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posted on 10 May 2016

Failing In The 21st Century: US And The Euro Zone

Written by , Econoblog101

Paul Krugman wrote about Donald Trump's economic plans within the last few days in the The New York Times:

Last week the presumptive Republican presidential nominee - hard to believe, but there it is - finally revealed his plan to make America great again. Basically, it involves running the country like a failing casino: he could, he asserted, "make a deal" with creditors that would reduce the debt burden if his outlandish promises of economic growth don't work out.

The reaction from everyone who knows anything about finance or economics was a mix of amazed horror and horrified amazement. One does not casually suggest throwing away America's carefully cultivated reputation as the world's most scrupulous debtor - a reputation that dates all the way back to Alexander Hamilton.

The Trump solution would, among other things, deprive the world economy of its most crucial safe asset, U.S. debt, at a time when safe assets are already in short supply.

This is actually not so surprising. Decade after decade passed in which economists and politicians lied and lied and lied about government debt, the banking system and finance in general. Hocus pocus like the efficient market hypothesis, New Keynesian macroeconomic models and such passed for serious scientific theories, even though they did not feature money.

The euro zone was started with a completely insane setup, basically declaring that there is no European safe asset in the financial market. Governments are now liable to go bankrupt if markets judge them to be bankrupt. Mario Draghi already helped to stop this doom loop, to the disgust of most German economists/politicians. Given that government bonds are fundamental for anchoring interest rates, which is somewhat complicated to explain, there is no sense in wishing for governments to go bankrupt. Do you want to become like the euro zone after the recent disasters?

Now Trump comes forward with his great plan. What he does not say is that reducing government debt the Trump way reduces private sector wealth one-to-one. Probably he doesn't even understand that fact.

For me, this is the symptom of intellectual decay of the past 3+ decades. What brought about this decay in common sense and culture would be an interesting question. Nevertheless, one consequence seems to be clear: economics needs more common sense and less mathematical distraction from some of the core facts of our monetary system.

If economics is ever to be a science, economists need to remember: Sciences are supposed to enlighten.

Note: A different version of this post appeared at Econoblog101, 10 May 2016

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