Over the last decade or so, it has become conventional wisdom that the U.S. is doomed to lose its status as the world’s largest economy, and that the 21^st century will belong to the dragon in Asia. China, perhaps feeling the inevitability of its rise has become much more assertive in the geopolitical arena, even going so far as to declare a no-fly zone late last year. But there are reasons to doubt the conventional wisdom. In fact, while some not so long ago were predicting that China would overtake the U.S. by 2016/2017, some now believe that it may not happen until 2028 or later. China faces certain headwinds before they can become the world’s largest economy such as:

1.)    Over the last few years, China has undertaking massive infrastructure and building projects. However, reports out of China are beginning to indicate that there has been massive overbuilding and that many buildings stand empty. What this means is that Chinese banks are likely sitting on billions of dollars of bad loans. While this may not mean that the Chinese economy is going to collapse, a massive economic slowdown cannot be ruled out which would put off the day that the Chinese pass the U.S.

2.)    The shale boom in the U.S. has dropped the cost of energy in the U.S., leading many energy intensive manufacturing industries to view the U.S. as a place to “re-shore” production. Even more amazing, the U.S. is projected to surpass Saudi Arabia as the world’s #1 oil producer in a couple of years. A future U.S. administration more friendly to fossil fuels (approving the Keystone oil pipeline for example) would likely lead to more cheap energy increasing the attractiveness of the U.S. as a manufacturing location relative to China. While nobody is predicting that the situation will return to what it was in the 1950’s when the U.S. had more than 50% of the world’s manufacturing capacity and China had none, the increased manufacturing footprint in the U.S. will slow China’s economic rise relative to the U.S.

3.)    China is suffering its own bout of off-shoring. Wages have risen in China relative to surrounding countries that some production is off-shoring to Vietnam, Cambodia and Laos, and even Mexico as the economic recovery in the U.S. has increased the attractiveness of locating manufacturing near there. While China isn’t going to lose its title of “Workshop Of The World” to these countries, it isn’t a positive thing for China that companies are moving manufacturing away.

4.)    China is facing a large demographic problem. Put simply, the one-child policy that China has had for a generation has created a society that is aging rapidly. Further exacerbating this is that the Chinese cultural preference for male children meant that there is estimated to be(as was reported a few years ago) around 50 million Chinese men for whom there is no corresponding Chinese woman. The upshot is that Chinese are now facing a declining labor force. Historically, demographic developments such as this have tended to result in slowing of extraordinary economic growth rates. True, the U.S. is facing its own demographic challenges. However, the U.S. has historically been the preferred destination of immigrants, which could mitigate some of these effects.

5.)    The last major hurdle I will mention is the data itself. Those who predict that China will overtake the U.S. are largely taking Chinese economic data at face value. While nobody doubts that the Chinese economy has come a long way in the last 30 years (the evidence is there on the Shanghai skyline and various other industrialized cities around China), China claims that real economic growth has only been less than 7% in 2 of the last 30 years. Is this realistic? Perhaps. However, a government whose legitimacy rests on providing stellar economic growth rates would not likely shrink from padding the numbers here or there. The absence of an effective opposition in China makes the likelihood of such slight “exaggeration” over time more, not less, likely. Even a very slight exaggeration in growth rates, if carried out over a generation, would result in today’s official Chinese GDP numbers being substantially different than the reality. While I am not asserting that this is, in fact, the case, the possibility that the Chinese have been fudging the economic numbers should not be completely ruled out either.

In conclusion, perhaps it may be inevitable the Chinese will overtake the U.S. as the number 1 economy. However, there are still several headwinds that China must overcome to get there. If they fail to navigate these challenges competently, they may find their dream of being the number one economy deferred far into the future.

Over the last week, the FBI indicated that it was not going to bring criminal charges in the matter of the IRS allegedly targeting Tea Party and other conservative groups. It appears that this determination was made without even interviewing any of the alleged victims. Whatever the truth of the harassment allegations (and the actions of the government since the story broke gives the impression of some sort of a cover-up), the fact that there is now serious doubt about the impartiality of the IRS in political fights serves to undermine our system of voluntary tax compliance on which our entire governing apparatus depends.

In addition to this, it is also worth noting that America spends over $100 billion dollars per year on compliance with the byzantine tax code. When one considers that the ultimate goal of taxation is to move money from one place (the populace) to another place (government coffers), this is an extremely inefficient way of doing it. This $100 billion is a dead-weight loss (in economist-speak) to the economy.

Replacing the current income tax code with a national sales tax would have a couple of benefits. Firstly, it would allow us to collect the same amount of revenue as we currently do (the rate could be set to ensure this outcome), without effectively torching $100 billion dollars in economic output to do it. Since America’s companies would be collecting the revenue, tax compliance rates would tend to approach 100%. This system would be able to be administered for a fraction of the cost of the current system.

Secondly, it would prevent the government from using the tax code to micro-manage the economy, as well as remove the appearance of using the tax code to suppress political opponents. This perception, if allowed to continue, could eventually grow to the point where massive non-compliance with tax law could become a problem. An agency that comes to be seen as a partisan political actor, will cease to be seen as legitimate by a certain fraction of the population. A government that allows these activities to continue will also cease to be seen as legitimate. While one might suppose that harsh sanctions and jail time might deter would-be tax cheats (and currently it seems to be doing an okay job as of this writing), a situation where 10 million taxpayers felt put upon, suppressed and decided not to file taxes would not be one that the IRS could cope with. Just as the U.S. isn’t going to round up 10 million illegal aliens and deport them, it would simply not be logistically (or likely politically) feasible to jail 10 million otherwise law-abiding taxpayers.  By basically removing much of the IRS’ power, you remove the danger that the other side decides the use the agency to settle political scores when its’ turn in power comes (and in a democracy split 50/50, the other side’s turn always comes eventually).

For all of these reasons, it is time to start considering an alternate tax system; one that doesn’t have a large role for the current IRS.

On Friday, January 9^th, a disappointing jobs report came out showing only 74k new jobs were created in December, instead of the more than 200,000 that economists were expecting. While the unemployment rate fell to 6.7%, the lowest since 2008, this was due to more people leaving the labor force. The decline in the labor force participation rate in December ( 62.8%) resulted in this statistic reaching a level last seen in 1978. While some would like to lay this impact at Obama’s door (and as President for the last 5 years, he is not blameless), the fact is that the labor force participation rate has been falling since peaking in 2000 at around 67.3%. Clearly something else is going on than just the Obama Administration. And whatever is going on is not likely to be politically insignificant.

If one looks at the numbers, one will find that 63 million were not in the labor force in 1990. Today, 91 million are not in the labor force. If labor force participation rate were 66.3% (as in 1990, around the same time as another recession), there would be 8.8 million more people in the labor force today. This number represents 2.8% of the U.S. population; a segment that has just given up. To put this into perspective, if we were to have a war that killed the same percentage of our population as WWII did, we would be looking at about 1 million dead (i.e. they would have “dropped out” of the labor force). The effects of the last 20 years are as if we had a foreign war that was almost 9 times as bloody as WWII. This is a tremendous amount of lost output, and an additional strain on our social welfare system.

Unlike those who are disparaged in some quarters as lazy, these dropouts are not lazy, but more likely depressed. They are the sort of people who have tried, failed, and have been beaten down. When one is unemployed for long periods, one simply stagnates. For the ones who had skills once upon a time, their skills degrade. Even if they are able to claw their way back into the labor force somehow (an outcome by no means guaranteed), their life path has been irreversibly altered. They will most likely never enjoy the success that they could have had, and the economy will not benefit from the wealth that they could have created under other circumstances. In short, some of the human capital that they possessed, a major factor in economic growth and societal prosperity, has been irretrievably lost.

Long-term politically, this may not be an insignificant development. A person who has tried hard, failed, and given up is a person who has lost faith in the American system. This alienation may take several forms, none of them good. A person who feels that a system has failed him may not support or defend that system and support people promising radical solutions.  Or the person may become a permanent welfare case, maintaining that he is owed this support by a system that has failed him (and vote accordingly). Or in extreme cases, such a person may even turn to violence as an expression of frustration. While these 8.8 million people are not going to overthrow a system supported by the other 309 million Americans, the fact is that recent years have seen many indications that more and more Americans are feeling alienated, one of the most prominent expressions of this being the Tea Party. If present trends continue and the economy continues to struggle to create jobs for a growing population, this 8.8 million group is going to grow. If left unchecked, this segment could potentially grow to the point that it would be a challenge to social stability. The good news is that such an outcome is not pre-ordained. The economy could start creating jobs again and this trend could be reversed. Policies that drastically reduce the regulatory burden on businesses enabling them to grow faster and hire more people would be a step in the right direction. Only time will tell.

As we head into the new year, people are making resolutions which will promptly be forgotten within a few days (hours) as more comfortable (for them) and routine behavior sets in. The reason for this is that apart from habits being comfortable (they wouldn’t be habits otherwise), the commitment to change is usually a commitment to obtain a result rather than a commitment to the process that would obtain the result. For example, a resolution to “lose 20 pounds” is not the same as a commitment to “spend one hour at the gym every day while maintaining my current intake of food”. One is a goal (and once one obtains that goal, then one goes back to the old habits with the same result), and the other is a habit. Without changing the habit, the accomplishment of the goal will not be permanent.

What is an appropriate New Year’s resolution for badass? In short, to be financially independent. Think of almost every movie badass out there. He/She is independent. Nobody is out there crying for help, or begging someone to put their own interests aside to come to his/her rescue. Can you imagine John Wayne whining about not having an adequate retirement because of a bunch of jerks who crashed the Social Security Program? How about Clint Eastwood crying for a bail-out because of his own irresponsibility? True, these actors portrayed an ideal, but it was (and is) an ideal worth pursuing; that of independence.

In order to be independent, one must have money and not be dependent on others. In other words, one must save money, save more money, and save even more money. In my upcoming book “You, Inc.”, I talk about how to achieve personal financial independence. At its heart is the act of saving money. For many people, it requires a change of mindset. It requires a mindset that says, “I don’t care what happens to Social Security, I am going to save enough money so that I will be okay whatever happens”. The year 2014 is sure to be bumpy. The world is a dangerous place and the economy, while improving, is still not what I would describe as smooth. Becoming a saver and taking control of your financial destiny will eventually lead to that most badass of badass qualities: financial independence.

Happy New Year.