The Bank of England's most consistently interesting economist had some bad news today for anyone worried about the problem of global imbalances. He thinks that those current-account imbalances are likely to get bigger, probably a lot bigger, in the next 10 to 20 years - and there may not be very much that anyone can do about it.
Andy Haldane, who runs the bank's financial stability division, has given some seminal speeches on the banking crisis over the past couple of years. In today's remarks at Chatham House he's branched out into international macroeconomics, to ask why global current-account deficits and surpluses grew so big in the lead-up to the crisis - and what is likely to happen to them in future.
His boss, Mervyn King has what you might call a keen interest in this issue. You'll remember that before last month's G20 summit in Seoul he warned that if the leaders didn't agree how to bring down these imbalances, "the next 12 months might be an even more difficult and dangerous period than the one we have been through." In the event, they agreed that they needed to agree, and that was about it. We'll probably see the same debate again next year, with China wanting a gradual path to lower Chinese savings rates and a stronger currency and America wanting more adjustment, more quickly.
The Seoul summit was disappointing, if not much of a surprise. But the message of Andy Haldane's speech is that even if the major economies were able to come with a "grand bargain" to resolve global imbalances, it might not make much of a difference.
Stepping back from the arguments in Seoul, he identifies some major long-term forces behind rising surpluses in the emerging market economies, and rising deficits in the West. Most of these trends will intensify in the next few decades - in other words, that the deficits and surpluses are going to get even bigger.
The speech is worth reading in full [311Kb PDF].
He starts by pointing out that the imbalances we have seen in the past few years are larger than any we have seen in the last 100 years, and they seem to have been driven by (a) more integrated global capital markets and (b) changes in national savings rates. The difference between what America invests as a nation, and what China and other emerging economies invest, is roughly the same as it always was. What's changed is that China and the rest are saving much more, and America and other deficit countries have been saving a bit less. With a more integrated global capital market, it's become easier for differences in national savings and investment rates to turn into different current-account positions.
Here's the question, as Haldane puts it: "Is the problem impatience in the West, or excessive patience in the East?" His answer is both - and neither.
Some say it is cultural differences: Asians have a "savings culture", maybe even a savings gene, whereas Americans have a deep cultural propensity to spend. But there isn’t much evidence of this. In one academic study, 68% of American students were willing to sacrifice a short-term pay-off, to get a larger long-term reward. The figure for Chinese students was 62%.
The two more important factors behind high Chinese savings rates are that Chinese companies retain profits, whereas American companies prefer to distribute them to shareholders, and Chinese households must save more of their income, to pay for their family's education, health and old age. As I pointed out in another post, the repressed Chinese financial system plays a big role here - giving companies no alternative way of raising funds to invest, and giving households such a bad return on their money, they have to save more and more of their income to keep up.
Switch to the US, and you can see that the American financial system has been all too efficient at getting financing to US companies - and US households - without anyone having to take the trouble to save. Housing equity withdrawal alone accounted for 4% of personal disposable income in the US in 2005, up from less than 2% in 2000. This rise was primarily due to poorer households getting greater access to finance: as Haldane says, "liberalisation fed impatience".
Intriguingly, Haldane thinks that rising income inequality in the US has also lowered the savings rate among poorer households, as families strive to "keep up with the Joneses". Among rich countries, it's striking that a higher level of income inequality seems to go with a larger current-account deficit. (see the chart below).
All of this is very interesting, you might say, but does it tell us anything about the future? The answer is yes - but perhaps not in the way you think. In talk of a "grand bargain", the focus has been on the level of real exchange rates (particularly China's) and long-term structural reforms, for example, developing a social safety net and a health system in China, to encourage households to put less of their income aside. Those things could be helpful, but they sound like small beer, relative to the deeper global trends that have taken current-account imbalances to such highs.
On this analysis, sweeping structural reform of the Chinese financial system would probably help more - especially if it made it easier for funding to flow to companies, and reduced the incentive for them to hang on to every yuan they can. However, that would involve the Chinese giving up control over the banking system. The current leadership will find it a lot harder to do that than to build a Chinese NHS.
And... even if they did both, Haldane argues that the combined effects of global capital market integration and demographic change are likely to make global current-account imbalances bigger, not smaller, in the years ahead.
First, emerging market economies are likely to get richer in the next few decades, and as they get richer they are likely to expand their external balance sheet - that is, to acquire more foreign assets. Assuming (and it is a big assumption) that the G7 economies maintain roughly the same ratio of foreign assets to GDP, Haldane reckons that the Brics would catch up with the G7, on this measure, by around 2035. By 2050, over half of all G20 external assets would belong to the Brics, compared with around 9% today. The US share would fall from 28% to 12% (see the chart below).
This may be an extreme case - for one thing, you'd expect the G7 countries to be increasing their stock of foreign assets, as a share of GDP, over this period (see my post from October). But, looking around the world, we are looking at a period of dramatic shifts in global financial power, and that could have some thorny consequences. As Haldane notes:
"If this path were to be even broadly followed, it would have implications for the scale of global imbalances, which will tend to rise as gross capital flows outpace GDP growth. It would have implications for financial stability, as the scale of gross capital surges (fuelling bubbles) and reversals (fuelling crises) increases. And it may also have implications for the dollar’s reserve currency status."
Second, there's our old friend, demography. As the chart above shows, there will be a rising proportion of "prime savers" in developing countries for at least another 20 years, while the share in the advanced countries continues to go down. Other things equal, that means savings in rich countries will continue to fall, while savings in emerging countries keep going up. The forecast is that demographics alone could increase India's savings rate by 10 percentage points of GDP by 2050. By that point, China could account for half of all global savings - the US, a mere 5%. If things are not so equal - the retirement age goes up in rich countries, perhaps, or the emerging market economies develop their welfare systems - that could slow down these trends, but it's unlikely to reverse them.
So where does all this leave us? I think it leaves the world facing a very difficult choice in the next few years, and it's not whether and how to revalue the Chinese currency. If Haldane is right, we either have to learn to live with large current-account imbalances, and all the destabilising swings in capital flows that go with them - or we have to stop having a fully integrated global capital market. It may really be that simple.