America can save the world's economy, but it won't

Everyone’s freaking out about a global economic slow down.

It’s a crisis where no one has (or is using their) cash to buy all the stuff we sell to each other around the world.

Thing is, there’s a clear solution to this problem!

American corporations, which are sitting on a $1.8 trillion pile of cash they don’t know what to do with, need to raise wages, and American consumers need to start spending more money.

You see, the world is missing is demand. The more people with purchasing power, the more demand we have.

I’m not saying companies should raise wages because it’s “fair.” Business people hate the word “fair.”

I’m saying companies should do it because what they have been doing with their cash — stock buybacks at a record rate — clearly hasn’t been doing anything to help kick the economy into the gear it needs to be be in.

I’m saying that companies should raise wages because the global economy — the market itself — is calling for it.

How do I know this? A couple key things are tipping me off here.

Why we need it

Christine Lagarde, the head of the International Monetary Fund has said that global growth will be “disappointing” this year. Countries like Brazil, Nigeria and South Africa, which used the last decade’s commodities boom to turn poor citizens into consumers, are going into deep recessions.

Janet yellenMark Wilson/Getty ImagesFederal Reserve Chairman Janet Yellen testifies before a Joint Economic Committee hearing on Capitol Hill, December 3, 2015 in Washington, DC

Here in the United States, Federal Reserve Chair Janet Yellen has said that she’s watching global demand and international markets to figure out whether or not to hike interest rates.

The big tell, though, is China’s slow down and the volatility coming out of that.

The markets have been getting totally rocked by the depreciation of the Chinese yuan. No one explains it as well as economist Michael Pettis. In a recent post on his site, he went through everything that’s challenging the Chinese economy. Chief among these issues is debt and overcapacity.

In short, the second largest economy in the world has a ton of stuff no one wants to buy. Meanwhile, the debt collectors are calling.

What China needs, Pettis argues, is debt-free demand. However, “in a world in which demand is likely to remain weak for many years, the external sector is unlikely to provide sufficient additional demand,” he wrote.

In plain English: China needs somebody to buy all of its goods.

It’s not just China. All the demand hungry countries around the world are going to be looking to the US consumer for a bailout. That could set off a dangerous competition to make goods cheap around the world.

From Pettis:

The biggest risk created by the weaker RMB [Chinese yuan], as I see it however, is not a Chinese risk but rather a global one. The rest of the world may view recent Chinese RMB weakness as a signal for a new round of competitive devaluations. I have already said that I expect 2016 to be another bad year for trade, and I am worried that it seems as if every major economy in the world has implicitly decided to use US demand to bail out its own faltering economy. This will very likely derail the US recovery in 2016 or 2017 unless the US, too, decides to step in and intervene in trade. If that happened, of course, the impact on Europe and China would be terrible, but it seems to me a matter purely of logic that if the hard commodity and energy exporters are nearing the limits of their absorption capacity, either the major surplus nations or the US are going to have to absorb a bigger share of the demand deficiency created in Europe, China, and Japan.

With higher wages, the American consumer has more money to spend. It becomes a bigger sponge for all this output.

To be sure, Americans have more money in their pockets due to falling energy prices. The problem is that they’re saving it, according to Kathy Jones, Charles Schwab’s chief strategist on credit markets. Behavioural economists will tell you that this is because paying less at the pump doesn’t make Americans feel like they have more money, so it doesn’t change their behaviour.

You know what does make people feel richer though? A raise, baby.

Why we don’t have to just sit around and wait for it

Supply-side economic theory dating back to French 19th century economist Jean Baptiste’s A Treatise on Political Economy states that supply creates demand. When a product is made, the cost to make that product (paying workers, investment in production etc) creates a market where that product can be sold. Of course, there are distortions, and economist Pettis explains the one that we’re dealing with right now.

“…institutional distortions can force agents into systematic misalignments of supply and demand (mainly by changing incentives for political reasons) that can get very deep and can persist for very long periods.”

Basically, something about the incentivization for companies to create products through a process that spurs adequate demand has been distorted. We can argue about how it happened all we want, but the point is that these things don’t always just take care of themselves, and the solution in our current case is really just getting more people to spend money.

Do we have to wait for the slog-through of a significant global economic slow down to force us into action? Looks like it, unfortunately.

Why we still won’t do it, anyway

It’s not hard to surmise that the government won’t be enacting legislation that entices corporate America to raise wages any time soon. Beside the fact that it’s hard to do, 2016 is also an election year, and wages have become a political issue.

Fight for 15 minimum wageJoe Raedle/Getty ImagesWorkers protest outside a McDonald’s restaurant on November 10, 2015 in Miami, Florida. The protesters are demanding action from state legislators and presidential candidates to raise the minimum wage to $15 an hour.

Corporations also probably won’t do it on their own because, with few exceptions, corporate America has a knee-jerk reaction to what it should do with excess cash. It’s automatic if you watch channels like CNBC or Bloomberg TV, or read op-eds in The Wall Street Journal.

“What do you do with excess cash?”

“Return it to shareholders.”

This idea has become dogma since the 1980s. Some people even think that companies have a legal requirement to uphold the rights of shareholders over workers or anyone else. That’s just flat out untrue.

The real trick is that as the global economy slows down, corporations get more conservative and cut jobs. They don’t raise wages, despite the fact that a good pay hike would help ignite the global economy.

Companies can put capital to work in the economy in the form of buybacks (mostly what happens) or dividends, or whatever you like. But nothing will get the American consumer going like a good old-fashioned raise. It’s what the Federal Reserve has had its eye on ever since interest rates went to zero. It’s the sign that everything is going to be ok. And wage growth is happening, albeit slowly. It’s just that this global slow down isn’t waiting for it.

And we don’t have to either. But we act like we have to wait for wage growth to happen magically. We don’t.

Human beings are not just victims of the market. We are actors in it. When we see it moving in an ugly direction, we should do everything we can to push it away. As a country, Americans accept that government has the responsibility to do that — to enact policies that ensure growth. The private sector should take responsibility for that too, though, and not just wait for a market heading to hell to force them to do it. It will ultimately help them anyway.

Be proactive.

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