or corporation has high levels of debt to their income levels, they may be okay if their debt is small relative to wealth. Countries may wish to only bailout entities that first apply some of their own wealth to the debt, or only in instances where their debt to wealth levels are too high.

It is easy to forget that money is meant to be used to direct productivity, and not simply to accumulate more money. When wealth accumulates in a singular place, as is the result of a capitalist society, governments must intervene. Productions can not be maximized, and hence full employment reached, if all a nations wealth is in a single entity. Having only one industry developed, due to the accumulation of wealth in that industry, for whatever reason whether it be due to competitive advantage or demand increases risk. Although it is advantageous to develop industries that you have a competitive advantage in and try to gain a global monopoly, it is disadvantageous to only have that industry developed (avoid the Dutch effect).

This is also true to the individual. If a single individual attains too much wealth, it opens up risks to the nation. The individual can choose to leave, or can deploy capital in foreign countries, or deploy capital in industries that do not help balance trade. A country should permit individuals to become wealthy, but should limit the percentage of total wealth that is controlled by any individual or group thereof.

This can be accomplished in a number of ways. The easiest would be through a bailout, that uses inflation to redirect wealth. Another is through interest rates offered to savers and borrowers. Another is through taxes. Another is through direct competition with a corporation or individual whereby prices are force down. And another is through laws such as minimum wages.

Numerous problems arise when wealth is not deployed. This tends to happen when it accumulates in a single place. Rich individuals and corporations have more wealth than they can deploy, and thus reduce the money multiplier slowing down economies. This wealth should be redirected by countries' governments. It is preferable, and much easier to prevent the wealth from accumulating, so a country should intervene prior to the wealth accumulation reaching critical mass.

Since the true wealth of a nation is the resources it owns, it goes without saying that the depletion of natural resources is the easiest way a country can go bankrupt. This includes human capital, whereby any reduction in the living standards or education levels or working capability of your citizenry (including age distribution and demographic changes). Natural resources fall into two main camps; renewable and nonrenewable.

It is strange that so many schools of economics ignore natural resources as a source of wealth, or simply imply that a country should use their resources and convert them into money. In reality countries would be better off converting money into resources, since money tends to lose value over time due to inflation and consequently resources tend to go up in price. Renewable resources provide a country with a perpetuity of wealth. A country with an abundance of renewable resources can truly never go broke. As such, any country that desires to become or remain wealthy, should invest in the development and maintenance of their renewable resources. Even if it seems unprofitable to develop renewable resources such as forests, renewable energy, or farmland in the short run, the long run picture is much different.

It should be noted that if a country can produce all its requirements internally with renewable resources, most if not all of the countries economic problems will have been resolved. It would then only need to focus on insuring wealth does not accumulate too much in any one space. As such this is one of the main goals, although it is not achievable to most countries with the current level of technologies available.

Nonetheless, countries should attempt to come as close as possible to this goal. A country must insure that it is never depleting its renewable resources faster than it is restoring them, unless it is only a short term project that is unable to proceed without (i.e. in a deep recession, a war, or building a dam/wind farm/solar farm etc.). Doing so can be highly inflationary to a countries currency, and will result in a reduction of wealth.

If a country is in a trade deficit, and it is selling off more renewable resources than it can reproduce, it is funding the development of its trading partners with its wealth and will find that once its resources are depleted that its debt will have grown while its wealth got depleted. This will leave it in a worse financial position than it started in, while having contributed little to the development of the country. If a country is in a trade surplus, it must attempt to keep rate of growth at a level that is sustainable in the long run. This is accomplished by insuring that renewable resources are replaced as fast as they are used.

When in a deficit, it is preferable that a country focus on increasing the amount of renewable resources it contains. This should help increase the wealth of the nation, offsetting the debt it is incurring.

When in a surplus, there are times when it is advantageous to develop more renewable resources. This is akin to saving ones wealth. The wealth that you are accumulating can be transferred into another form, and drawn upon later. Countries with large surpluses should use some of those surpluses to build renewable energy sources, and food sources, in an attempt to make themselves self sufficient prior to going into a trade deficit. By increasing your renewable sources, you decrease the amount of imports your country requires, permitting you to have more capacity to remain in a surplus situations for extended periods of time. During this time, you can drastically improve the state of your country, by investing the additional surplus you are generating in increasing productivity. When full employment is reached and a country is in a surplus position, improving renewable energy sources is as advantages as improving technologies, and often goes hand in hand with it.

Nonrenewable resources are extremely important to a nations wealth. Countries must insure that they use the money they receive from selling nonrenewable resources abroad to increase their wealth in other manners. There is very little room for waste here. Many countries have burned through nonrenewable resources at alarming speeds with little to no improvement to their standard of living or without producing future sources of wealth. It is preferable to trade nonrenewable resources for other nonrenewable resources. If a country is trading a nonrenewable resource for a renewable resource it will lose relative wealth in the long run. Dubai is an example of a country that has done a good job of improving the standard of living in exchange for its non-renewable resources.

The reverse is also true. It is always in a countries advantage to trade its renewable resources for nonrenewable resources. It is important to monitor and control the depletion of your nonrenewable resources. Only sell large amounts of nonrenewable resources (relative to the amount you have), when you are not near full employment. Since this is when you get the most return on the increased capacity. If a country is at or near full employment, and is selling large amounts of nonrenewable resources, the country is creating waste. The country will have more resources than it can deploy. This is only not true when they are buying other nonrenewable resources and storing them for future use. This can sometimes make strategic sense for both parties.

If a country is interested in creating wealth, it can do so in many ways. Taxing its population or printing money will not increase a nations wealth, since it already owns everything in its country including the assets of its citizens and money simply redeploys the wealth (causes inflation if productivity is not also increased). A country should create wealth by increasing its renewable resources, increasing productivity and standard of living, or creating demand for its currency.

The easiest way to create wealth has been covered in an earlier section. That is to increase the renewable resources in a country. This is akin to saving for the future. Building sources of renewable energy, increasing farming capacity, planting trees for lumber all increase a countries future wealth. This is the easiest way to increase a countries wealth, but is sometimes not affordable or a country may not have the capacity to increase (no more land to farm on).

The second way to increase wealth was also covered earlier. Increasing productivity directly increases the wealth of a country. This includes developing new technology, increasing ease of trade, and improving infrastructure so workers can be deployed easier. The easier and cheaper it is for a country to access their resources and deploy them, the more wealthy a country is. A country can also improve the living standards of its citizens to increase wealth. This increases wealth by increasing the demand to live in the country, permitting more workers to live longer and healthier resulting in increased productivity, and increasing demand for your currency via taxes as explained earlier.

This leads us directly to the final way to increase a countries wealth; create demand for your currency. Since a country is the only entity that can print its own currency, anytime there is demand for their currency they are able to literally print money. There are two types of demand for a currency internal and external. Internal demand is created by improving the living standards of citizens to increase demand to live in ones country, and then taxing activities as explained above. Or by creating great works of art or tourism attractions that create tourism and a desire to spend time in the country, during which time people will need local currency. And lastly, a country can increase internal demand for ones currency by reducing corruption and improving trust within its boarders. This will result in increase internal and external investments coming into the country, increasing demand for ones currency.

External demand for ones currency, is the most effective way to increase a countries wealth. This is due to the fact that countries can produce nothing faster nor cheaper for export than their own currency. Once external demand is established, a country can print wealth to some degree. The easiest way to create demand for ones currency is to establish oneself as a developed country, and then conduct large amounts of trade in ones own currency. But the most effective way is to create a market that only conducts itself in your currency. The Vatican did this with the tithe. Tithe were only payable in roman coinage, which resulted in demand for roman coins. America did this with oil. Oil is only available in USD, so demand was created for USD.

However, other countries can also use monopolies or large pools of renewable resources to accomplish the same this in smaller regions. If a country was the only source of a product in a region, they can demand payment in their local currency to create demand for their local currency. Or by creating trust in the region, as the most reliable currency. Like Swiss Francs in Europe.

Countries should learn where they are in their state of development, the structure of their debt (local vs external), where there is capacity to improve or increase productivity, the level of debts of entities within their boarders, and the flow of trade in order to develop clear goals about how they want to deploy capital. But more importantly, they must learn to understand money and how it relates to them. They must stop thinking of their own currency as money, and rather as an accounting tool to allocate resources. The amount of their own currency they own or owe is of little consequence, and they should be more concerned with their levels of productivity and resources.

Countries should also focus on financial engineering tactics to improve their ability to borrow in their own currency, and to build trust and strength in their currency. When they take on debt in foreign currencies, it should only be to increase their true wealth. Focusing on improving productivity, resources, and standard of living are far more important than focusing on internal and external debt levels as they create wealth and improve the country that is being governed. Money is not a goal for a country, but a means.