Think of the World’s Bubble Economy in Two Categories: Manufacturing and Resource Extraction

We can better understand why and how the world economy will suffer so badly if we analyze the economy in terms of two broad categories: manufacturing and resource extraction. Manufacturing can be further divided into two subgroups: (1) High-end manufacturers, primarily Germany and Japan, and (2) Low-end manufacturers, primarily China and other Asian Tiger nations. India is similar to low-end manufacturers because it provides low-end service exports.

Low-end manufacturers are directly affected by America’s multibubble economy, both on the way up and on the way down, for the simple reason that we are the world’s largest importer of low-end manufactured goods. So when the U.S. economy goes up, many other countries’ economies go up.

There is an additional multiplier effect in terms of job creation. For each job created to produce exports sold to the United States, roughly two more jobs are created in support of those jobs. This is true not only of nations, but of cities and regions, as well. Any job that produces a good or service that is exported from a region also produces secondary jobs to support those people in the export industry, such as jobs in medicine, government, and housing.

These multiplier effects are extremely important to the export-driven economies of China and the other Asian Tigers, like Korea, Taiwan, Hong Kong, and Singapore. Because of these multiplier effects, a large increase in exports can create a massive economic boom in an export-driven economy. Of course, the very same thing is true in reverse: A big export decline can cause a massive decline in an export-driven economy.

The United States also drives the economies of the second subgroup of manufacturers, which produce high-end manufactured goods, especially Germany and Japan. The United States imports both consumer goods, such as electronics and automobiles, and industrial goods, such as machine tools and construction equipment. This provides a big boost to the Japanese and German economies, not only because of the exports themselves, but also because of the same job multiplier effect described previously.

In addition, it is important to realize that the low-end manufacturing countries such as China, import enormous amounts of high-end machinery from Germany and Japan to produce their manufactured goods and to build their economies. This demand helped Germany become the world’s largest exporter in 2008. Obviously, this helped further boost the German and Japanese economies.

A side note that emphasizes the growing importance of China in the world economy is that China became the world’s largest exporter in 2009 with $1.2 trillion in exports, ahead of Germany with $1.16 trillion in exports, according to the CIA World Factbook. In 2010 China also became the world’s second largest economy, ahead of Japan. Although it may damage Germany’s bragging rights, China’s growth has increased Chinese demand for German products and made it one of the best performing economies in Europe—a small light in an otherwise dismal European economic picture. The only problem with China’s recent growth is that, as we mentioned earlier, unlike in the past, China’s growth is currently being heavily driven by government stimulus, not exports, which at some point, will fail.

Back to the larger picture: What happens when the virtuous spiral of massive imports and massive exports starts to go into reverse? As U.S. demand for low-end manufactured goods declines, so does the demand for German and Japanese high-end goods from China and the Asian Tigers. When the lack of demand from low-end manufacturers like China is combined with the lack of demand for high-end German and Japanese goods from the United States, Germany and Japan will see their economies truly devastated.

It will happen quite rapidly because the prices of foreign goods will soar as U.S. inflation climbs and dollar-denominated asset values fall. Remember, most of these items imported by the United States are discretionary. They are part of that discretionary spending sector that was discussed in Chapter 2. U.S. spending on imported nonessential items, from luxury 600-thread-count bed sheets to entertainment electronics, will collapse as inflation rises, the dollar bubble pops, and we move deeper into the global mega-depression.

The other big group in the world’s bubble economy includes countries that have large resource extraction industries. This group benefits nicely from growth in both the low-end and high-end manufacturing nations and also from America’s multibubble economy. Nations within the resource extraction group include both poor and wealthy countries such as Australia, Russia, Canada, and nations in the Middle East, Africa, and South America. Interestingly, this group also includes China, which is now heavily involved in both low-end manufacturing and resource extraction.

Naturally, economies that rely on resource extraction are especially impacted by the rising and falling demands for their various minerals, oil, lumber, grains, and other resources by the booming manufacturing economies of the world’s bubble economy. The benefits to these resource-producing nations are double-boosted by both greater quantities of exports and much higher prices for their resources as demand rises. These higher prices can propel a normal economic boom into a hyper boom, creating enormous job growth, highly valued companies, and billionaires just about everywhere there is a mining shovel operating.

What do you think will happen to these resource-extraction economies when demand drastically declines? The double-boost of growing exports at higher and higher prices will easily turn into a double-downer of falling exports and falling prices. At the same time we will be importing far less, we will begin to export far more than we do today, because the dollar will have fallen and U.S. goods priced in dollars will be relatively cheap. This will also hurt other resource extraction economies, because cheap U.S. goods will compete with their goods for export to other countries.

The United States produces quite a few resources itself. However, the United States has a very diverse economy and will not feel the effects of either the resource boom or bust to the same extent as other countries.

America’s Bursting Bubble Economy Will Bring Down Both Groups of Exporting Nations

On the way up, America’s multibubble economy fueled the expansion of the world’s bubble economy. As each economy expanded, it stimulated and expanded other economies, not only because the United States imported many goods and services from around the world, but also because many other nations have been trading back and forth in a positive feedback loop of economic stimulus. Europe and the more developed economies bought from the underdeveloped and developing countries, and those countries, in turn, bought from other countries.

The popping of America’s bubble economy will rapidly pull the plug on every exporting nation in this complex web of interdependence. Given that America’s bubble economy has a heavy discretionary spending component, and given that we already have quite a lot of big capital goods in place that will keep us going for a while (like cars and refrigerators), it will be relatively easy for American consumers to drastically reduce their purchases of imported goods (now at sky high prices due to the falling dollar) as the U.S. economy heads deeper into recession. And in any case, after the dollar bubble pops, the costs of imports into the United States will soar astronomically.

Salt in the Wound: Not Only Will Foreign Investors Suffer as Their Domestic Economies Fall, They Will Also Lose Their Huge Profits from U.S. Investments

While the U.S. multibubble economy was booming, domestic and foreign investors from around the world made tremendous profits on their U.S. holdings, including their investments in U.S. stocks, bonds, Treasuries, real estate, and other dollar-denominated assets. As the bubbles pop and these assets lose value, the once-rising profit tide will rapidly flow in reverse, leaving foreign investors with tremendous losses. The economic consequences of this worldwide evaporation of wealth cannot be overstated.

More Salt: Other Governments Have Large Debts As Well

In addition to being hit hard by a huge downturn in exports, many of these export-dependent countries, like Germany and Japan, have built up large government debts of their own during the last two decades. And, just like the United States, they are now rapidly adding to those deficits with big stimulus packages in the hope of saving their economies. These growing government deficits in the exporting countries will only add to their economic problems later. When their economies hit the Aftershock, their people and economies will be hit harder because their governments are strapped for cash with huge debts, and they will not be able to fund social welfare programs at anywhere near the current, accustomed levels. It will be a real shock, especially to Europe, but also to Japan, to have governments that move from being perhaps overly lavish in their benefits in the past to being much stingier in the future.