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Eureka: Balancing the economy
by Jay Gutman
2017-04-13 11:03:56
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Economists tend to group investments and savings together and consumption and government spending together. But rarely do they talk about links between savings, investments, consumption and government spending. How do you get your economy balanced and back on track?

economy01_400_01Let’s say I’m old Joe and I own a pub. I bought the pub for 50,000 dollars, which was the initial investment. It costs me about 6,000 dollars a month to keep the pub running, in the form of bar tender salaries, drinks, electricity, gas, water, dishes, glasses, repair and maintenance, phone bills and wifi so clients can get free access to the internet. So that would be a 72,000 dollar a year investment to keep the pub up and running.

This means I would need at least 8,000 dollars a month in revenue so I can continue to keep the pub running, because 2,000 dollars would help me pay my own personal bills. 9,000 dollars a month in revenue would be safer, and with about 20,000 dollars in revenue, only then can I make serious plans for investment, savings, my own personal consumption. Of course a lot of that revenue would be taxed, and the government would give back in the form of subsidized healthcare or other subsidies, keeping the street in front of the pub’s porch clean, making sure the roads leading to the pub are operational, making sure there are lights in the streets at night and so on.

So how does all this apply to the economy at a larger scale? If I need a 240,000 dollar revenue a year just to feel comfortable about my 72,000 dollar a year investment, this gives you an idea about how comfortable economic planners should be about the investment to consumption ratio. In some economies, if you take any random street and look at all the empty stores, pubs and restaurants, you will get a feel of what the investment to consumption ratio is.

Investments basically work like this. Imagine that I work at an office and make 24,000 a year, and decide to use some of my savings to take French classes because I get the feeling that I can do business with the French and French Canadians. I then decide that a few hours of French classes a week aren’t enough and that I should spend a year in France learning French. Let’s say I had 15,000 dollars in savings and decide to use all of them for French lessons. Let’s say I hang out with a lot of Americans and that French thing doesn’t really work out. That’s 15,000 blown out for a few good memories. Now let’s imagine that at a larger scale people start using their savings, and other people’s savings (that’s where loans come from) to make investments that don’t really pay off. Like the guy who decided to study French and failed, if investments fail, that means you lose your savings and have to start from scratch.

Now let’s imagine that your country, let’s call it Tanzambabwea borrowed money from other countries saying that it would make investments that would pay off. Now those countries, banks and people who lost savings investing there would be angry at Tanzambabweans.

What’s the best way to balance the economy? The idea is you need to limit investment at about  ¼ or 25% of consumption. If at one point people start investing about half of the average national consumption rate smells like trouble. Investing 10% of what people consume is playing it safe.

What about savings? To sketch things roughly, ideally, the average person should probably save about 20 to 25% of their income, pay 20 to 25% in taxes ( I walk home from work at night, those public lights really keep those places safe, clean pavements prevent me from buying too many shoes and good traffic light systems mean I can cross the street, plus my tax money pays the police, so there) consume 40 to 45% (if the salary allows) and invest no more than 5% of their income.

But then there’s the gambler’s fallacy and other fallacies. Let’s say Tanzambabwea borrows money and invests it in awesome projects that get the economy up and running. Investors are impressed by Tanzambabweans and call them the pearls of the Indianic sea (made that up) and decide to invest more until Tanzambabweans have more money to invest than know what to do with. Harama, the capital city, builds skyscrapers with them, but no one really works or lives in all those skyscrapers. You get the idea. So in the end, investments are good, but you need to make sure that people are still consuming. Otherwise that would be like spending almost your entire paycheck on lottery tickets or on buying bonds. Not the best idea.     

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Emanuel Paparella2017-04-13 11:52:33
Interesting! Trump must know all this, judging from his business success, with some help from Putin and the exploitation of workers, which, of course is not part of economic equations...

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