The Sky Isn't Falling Yet, But Stay Indoors

Martin Wolf says far too much blame is placed on the U.S. for global imbalances. The source of the problem, and hence the source of the solution, is the exchange rate policies of countries such as China. He believes changes need to be made soon or there will be a painful adjustment process to relieve the pressures arising from accumulating global imbalances:

We should still worry about imbalances, by By Martin Wolf, Financial Times: ...Why should we remain concerned about global imbalances? The answer is that they are undesirable, cannot continue indefinitely and the longer they last, the bigger and more painful the adjustment will be. Worse still, as recent US congressional threats to China ... demonstrate, much damage can be done along the way to the world economy and international relations.

Yet if we are to understand the dangers, we need first to recognise what is happening. ... If only, critics argue, the US government had a smaller fiscal deficit and US households were less profligate, the current account deficits would disappear. These people are right: if the US had an economic depression, the trade deficit would certainly dwindle. Yet this cure would be vastly more painful than the disease. ... As Lawrence Summers ... noted ... “There is one striking fact about the global economy that belies a predominantly American explanation for the pattern of global capital flows: real interest rates globally are low, not high.” ...

A superpower’s place may always be in the wrong. But, ... the driving force behind the global imbalances is Asia’s structural savings surplus, with China playing an increasingly significant role. .... If one accepts ... that the US domestic spending and current account deficits are a ... response to the excess of desired savings over investment in the rest of the world, why should we worry? ...

First, the imbalances are the results of bad policies in the capital exporting countries. The global accumulation of ... foreign currency reserves ... was the result of decisions to intervene in currency markets... China’s reserves alone are now $600 for every man, woman and child – and rising. Cannot a government ... concerned about persistent mass poverty do something more intelligent with this money than lend it to the US, at very low interest rates, only to have the latter both complain and ultimately, in all likelihood, depreciate its currency and so partially default on its liabilities?

Second, the scale of US foreign borrowing has ... allowed George W. Bush ... to offer guns and butter. But the adverse impact on sectors producing tradable goods and services has also exacerbated protectionist sentiments. When the economy next slows down, the expression of these sentiments could become both deafening and dangerous.

Third, strange things are happening to the US economy. ... Since the bursting of the equity bubble, the corporate sector has moved into surplus. The government and, above all the household sector, are in huge deficit. ... As a result, household indebtedness and debt service are both soaring (graph 1, graph 2).

Finally, the counterpart of the huge capital inflow is not increased investment, but increased consumption and falling national savings. ... Investment is also tilted towards real estate and the non-traded sector, which will not pay the foreign debts. ...

Yes, there are economists who argue that the huge US current account deficits are a mirage or, if not that, indefinitely sustainable... Over the past 15 years, US imports at constant prices grew at a trend rate of 8.3 per cent a year, while exports grew at 5.1 per cent. Today, as a result, imports are 60 per cent bigger than exports. It would take a substantial turnround in these relative rates of growth for the current account deficit merely to stabilise as a share of GDP, let alone fall. ...

What is undesirable ought to change. What is unsustainable will change. What is dangerous must change. Yet, if the world is to avoid a serious recession, adjustment must start in the surplus countries. The fate of the world economy does not lie predominantly in US hands. It is comforting for many – both American and non-American – to disbelieve this. It is true, all the same.