Thursday, July 05, 2007

Some bearish signals are near irrelevant

One is the price of gold--people need to dial back their charts to the time of Bretton Woods (which was disbanded during the Nixon administration). Another is bilateral trade deficits, as Greg Mankiw (and Robert Solow) eloquently tell us:
The overall trade balance is, as we have seen, inextricably linked to a nation’s saving and investment. That is not true of a bilateral trade balance. Indeed, a nation can have large trade deficits and surpluses with specific trading partners, while having balanced trade overall.

Bilateral trade deficits receive more attention in the political arena than they deserve. This is in part because international relations are conducted country to country, so politicians and diplomats are naturally drawn to statistics measuring county-to-country economic transactions. Most economists, however, believe that bilateral trade balances are not very meaningful. From a macroeconomic standpoint, it is a nation’s trade balance with all foreign nations put together that matters.

The same lesson applies to individuals as it does to nations. Your own personal trade balance is the difference between your income and your spending, and you may be concerned if these two variables are out of line. But you should not be concerned with the difference between your income and spending with a particular person or firm. Economist Robert Solow once explained the irrelevance of bilateral trade balances as follows: "I have a chronic deficit with my barber, who doesn't buy a darned thing from me.” But that doesn’t stop Mr. Solow from living within his means, or getting a haircut when he needs it.

I'm still long US equities, and short the Intrade recession contracts. Both positions have continued to do well, the latter for the last several months and the former for the last couple of decades.

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