I've been thinking about this for a while now too. The U.S. has a "neat trick" in that it produces the worldwide reserve currency, which is so in demand by the rest of the world that the U.S. can simply produce more currency to float out recessions and prevent depressions and the dollars get absorbed without raising inflation. This has led us to go well beyond the ideas of Keynes, who proposed a balanced budget in the long term. In 2008, the government dipped a toe in asset purchases, taking on billions in mortgages and bonds. In 2020, the government started taking stakes in corporations, dropping helicopter money (which used to be a joke among economists), and giving direct handouts to corporations, particularly the politically well-connected, via forgivable loans, asset purchases, and tax deferrence. This brings up 3 observations:
1) Since the U.S. economy grew at a historically mediocre pace of about 1-3% a year for most of the last 20 years WITH THE BENEFITS of a vast monetary expansion, dramatic tax cuts, falling interest rates, run-up of the national debt, and with massive asset purchases by the government, we can conclude that it probably would have grown even more slowly, or even negatively, without these extraordinary influences. The well-publicized declines in middle-class purchasing power in recent decades would have been even worse. Had the national debt not gone from $5.7T in 2000 to over $25T and climbing in 2020, our GDP might not have increased from $10.25T to $20.5T in that same time. What this means is that the U.S. economy may no longer be competitive enough to maintain a positive long-term growth rate on its own, without fiscal support from the mass-production of reserve currency. Dollars are the United States' main industry and export and we would have had two decades of falling living standards had we not mortgaged the future. This is similar to how a person living beyond their means can continue to live beyond their means as long as home equity lines of credit are available.
2) Purchases of corporate bonds and even shares could be characterized as slow-motion nationalization (still waiting for the howls about communism from the conservatives who were howling in 2008). The Fed tried to start offloading some of its assets and raised interest rates a couple of years ago (quantitative tightening), but the experiment was called off due to the more-severe-than-expected economic repercussions. That is, the economy could not absorb even a modest addition of assets / the removal of liquidity without going into an almost-recession. Think about that. Once the government buys assets in the private market, it cannot seem to sell them without triggering a contraction and declines in asset prices.
3) Inflation, measured as the change in prices of goods and services, has remained modest thanks to (a) imports from countries where USD are in demand, and (b) falling real wages. Inflation will likely remain low as long as those 2 conditions continue to be met. Four months ago, I was thinking that condition (b) might be violated because unemployment was so low and it seemed like a matter of time before wage pressures built. Before that, I was thinking that condition (a) might be violated in a limited way due to the tariff wars. Now I think pressure has eased on both fronts. People outside the U.S. want dollars now more than ever as they watch their own governments print currency. For non-reserve currencies, this often results in rising inflation, but not for the USD. The US will likely experience deflation this year, so everyone wants USD. It's a circular feedback loop. But can it last forever?
Ray Dalio traces these phenomenon to a historical cycle where economically dominant empires fall when they are so burdened with debt that their reserve currencies lose favor. This usually comes after a few decades of complacency, internal division, wasteful colonial wars, and declines in education, diplomatic clout, and military power. Yet, I don't think we can say whether the collapse of the USD as the world reserve currency occurs next year or 50 years from now. This cycle, if it exists, could outlive us all. Similarly, we can't say whether a debt-to-GDP of 200% represents the start of collapse or if it was 100% or if it will be 300%. But if Dalio is right, then the rules that would have worked in the past during an empire's ascendancy (e.g. 90/10 portfolios, 4% WR) might not apply in the new context of imperial decline.
