El Salvador's Decline Mocks Keynesian and Monetarist Magic

It all begins with production. The discussion of the human action that is “economics” would be so much more advanced, and so much more advancing of the human condition, if this basic truth were understood.

To demand things we must produce first. Underlying all trade is products for products, which means the buyer must have produced something first in order to be a buyer; that, or the buyer must have accessed the production of someone else in order to be a buyer.

This blindingly simple truth about the origins of all “consumption” is presently revealing itself in cruel fashion in El Salvador. It’s not just that the lockdowns and other city, state and national limits on economic activity wrecked the economic situation of tens of millions of Americans. What happens in the U.S. tends to touch people in ways good and bad around the world. It’s happening now.

Stating what should be obvious, a lack of production in the U.S. is revealing itself hideously in places like El Salvador. As the Wall Street Journal’s Santiago Perez explained it last week, the “slum in El Salvador where Maria Graceiela Barrera lives is dotted with white flags, outside homes, serving as distress signals that people inside don’t have enough food.”

In Barrera’s case, she is “no longer getting the $50 a month that two of her grandchildren send from Los Angeles.” Barrera tells Perez that “Since they lost their construction jobs because of the coronavirus, we are adrift.” And as previously alluded, it’s not just Barrera who is suffering a forced economic contraction taking place in the U.S. Perez reports that as “the jobless rate among Hispanics in the U.S. surged to close to 20% in April, remittances to El Salvador plunged 40% from the same month last year.” Demand for food in the Central American country doesn’t just happen; rather it’s to a high degree a consequence of production that takes place in the United States.

Yet all-too-many individuals with Ph.Ds next to their names thanks to advanced study in “economics” tell us that consumption is the driver of economic growth. No, consumption is a consequence. Without production first, there is no consumption. U.S. production has long informed Salvadoran demand, which is just a reminder of how worthless are numbers like GDP that excite economists so much. GDP is consumption-focused, which means it’s largely a consequence of production. Applied to El Salvador, a not-insubstantial driver of its GDP doesn’t even take place there.

All of which brings us to “market monetarists.” Though they claim a free-market orientation, their expressions signal a strong tilt toward central planning. They believe they can plan country GDP growth through control of so-called “money supply.” Basically they aim to plan a worthless statistical aggregate via the planning of money in an economy. The joke’s on them.

Indeed, while the Salvadoran colon was replaced by the dollar in an official sense in 2001, simple logic tells us that the dollar was the official currency of Salvadoran exchange long before 2001. Logic reigns here because trade is once again about products for products. Money just facilitates the exchange so long as it’s credible. The dollar long ago replaced the colon owing to the basic truth that the dollar readily commands goods and services wherever it’s offered. In short, El Salvador’s switch to the dollar back in 2001 was an acknowledgement of a long-standing reality.

It’s a reminder that even if the colon was still the country’s official currency, dollars would still liquefy trade in the country. The dollar is not just an accepted medium of exchange among Salvadorans, it’s also the currency that is regularly remitted to the Salvadoran people by their more economically productive relatives up in the United States. Translated, so called “money supply” that lifts Salvadoran GDP isn’t a consequence of the Fed, or “market monetarists” advising the Fed; rather it’s an effect of U.S.-based production that is rewarded with dollar compensation that ultimately flows to El Salvador.

To be clear, money and so-called “money supply” is production determined. Without production money logically would have no use. Money flows signal the flow of real goods, services and labor. Where there’s none of the three, there is no money. In their focus on numbers like GDP that are an upshot of growth, and various forms of monetary sorcery, market monetarists put the proverbial cart before the horse.

No country or person need ever worry about too little money supply. Production is always matched with money. It’s the basis of finance. Think about it.  

El Salvador’s struggles easily explain what vexes 99% of economists. Mostly Keynesian in orientation, they errantly focus on demand. No, demand and GDP happen after production; production that sometimes takes place in other countries.

Monetarism is just Keynesianianism turned inside out. Monetarists focus on “money supply” and how central banks can properly supply it. No, money supply happens after production; production that sometimes takes place in other countries. The discussion of the human action that is “economics” would once again be so much more advanced, and so much more advancing of the human condition, if this basic truth were understood.