people assumed floating exchange rates would handle balance, in analog to Hume’s species flow. no. a payouts tax might be analogous to a degree with an interest rate decline, or an expectation of depreciation, but they are not the same thing. a tax is an instrument with a target.

market participants understand they are not taking a position in a complex system, some of many accounts of which suggests imbalance will punish them, but where exceptions are almost as common as the rule.

they understand there is intention on the other side which will, however gradually, *constrain* outcomes. it is not just prices that matter, but the mechanism or intention that sits behind the prices. never reason from a price change. but you can reason from the overt policy behind a tax.

i think China is a counterexample here. it runs a large overt fiscal deficit, and a larger covert fiscal deficit in the form of underpriced finance to strategic industries by state-affiliated bans and investment funds, losses on which eventually will filter back to central govt balance sheets. 1/

i think the connection between the deficits is much looser than simple “national savings” arithmetic suggests. you can run a large fiscal deficit for investment and export subsidies and generate a larger trade surplus, increasing “national savings” on net. 2/

you can run a low deficit or surplus, and find the public borrows from abroad and a cleverly eager financial system instead of consuming from income derived from deficit spending. 3/

of course borrowing from the domestic financial sector seems a wash to “national savings” arithmetic, but eventually the bad lending finds the public balance sheet. 4/

you can write accounting identities about “national savings”. but the fiscal deficit level alone is not a remotely reliable or useful causal mechanism. 5/

running a larger or smaller deficit can do all kinds of things. these may be part of some useful prescription. but on their own, they are not useful. again, i don’t think the counterfactual of “fiscal restraint” in the US would look anything like Germany. 6/

you would also need the Hartz reforms, and you would also need some trade counterparty to take the role of first Southern Europe then the US to provide the income the state is not. 7/

“smaller fiscal deficit => trade surplus => prosperity without national dissaving” is not a recipe that works without attention to a lot of details, and without international partners to take the other side of the trade surplus. /fin

i guess i don’t think just running a tighter fiscal policy would have the same effect at all. your view of causation is fiscal => trade deficit, mine is trade => fiscal deficit. refusing to run the fiscal deficit i think would have meant depression and/or financial crisis. 1/

i agree that the US was foolish to let the twin deficits finance consumption rather than investment in future tradables capacity (or “metacapacity”). 2/

it would have been hard to do that right thing, as there would have been no market forces to guide it (market forces suggested tradables come cheaply from abroad, don’t produce them), and mistakes would be made that would look like boondoggle and cronyism. 3/

it still would have been the right strategic response to aggressive foreign mercantilism. 4/

but really, the political economy and information problems render it too unlikely, for the US, or really for any country on the other side of a lot of subsidized exports. destructive choices like tariffs are much more tenable. 5/

that’s why i think we do need to go back to Keynes and insist on balance as an international norm. and develop tools, like a financial payouts tax, by which countries can enforce that norm without relying on supranational agencies we have too little international consensus now to manage. /fin

Yes, that's the point! There's no question restoring balance to an international deficit country means reducing the incentive of trade partners to sell excess goods for paper (or of domestic publics to issue paper for excess goods). 1/

But with a tax, the process of rebalancing can be titrated gradually. 2/

Rebalancing does mean reducing consumption as a share of GDP, at least relative to a counterfactual of not rebalancing, because domestic investment will have to replace foreign inflows. 3/

But done gradually, the absolute hit to consumption can be small or none, as growth can cover a slowly increasing domestic investment share. 4/

Spread out over a decade-ish, the process wouldn't need to be so disruptive, the fiscal deficit could decline as domestic incomes increase and the demand for US paper decreases. /fin

Because there would be a masive depression, a financial crisis, or both. You've got causality wrong in your "twin deficit" theorizing. 1/

A fiscal deficit is a necessary response to a serious trade deficit, on demand grounds (you won't be in full employment if your consumers are buying everyone else's goods, unless the state runs a deficit to restore incomes)... 2/

and financial fragility grounds (the financial system will create fragile private securities to fulfill the huge demand for securities that mercantilist trade counterparties help provoke). /fin