In order to cure what ails, one must first diagnose the problem. What we have today is an economy rife with fear and stricken with debt. Fear of losing one’s job, fear of being unable to pay one’s obligations. Fear of expanding, fear of hiring, fear of producing, fear of change. Fear dominates our economic landscape, paralyzing markets and minds alike.

We are a nation of spenders and debtors, a nation that cares more about the interest rate on a loan than that of a savings account. We are a nation that has been convinced, contrary to common sense, that growth is a product of consumption and credit, not the twin pillars of investment and savings. When consumption falls and credit becomes scarce, the damage caused by the lack of investment is revealed. GDP falls and we demand action from our government to mitigate the damage.

The fall in output coupled with the fear of government failure brings the nation crumbling down. 

 

The remedy offered has always been the same; slash interest rates to lower the cost of borrowing. It is intended to promote investment and consumption, but while the Federal Reserve can manipulate the cost of borrowing, it can’t direct the spending that results. The result is often malinvestment, conspicuous consumption and irrational exuberance.

With the latest slowing in consumption, we’ve double-downed on our debt load, hoping that the pain-killer can get us through another day, instead of looking for a viable cure for what ails the economy. Bernanke is applying the same old medicine but we’ve now built up a resistance and the pain continues unabated. The past application of the interest rate anesthetic has produced not a cure but a new illness. Now we’re back to square one, and in more pain than ever.

So what exactly can be done to rid our economy of this vicious debt cycle? There is no single answer, but a few key things can and should be done to change the status quo. Since the problem is one of capital, the solution should concentrate on capital formation in the private sector rather than attempts to revive consumption demand.

Governments, federal, state and local, should cut spending, as the correlation between increased government spending and economic growth is non-existent. No one yet has provided, to my knowledge, a concrete example of government spending causing economic growth. Governments cannot fill the void left by decreased capital investment from the private sector. The government can only reallocate capital, not create it. So if a massive public works project is undertaken, it must be funded by the same people it was intended to help; US citizens. It’s like taking money from your right pocket and moving it to your left. If the government has the power to reallocate capital it should be from public uses to private ones, not vice versa.

We must make our country more conducive to the operation of business. While many believe that it is the radical forces of unchecked capitalism that got us in this mess, if you consider the facts, America is lagging behind the world when it comes to establishing a business-friendly environment. For instance, corporate tax rates in the US are the second highest in the world, lagging only Japan’s 39.54% rate (the US rate is 39.25%). A lower corporate tax rate would be an incentive for real economic growth, one with lasting effects on the labor market. A lower rate would attract capital from foreign companies as well as allowing the repatriation of the foreign earnings of US multinationals. The $800 billion government stimulus plan currently being considered will consume existing capital rather than attract new investment.

Central banks should dig back to their roots and follow the mandate that they were once created to follow. Monetary adjustments should only be applied to fight the forces of inflation, not lower-than-expected GDP growth. This would reduce the possibility of artificial increases in GDP, the formation of asset bubbles, and reduce inflation expectations, all incentives for growth.

The question facing America is a fairly simple one: Do we continue to take painkillers that address only the symptoms of our economic illness or do we bite the bullet and finally address the cause? The choice is ours, America.