In 1997-98, while I was a doctoral student in USA, I was commissioned by a consultancy firm to study the US social security system. What I found was shocking – a pension system in shambles. Its trajectory after about 2015 was in serious trouble, with committed outflows strongly exceeding inflows.
George Bush, with his limited economic sense, cut taxes (without cutting expenses) at the same time when Alan Greenspan was lowering interest rates to ridiculous levels. The housing market went in over-drive. The GFC was the immediate consequence of these actions (more details in my blog post here). In 'resolving' the GFC, seriously bad Keynesian approaches were applied. QE2, or quantitative easing No.2, marks perhaps the final nail in the American coffin.
The current American situation is this:
1. Its dollar is spiralling downwards (15% devaluation in the last six months), held up largely by Chinese intransigence to revalue the yuan. Once China decides to dump the USD (not an easy decision for them, though), it will, given continuation of bad policy in USA, become a relatively worthless piece of paper. Its devaluation will definitely help US exports but its consumers are going to be badly pushed against the wall, being unable to buy cheap goods any more.
2. Its baby boomers are looking to a bleak future with their pensions likely to collapse. Retirees' savings will be going to be further crunched by the loss of value of the dollar and the mega-inflation that is almost certainly going to set in during the next few months (or years, if US is lucky) because of huge liquidity being injected into the US economy. Poverty and crime are likely to increase seriously in consequence.
3. American armed forces are badly stretched. Cheaper options to influence the world (such as those I have advocated here) through the spread of freedom and good governance have been rejected in favour of aggressive and badly managed approaches against terrorism.
There is no free lunch in life. That is the main lesson of economics. Bad policy ALWAYS leads to bad consequences, although in the short-term its impacts are masked by transferring the risks to the poor and elderly who hold savings in the bank. In the end, bad policy always comes back to haunt. India was done in by Nehruvian bad policies (most of which still continue).
American policy makers are now working at a furious pace to crash its economy. America is entering dangerous unchartered territory just as its baby boomers start to retire.
Worse, if India does manage to get its act together, many Indians in America (who supply a significant chunk of American brainpower in medicine, education, and IT) will return to India, hollowing out America's intellectual leadership and hurting its recovery even more.
Time is fast running out on America.
As you know, I thoroughly recommend Nassim Taleb's books (here). Well, here's an outstanding interview he gave recently on QE2. Please watch this video. It will tell you how America is committing Harakri. And why it is well advised to bite the bullet and let structural adjustments occur sooner than later.
Addendum. Watch this. Very pertinent.
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