Tuesday, June 30, 2009

Global Savings Glut

Brad Setser has a good point on the Global Savings Glut controversy. How anyone can still give any credence to this notion is beyond me. How on earth can "excess savings" trigger massive de-leveraging?
Few topics are quite as polarizing as the ā€œsavings glut.ā€ The very term is often considered an attempt to shift responsibility for the current crisis away from the United States.

That is unfortunate. It is quite possible to believe that the buildup of vulnerabilities that led to the current crisis was a product both of a rise in savings in key emerging markets, a rose that with more than a bit of help from emerging market governments ā€“ produced an unnatural uphill flow of capital from the emerging world to the advanced economies, and policy failures in the U.S. and Europe.
I can see how this idea might seem plausible in 2005. But in 2009 the fact that it is nonsense is quite clear.

By accounting, an increase in surplus (savings) in one area must be matched by an decrease in savings (deficit) in another area. Every asset must have a liability. So, it is true by accounting that an increase in debt in the West must have had an increase in surplus elsewhere (China, oil exporters) but events have made the causality clear: Western debt drove surpluses elsewhere. Private sector debt, unlike public sector debt, must be financed out of income, and it is clear the US debt levels cannot be supported by current levels of income. The credit expansion that fueled this increase in debt was bogus, banks stopped lending money and instead gifted it. China can impoverish it's people and trade their income (output) for US dollars (FX savings) to whatever degree it wants. This benefits the US, but does not work well for China. It is, however, sustainable, and it it unwinds it will only be good for China. But debt that cannot be serviced out of income will catastrophically collapse.


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