Its the "Trade", Stupid - I

Something heavily under reported recently is a seismic shift in US's economic relations. If you have heard or read that "US officials are travelling around the world to convince countries like China and Japan to loan to US" and thought it was silly, read on. While at it, lets take stock of where India figures (or doesn't figure) in all this.

Clinton's presidential campaign of 1992 coined a phrase "Its the economy, Stupid" to stress on bad shape of the economy under incumbent George Bush Sr. It proved to be a good plank as Bush Sr. lost the reelection bid of 1992. However, the larger significance of this quote was lost, even in the land of its origin.

In this post, I would like to focus on one aspect of the economy, Trade. Here is an analogy to better illustrate the title:

Consider two groups doing trade, Eagles and Pandas, and follow the money exchanged (trade deficit/surplus, shown in arrows) and weight of wallet (reserve deficit/surplus, shown in the bubble). And consider that everybody started from scratch.

Eagles learnt how to fly and are known to build nice expensive "aeroplanes" and Pandas figured it was good business building "cheap" coffee mugs.

Year 1 : Eagles buy 1,000 coffee mugs ($1 each) from Pandas by paying $1000. Pandas buy 2 aeroplanes ($200 each) by paying $400 to Eagles.

In this trade,

• Eagles spent $1000, and their wallets are "empty" by $600 at the end of the day (trade deficit $600).
• Pandas spent $400, and their wallets are "heavier" by $600 by the end of the day (trade surplus $600).
• Or in terms of trade imbalance, Eagles are down $600 and Pandas are up $600.

• But, its not like Eagles were sitting idle, they in turn traded similarly with tigers and seagulls. Sold "aeroplanes" and made sizable profit, lets say $700.
• So, Eagles have recouped whatever they lost to Pandas and made a small profit ($100), but nevertheless ended making Pandas pretty rich. That was year 1.

Year 2 : The same pattern repeats.

• Eagles gained from Tigers ($200)/Seagulls($400), but ended up making Pandas richer by $600.
• Pandas now have accumulated $1,200 in trade (ie their reserves are at $1,200).
• Eagles have neither gained nor lost the reserves, still have $100 in the wallet.
• Tigers have a lost $200, moving their reserves to -$600 (negative reserves)

Year 10 : Lets fast forward to year 10. Between Year2 and Year 10, Pandas started making everything from coffee maker to serving trays that Eagles love.

• In 8 years, Pandas' trade surplus with Eagles grows to $700. Lets say Panda's reserves settle at $3,200 by Year 10.
• Eagles desperately needed to fix Y2K bug and brought in in Tigers to do that
• Eagles started to see a trade "deficit" after paying Tigers for for Y2K software services and Tigers' debt decreases to $200
• Eagles still continue to make money from Seagulls, but now have an overall trade deficit (-$100) and reserves below zero (-$1,000).

Year 20 : Pandas are now making coffee mugs/serving equipment/TVs and also started manufacturing electronics and seats for Eagles' "aeroplanes". Pandas also start venturing into Silicon Fabrication plants.

• They have trade gain a trade "surplus" of $1,000 with Eagles in Year 20 and cumulative reserves have improved to $14,000
• Tigers are now providing software/technical support and are satisfied with trade surplus of $200 for that year. Reserves have grown to $1,000
• Eagles now suffer trade deficit with both Pandas and Tigers ($1,000+$200), and the reserves reach a new low of -$5,000

Year 25 : On the strength of manufacturing, Pandas start taking Eagle's customers away.

• Pandas start dumping "cheap" coffee mugs/electronics to Tigers and Seagulls and gain a trade surplus with each of them.
• Eagles have a debt of -$8,000 and Pandas have reserves of $18,000 in their kitties.

Its probably obvious who the Eagles, Pandas and Tigers are.

Note : Before the economists start nitpicking, the analogy is highly oversimplified. The assumption of starting with "zero" balance is extreme. Also, the very fact that everybody is trading in Eagle's currency ($), makes it all Eagle's territory. But the underlying math still holds.

Now, a few questions for us all to ponder on.

• (1) Year1 - Year20: when Seagulls were paying the Eagles, who really got rich? Is it Eagles, Pandas or the Tigers?

• (2) Year 1 - Year 20 : Are the Tigers incapable of making coffee mugs or learning how to make Electronics? What were Tigers doing from Year1 - Year25, when Pandas were pursuing their goal single-mindedly?

• (3) Pandas excelled at manufacturing and Tigers excelled at providing services. Which of these two can Eagles easily cut off and do it themselves?

• (4) Did Tigers learn anything? Do Tigers know what they want, even now?

• (5) Consider this scenario : On Year 25, Eagles messed up big time and their nests came crashing down. Now Eagles need $5000 to rebuild their nests, and continue to make "aeroplanes"/"software" to become profitable. But they already have a deficit of $8,000. So where do the Eagles get the total of $13,000 from? Whose got that kind of cash?

• (6) If Tigers or seagulls had a problem with Pandas, can they fight Pandas? Can they go to the "superpower" Eagle anymore? What can Eagles do when they themselves are trying to ask Pandas for favors, aka. borrowing $13,000?

Its the "Trade", Stupid - I by A Kumar is licensed under a Creative Commons Attribution-No Derivative Works 2.5 India License.