The Global Imbalances: will they end in tears Martin Wolf, Associate Editor

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The Global Imbalances will they end in
tears?Martin Wolf, Associate Editor Chief
Economics Commentator, Financial Times

• Leverhulme Centre for Research on Globalisation
  and Economic Policy, School of Economics,
  Nottingham University
• March 9th, 2006

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1. Deficits, debt and the dollar

• Over the past decade a combination of diverse
  forces has created . . . a global saving glut.
  Ben Bernanke, Governor of the Federal Reserve,
  March 10th 2005

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1. Deficits, debt and the dollar

• Long-term rates have moved lower virtually
  everywhere. Alan Greenspan, chairman of the
  Federal Reserve, June 6th 2005

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1. Deficits, debt and the dollar outline

• Greenspans conundrum
• Global excess savings
• Global imbalances
• US as spender and borrower of last resort
• The end-game

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1. Conundrum

• Why have monetary and fiscal policies been so
  loose?
• Why are global real interest rates so low?
• Why is the US running huge current account
  deficits?

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1. Conundrum long-term real rates
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1. Conundrum real interest rates
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1. Conundrum US current account
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1. Conundrum conclusion

• Exceptionally aggressive monetary and fiscal
  policies, to escape the slow down
• Low real rates, despite the strong global
  economic growth
• Exploding US current account deficits
• What is going on?

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2. Savings surpluses and deficits

• What lies behind all this is a move into surplus
  of savings over investment in a wide range of
  countries
• In some case savings have risen more than
  investment
• In some cases investment has fallen
• In some cases savings have risen and investment
  has fallen
• In important cases, the private sectors excess
  savings has risen sharply, creating both fiscal
  deficits and current account surpluses

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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses
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2. Savings surpluses conclusion

• The world is awash with excess savings
• Almost every region is in surplus, except
• The Anglosphere (and central and eastern Europe)
• All this must be equilibrated through the global
  balance of payments
• And, of course, it is

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3. Global imbalances
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3. Global imbalances
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3. Global imbalances

• Two broad groups of countries
• Mature high-income countries with slowly growing
  economies and chronic excess savings. Japan and
  Old Europe generated a combined current account
  surplus of 336bn in 2004, up from 189bn in 1996
• BUT the rest of the world the emerging market
  economies - have moved from minus 99bn in 1996
  to 323bn in 2004
• Thus the swing for the high-income countries was
  147bn, but the swing for the rest was 421bn

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3. Global imbalances
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3. Global imbalances
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3. Global imbalances
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3. Global imbalances
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3. Global imbalances
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3. Global imbalances

• It is not just the current account surplus. Asian
  emerging countries are also recycling the capital
  inflow
• This is particularly true for China, Taiwan,
  India and South Korea
• This supports the dollar within the new Bretton
  Woods area

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3. Global imbalances
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3. Global imbalances
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3. Global imbalances
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3. Global imbalances
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3. Global imbalances conclusion

• The rest of the world is generating large savings
  surpluses and parking them in the US
• The big swings are the result of the financial
  crises of the 1990s and the recent oil price
  surge
• These persuaded the Asian emerging market
  economies to stick with export-led growth
• They are running current account surpluses and
  recycling capital inflows
• This keeps the dollar up against their currencies

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4. US as spender of last resort

• US seeks internal balance
• It accommodates the external imbalance imposed by
  the rest of the world
• As issuer of the worlds key currency, it is in a
  unique position to be the worlds spender of last
  resort
• In seeking internal balance in the US, the
  Federal reserve generates internal balance in the
  open economies of the rest of the world
• It does this by offsetting their desired export
  surpluses

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4. US as spender of last resort
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4. US as spender of last resort
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4. US as spender of last resort
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4. US as spender of last resort
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4. US as spender of last resort

• The macroeconomic variables domestic income and
  expenditure and capital inflows from abroad are
  accommodating the growing structural deficit.
• The current account tail is wagging the domestic
  economic dog
• It will take a large adjustment in relative
  growth of exports and imports to halt the
  deteriorating trend

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5. End-game

• Is it plausible that the surpluses will begin to
  shrink?
• In Japan and western Europe it is not very
  likely. These are natural surplus regions
• In the oil exporters, it is quite likely, though
  they would be wise not to spend the windfall at
  once
• The crucial players are the Asian emerging
  countries, since they could afford to run current
  account deficits

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5. End-game

• There are good reasons for the Asian countries to
  alter their policies
• It is hard to sterilise the monetary impact of
  huge reserve accumulations
• Real returns on the assets they own are low and,
  ultimately, likely to be negative when currencies
  adjust
• Subsidising exports through an undervalued
  exchange rate and unhedged lending in foreign
  currencies is expensive
• Reserves are now adequate
• And so insurance has become excessively expensive
  

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5. End-game

• But there are also advantages to sustaining the
  dollar
• It gives economies a monetary anchor
• It preserves export competitiveness
• It creates a de facto Asian monetary system
• It pays for US-provided security

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5. End-game

• The big decision-maker is China
• It is prepared to buy an acquiescent US, but
  nobody knows on what scale (including, I think,
  the Chinese)
• It does not know how far to let the currency
  appreciate
• And it is not sure what the best exchange-rate
  regime would be
• This is just not a high priority

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5. End-game

• What about the US?
• As John Maynard Keynes said If you owe your bank
  manager 100, you have a problem. If you owe him
  1m, he has a problem
• The US enjoys a huge transfer of resources
  greater than the fiscal deficit or its entire
  military spending
• This is guns and butter

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5. End-game

• So what are the drawbacks?
• Industries producing tradeable goods and services
  are weakened
• Protectionist pressure increases
• If the fiscal deficit is to be reduced, the
  private sectors financial deficit must be pushed
  upward again to very high levels
• That would demand monetary loosening and debt
  expansion
• If credit were to be cut off, the dollar would
  plunge, inflation would rise, interest rates
  would rise and the economy would, almost
  certainly, go into recession
• The creditors are not necessarily friendly

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5. End-game

• The longer the delay the bigger the adjustment
• The best approach would be a deal with Asia
• Exchange rate adjustment
• Fiscal tightening in the US
• Expansionary policies in Asian emerging markets,
  together with structural reform
• A co-operative solution or a mess looms ahead