Book Review – How an Economy Grows and Why It Crashes

September 19, 2010 by financiallyfreenow

I recently completed reading a book called “How an Economy Grows and Why It Crashes” by Peter Schiff and Andrew Schiff after reading rave reviews from Amazon.com. This book teaches on how the economy works, why it prospers, why it crashes, among others. Even though this book is centered around the US economy, you can still learn a lot from this book. I thoroughly enjoyed reading this book as it has comic sketches as well. The book is so simple to understand yet the topics covered have depth. I have no economic background from school so this book makes it easy to learn about the economy.

This book espouses the Austrian School instead of Keynesian economics embraced by most politicians and economists nowadays.

To summarise this book:

• Economies grow by finding better ways of producing more stuff that humans want. This doesn’t change, no matter how big an economy grows into.
• A government’s increasing debt take-up has hidden the fact that real credit is limited by a finite supply of savings. Savings must be accumulated before it can be lent out.
• Savings create the capital that allows for expansion of production. A dollar saved makes a more positive economic impact than a dollar spent. If there is real demand, what is produced will be bought without needing artificial demand.
• Artificially expensive currency, high taxes and restrictive wage and labour laws makes US not as competitive in enough products ranges as compared to China. So, what if China can produce cheaper goods? Isn’t that good for US as its citizens can buy cheaper products?
• Recession is good as it re-balances the economy.
• US gets stuff without producing them and get to borrow money without having to save. For that, the Chinese get to work without consuming what they produce. They save but don’t get to borrow. Where’s the benefit there?
• US is simply fortunate to sell its debt to foreigners. But the “good fortune” can’t last forever. The US is gravely in debt in the tune of $13 trillion and it surely cannot pay up most of it. The US government is literally bankrupt! If it was a public-listed company, it would have gone bust long time ago. Now, the US has only two options: default (tell the creditors that it can’t pay up) or inflate (print money to pay off maturing debt).  Either options leads to painful consequences. However, defaulting is the better option as it offers a fresh beginning.
• With over 50% of the government debt currently sold to foreigners, who will pick up the sack when the foreigners stop buying? With little domestic savings, Americans alone will not be able to do it.

The US currency, like most currencies nowadays, is backed to thin air – nothingness! Its value is just what is perceived by people. It can be printed easily as per the government’s wish. The paper currency will become worthless when people lose faith in it. However, precious metals (eg. gold and silver) cannot be “printed” and the value will be there forever. Its value won’t be eroded. This is the simple reason why gold and silver prices are rising through the roof nowadays!
After reading this book, I have decided to shift my portfolio around after the warnings from the book. I had holdings in US stocks like SPY which were meant to be long-term investments. After reading this book, I decided to sell my holdings off and withdraw my US dollars from the broker. I’ve decided to invest them in a China ETF dominated in Singapore dollars and listed in SGX. I feel this is a much safer for me as I’m a very conservative investor. Some might say that I’m just too paranoid and that US will still retain its reserve status no matter what happens. However, I’m not taking any chances, at least for the next 20 years. I will just wait and see what actually happens and learn from it. I’ve more confidence in the Singapore and Asian markets than the US market.
The book covers much more than what was summarised on top. I just summarised from the book the main points to show why I chose to sell off my US holdings and convert the US dollars to SGD.
Anyway, two things still perplex me when it comes to the workings of China. Why must China “heed” US’s request to appreciate the yuan? Also, why does China still buy US debt when China’s economists should have understood long time back that US bonds are not worthy of holding? Hopefully, someone can enlighten me on these two issues that has been nagging me for some time.

(On a side note, MPH Raffles City is having 30% off on regular-priced items till end of the month. So, go grab this book if you want a simplistic yet deep understanding of how an economy works and why it crashes!)