Some money questions

[billyboy]

What's going to happen to the National and State tax revenue with the huge loses on Wall Street? What is happening to the value of the dollar when it is realized that we are printing up more and more that have no backing, to bail out these private businesses? Obviously, I'm not an economist but it looks like the problems are just beginning.

[MRM]

It's no big mystery. It's basic macroeconomic analysis. As the value of capital falls, tax revenues contract. Government spending can't be reduced as quickly, or the government deliberately increases spending to spur economic activity, so the federal deficit grows and states look for ways to juice their budgets because they can't run deficits.

Over time lower prices attract new investment which starts the business cycle over again. In the mean time higher deficits eventually result in higher interest rates. The value of the Dollar depends on whether money is flowing into or out of other countries. In the long term budget deficits will lower the value of the dollar, but interest rates attract investment, so what happens to the dollar depends on what is happening in other countires. Right now the dollar is strengthening because Europe and Asia are in as bad or worse turmoil that the US. The US seems to have gone into recession sooner, and will probably come out of it sooner than the rest of the world.

To get the whole picture you have to watch the money supply and ballance that against the deficit (as a percentage of GNP), interest rates and inflation. Generally, government spending is inflationary but recessions are deflationary. Stagflation is unusual and requires the perfect storm. Typically you'll see inflation fall with a recession and interest rates drop. As activity picks up inflation kicks in and the Fed steps in to increase rates to tamp down on inflation. Interest rates and the unemployment rate are tools to reduce inflation, government spending or tax decreases are tools used to spur growth and are therefore inflationary.

So to read the tea leaves in a rudimentary sort of way, watch interest rates, inflation, unemployment, the money supply, and track the trade and budget deficits. Unemployment is a backward looking indicator, so remember that in your calculations. The signal that we're about to come out of recession is when the money supply starts to increase on its own. That signals the economic furnace is starting to burn on its own.