Mittwoch, 4. März 2009

Global imbalances?

A popular crisis-related theme in the anglo-saxon press and blogosphere goes like this:

There is a global savings glut. China in particular is saving too much. This excess savings forced the US to run account deficits and to absorb all this cheap money. Availability of cheap money is basically an invitation to waste it on bad investment projects. So China is at least partially to blame for the US subprime desaster and the ensuing financial meltdown.

Is that so?

I do agree there is a "savings glut" in the sense that there is a lot of savings in the world (in particular in China), and it's hard to find suitable investments. The "savings glut" gets worse in a crisis situation, because everyone is cutting back on investments and saving more, so the economy enters a downward spiral. A liquidity trap, in other (more old-fashioned) words.

And yes, cheap and easy money is a temptation that can lead to overinvestment. It didn't only happen in the US. It happened in Chinese real estate as well.

But while it is true that massive amounts of Chinese savings were channelled to the US via the trade deficit, nobody forced the US to waste those assets by investing them in value-destroying activities. That decision was made/facilitated by American consumers, financial institutions and the regulator. The assets came cheap at real interest-rates around zero. They could have been invested into all sorts of useful things. Most things would have infinitely better than the subprime disaster.

Also, it’s a little too easy to blame the “global imbalances” for the current crisis:

The US has been running large deficits for many years. The “net international investment position” of the US amounted to -2.4 tr $ as of year-end 2007, roughly 20 % of US GDP (according to the Department of Commerce).

Yet in every year up to 2007, the US has managed to earn more income on its foreign assets than foreigners have managed to earn on their US assets. In other words, the US has so far not been forced to transfer any net assets abroad to service the capital absorbed by the US economy. Quite the contrary, the US has run persistent deficits, yet still enjoyed net investment income inflows from abroad. Seen from that angle, the situation wasn’t unstable or unsustainable at all.

Though there might be a problem brewing:

Apparently, the US has predominantly invested in foreign equity stakes, whereas foreigners preferred to buy US bonds (according to the Department of Commerce, foreigners owned 6.6 tr $ in US bonds, compared to Americans owning 1.5 tr $ in foreign bonds. For stocks and direct equity investments, the figures are 5.2 tr $ owned by foreigners in the US vs. 8.5 tr $ owned by Americans abroad; all numbers as of 12/07).

In other words, the US is a large net debtor (5.1 tr $, that's nearly 50 % of US GDP), but at the same time, it is also a large net-owner of equity stakes (3.3 tr $, or nearly 30 % of GDP).

That seems to be the reason why the US managed to earn more on its foreign investments: Equity returns were higher than bond yields.

(Quite possibly, US equity interests abroad also earned a higher interest than foreign equity interest in the US. At least that's my intuitive feel considering the M&A disasters suffered by empire-building German conglomerates in the US. But anecdotal evidence can be misleading, and I don't really have any hard numbers to back it up, so let's leave it at that)

Unfortunately, equities and corporate profits are currently taking a beating like never before. My guess is the US will no longer be a net income earner on its international investment position in 2009…


  1. The global imbalance theory is just good old trade protectionism in a new, highly sophisticated, golder collar studded, blue-suited, balance-of-payments think tank disguise.
    Those theorists know your points above about the US never having been forced to borrow and invest only in houses, with no rules or regulations about who can borrow how much very well.
    They're just making this story up to blame China for their excess consumption, and advocating schemes by which they can ban imports from China and try to increase local employment through import substitution. If their proposals, notably those of Brad Setser, are accepted, soon the US will go into an external financing crisis and there will be a sovereign default in the US.
    The following are sustaining the US dollar externally:US banks' inability to roll over debts, and US institutional investors being forced to fire-sell their foreign equity holdings to meet domestic solvency crisis in the US. Apart from this, China's central bank demand for Us treasuries. The first two will break down as the credit crisis eases. If the third, most important, also breaks up, then expect the US to default pretty soon.
    But as of now Brad Setser is almost an untouchable in the US establishment because of his war-like, protectionist views against China. So the Us has bought some time, during which it needs to reduce dependence on imported oil, and try to stabilize local demand, etc to be able to reduce the impact of a more severe crisis that is likely in a few years.

  2. I'm not quite sure why you are so bitter and aggressive regarding Brad. "Untouchable in the US establishment", "war-like views"? That's not quite the image I have of Brad Setser.

    I noticed you posted comments on some other blogs, and apparently, some of them got deleted, and you seemed quite bitter about that. Maybe it's your somewhat aggressive approach. For example, Pettis doesn't come across as a guy who blocks your access to his site for no reason. I've disagreed with him numerous times, and he always responded to my comments, and never deleted anything I've written.

    Anyway, I don't think China will stop buying US treasuries any time soon. It's not in China's interest to do so. And I don't think a US sovereign default is on the cards. If they're not careful, they will have a huge inflationary problem a few years down the road, but an outright "sovereign default" is pretty much impossible as long as their debt is denominated in US$.