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Filed under: July 2005

Spending like there is no tomorrow?

An ad for a home computer system caught my attention recently, offering for less than $1,000 a unit that integrated computer, television, music system, and everything but the coffee maker into one all-singing, all-dancing, power-sucking package. Despite the urge to replace my 1974 Sansui amp and turntable, my Windows 95 on a rusty laptop that cost me $3,000 back in the day, and a derelict TV that was rescued from some hell-forsaken graveyard, I resisted, thinking, ‘Next year that system will be going for less than $900, why buy it now?’

That is a decision that most people would make (so long as they are not compulsive spenders) in any market where prices are falling, whether computers, cars, real estate or any other commodity. The likelihood that prices will be lower in the future not only acts as a disincentive to spend, but also to produce. The result can lead to an economy that ceases expanding, factory closures, shrinking employment, waves of bankruptcies and government bailouts. Akin to the deflation that Japan has suffered for the past 15 years, it scares the bejeezus out of everyone up to the highest levels of business and government. Well, unless you are debt-free and have a pile of cash under the mattress.

There are gathering forces – the global free trade system, the still shrinking asset bubble of the late-90’s, technological advances, heavily-indebted consumers, lower birth rates, the high price of oil, and others – all may contribute in some measure to this kind of deflationary scenario eventually unfolding throughout the global economy. No wonder that over the last few years G8 leaders have confronted this perceived danger with a number of countermeasures.

As John Maynard Keynes explained in the thirties, the basic idea is to get the money moving again. One way for governments to fend off deflation is to spend copiously in the hope of jumpstarting jobs and growth, and the record US budget deficit is a sign that this approach is going to be heavily relied upon south of the border. Of course the US now owes vast sums to mostly Asian creditors, but the assumption is that future economic growth and inflation will allow these debts to eventually be repaid. If that sounds like too much economic hocus-pocus to you, then consider other powers that governments can bring to bear.

Reducing interest rates also helps to get the money moving. How would you like a 35-year mortgage at a fixed rate of 2.3%, or a 5-year rate of 1%? These are the rates currently on offer in the Japanese housing market, and in Canada and the US we have just seen (and may see again) the lowest interest rates in more than two generations. Have a look at all the 0% vehicle financing that is going on. Doesn’t that give you an urge to spend?

If you reside in the camp that believes a messy deflationary meltdown is unavoidable and imminent (or desirable and necessary), consider the words of US Federal Reserve governor Ben Bernanke who, in attempting to ease deflationary fears, stated, “The US government has a technology, called a printing press, that allows it to produce as many US dollars as it wishes at essentially no cost… By increasing the numbers of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government…can always generate higher spending and hence positive inflation”

As Canadians we are hardly immune from these global tides. Yes we’re sitting pretty right now with a surplus budget and more oil than we can consume, but we are still in many ways a resource-based economy, and if for some reason the world doesn’t need our raw materials any more, or in less quantity, then we are going to feel the pinch too. Think about it. An energy revolution could be devastating for the Canadian oil patch. Now I’m veering off course just a little, but did you know that British Petroleum is a world-leading manufacturer of solar panels?

One of the fundamental problems with achieving the 3-4% growth and moderate inflation targets of the G8, is that nobody can explain with certainty how this kind of growth is sustainable over the long term. If the world economy was to continue to grow at a rate of 3%, it’s size would double in 24 years, quadruple in 48, and expand to roughly 16 times it’s current size within the next hundred years. How are earth’s dwindling resources going to cope with that? Barring the kind of breakthrough miracle (particularly on the energy front) that would, for better or worse, allow us to continue this spiral of ever-increasing consumption, future expectations of economic growth rates may need to be revised downwards.

If those pulling the economic levers can find the sweet spot of sustainable growth and low inflation, the global economy would likely stay upright while navigating these waters. Doing so is of course much more complex than just hitting some numerical targets. Finding the right balance will require investment in a global infrastructure that reflects the delicate nature of our environment, the need for healthy food, shelter and community, fair access to education, medicine and trade for all the world’s citizens, and a corporate resizing that encourages smaller, more nimble and innovative firms to emerge as leaders in the business world.





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