19th May 2012
Three ways governments extract your teeth: taxes, inflation, currency depreciation
We are all aware of taxes, an honest, transparent, democratic impost. Taxes, if properly used, can actually increase our wealth by providing essential public goods.
But there are two sneaky ways in which governments extract our wealth. When taxes are less than expenditure (deficit financing), we may think we are not paying for the government expenditure. But we are. In many ways (apart from the fact that future generations now get implicated).
There is NO FREE LUNCH.
We pay immediately through (a) inflation and (b) currency depreciation, as the economy's prospects are reduced (government expenditure is LARGELY a waste. Markets discount it steeply).
BOTH these methods are REGRESSIVE, meaning they hurt the poorest the most.
Whenever deficit financing is imposed for a long duration (as with India), expect the poorest to get poorer.
The good thing is that forex (and financial) markets PUNISH bad policy. We can readily "score" a government's policy by examining the performance of its currency.
The following data foreign exchange rate data over the past ten years shows that Australia and China have OUTPERFORMED India, Europe and USA. The wealth gain in China and Australia has been in effect AT THE EXPENSE of India, Europe and USA. Markets are usually not a zero-sum game. This particular issue (forex), however, IS a zero-sum game.
INDIAN RUPEE HAS LOST VALUE AGAINST CHINESE YUAN [Source] (click for larger image)
INDIAN RUPEE HAS STEEPLY LOST VALUE AGAINST AUSTRALIAN DOLLAR
AUSTRALIAN DOLLAR HAS STRENGTHENED SIGNIFICANTLY AGAINST US DOLLAR
US DOLLAR HAS OUTPERFORMED THE EURO (DESPITE BOTH COMPETING TO GET TO THE BOTTOM)
AUSTRALIAN DOLLAR HAS OUTPERFORMED THE CHINESE YUAN
Without trying to read too much into these comparisons, the following order of "merit" in terms of good policy can be postulated (don't hold me to account for this hypothesis!).
1st prize: Australia
2nd prize: China
3rd prize: USA
4th prize: India
5th prize: Europe