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CiteHow is that for brevity? The world economy reduced to a single rhyme.
The BRICS are Brazil, Russia, India and China – Goldman's set of big emerging economies. With oil at $75, they really should have added in the Saudis. Not many people, but lots of oil.
They lend to the US. In dollars at low rates. They probably won't get repaid in dollars with an equal (external) purchasing power. External debt is a claim on future export revenues. And it is pretty clear that the US is not taking on external debt to build up its future export capacity. That suggests that the dollar will have to fall at some point.
The BRICS might be better off lending to the US in their own currencies, not in dollars. That is what the US did back when it was a creditor … let the other guy take the exchange rate risk.
But right now the BRICs lend to the US in dollars, and the US is happy to spend what the BRICs want to lend. The federal government does its part. The sunbelt construction industry does its part. Or at least it did. US homeowners do their part. Even those Americans stuck in flatland with stagnant real wages and relatively stagnant home prices do their part. They want to keep up with the Jones' on the coast. Or at least not cut back even as they pay more to fill up their gas tanks (and Saudi and Russian bank accounts)
So long as the US generates the demand growth the world needs, the global economy grows. What's not to like?
No one at the plethora of international meetings taking place this weekend – or for that matter, President Hu and President Bush — will admit that they want one more year of unbalanced (but strong) global growth. The talk, at least on the surface, is about the need to deal with global imbalances.
But I increasingly suspect that such conferences actually serve an altogether different purpose.
The BRICs – led by China – assure the US that they won't change their exchange rates, and will continue to add to the dollar reserves. And the US assures the BRICS that it will keep on spending. And everyone else concludes that they can safely chalk in another year of unbalanced growth.
Of course, no one would admit that this is what is going on.
The US doesn't explicitly say that it will keep on spending. The Bush Administration's official line is that it intends to cut the fiscal deficit by 2009. But the policies backing that commitment are sufficiently thin that the rest of the world can take comfort that the US will continue to spend what they want to lend. Among other things, keeping an Army in Iraq to prevent a low-level civil war from becoming a big civil war isn't cheap. John Snow certainly seems far more interested in arguing that fiscal deficits don't contribute to global imbalances than actually reducing the US fiscal deficit.
And since the Federal Reserve worries about inflation and employment — not the composition of output or the risks created if demand growth exceeds income growth — it will conduct a monetary policy that facilitates the expansion of the US non-tradables sector to help make up for a shortage of global demand that results from excessive global savings. That at least is my interpretation of Bernanke's recent statements.
The BRICs don't explicitly say that they will keep on lending to the US either.
I suspect that China won't even formally admit that it still pegs to the dollar. But China seems far more committed to exchange rate stability than exchange rate flexibility. Its willingness to allow meaningful RMB appreciation is every bit as much in doubt as the Bush Administration's commitment to fiscal adjustment. So far, the RMB has moved by a bit more than 1% against the dollar since the initial revaluation. That doesn't even offset ongoing inflation differentials between China and the US.
The other big dollar peggers — the oil exporters – have even less interest in a serious discussion of their outdated exchange rate pegs. Why is the Saudi Riyal still where it was in 1998, when oil prices have quadrupled since then? So far, the oil exporters have been very effective at keeping their pegs off the agenda. Everyone prefers to beat up on the Europeans for the absence of structural reform – without giving the Europeans credit for allowing exchange rate adjustment.
And since oil importers keep on hoping that oil prices will fall, they don't complain too much about the high levels of savings the oil exporting countries. Oil exporters assume that oil will be at $30 in their budgets; oil importers hope they are right – and most of the oil windfall is saved rather than spent.
So the US reasonably can conclude that if it is willing to spend, the BRICs will be wiling to lend.
Hell, the US could conclude that the BRICs are so unwilling to change their basic policies that they will keep on lending even if the US says no to CNOOC, to DPW and to a whole host of other investments in the US.
Wanna buy a US company? Forget about it. Wanna buy some US debt? Be our guest.
Maybe even convertible bonds structured to skirt the CFIUS process …
My little story leaves out Europe. But I think the basic message coming out of Europe is pretty clear. Even if the BRICs start to lend, Europe doesn't really want to spend. Europe doesn't want to replace the US as a motor for global demand growth. Europe also doesn't want to join the BRICs in lending to the US. It wants to sit this particular game out – for better or for worse.
No one explicitly says that they want the current game to continue.
Everyone talks of the need for rebalancing, and hopes the rebalancing will be orderly. The G-7 statement on global imbalances (see the Annex) is quite reasonable. But it lacks concrete commitments from those actually in the G-7, and includes lots of demands on others. The IMF clearly is doing a bit more to try to catalyze a bit more action that it has in the past – but all the IMF can do is try to persuade others to take action. de Rato has indicated that he is not interested in serving as an exchange rate umpire. The IMF will continue to call for more exchange rate flexibility in China and the oil producers. But it won't formally declare China's exchange rate peg an impediment to effective global adjustment.
Still, even with a bit more activity and few more words from the G-7 on the need to address global imbalances, it is hard to escape the sense that the most players will come away concluding that no one really intends to do much. The US won't stop spending. And the BRICs won't stop lending.
I suspect that this is not a stable long-term equilibrium. But it looks set to last for another year.
Even if its political foundation looks increasingly shaky.
“And since oil importers keep on hoping that oil prices will fall, they don’t complain too much about the high levels of savings the oil exporting countries.”
In some cases they do not complain because they have figured out that high oil prices aren’t a drag on growth anymore. In a recent article a commentator said that the old rule of 10% higher oil prices equals 0.5% less growth is not true for Germany anymore.
In effect he said that with a lag (a few months to a year or so) exports to oil exporters go up more than the increased oil import bill.
Still, I worry every time someone proclaims that the old rules don’t apply anymore because this time it’s different.
How much debt is coming from each country, as a percentage of the total from all sources (including domestic?) I’m sure there’s a pie chart or something somewhere. How much are we really getting from Brazil? That’s a surprise twist.
While the forementioned “BRIC” countries surely will lend
And US FED Treasury will borrow and spend
The Global imbalances, “at the margin” depends
On US consumers’ ability to spend
Which will soon be in doubt when their “home carry trade” ends
Everyone has come to the conclusion that unbalanced growth is better than the alternative, negative growth.
The U.S. can go until the consumer goes broke or until oil pulls the plug. We sometimes forgot that wealth is flowing into the country through corporate salaries and profits, investment firms, etc. There are plenty in the U.S. making big bucks on all this. Unfortunately, the final driver of the U.S. economy is the middle and upper middle class. As their numbers dwindle or as they become stretched thin, this game will end.
Despite all the fretting on how to control the deficit, everyone knows that the only real option on the table is to pass it off to everyone but the wealthy through cuts in services.
I said last year this game has a while to play out. When it finally reaches its conclusion, the U.S. will be changed beyond recognition. But cracks are beginning to appear in the system. Interesting that Dell’s profits are down: a tiny crack. Whether we make it to 2007 is an open question.
Brad, the analysis is correct but you have to consider that BRICS doesnt give cheap money for free.
I think all of these countries are getting something in exchange.
China is building its infrastructure and industrial basis. Receives technology tranfer. Access to resources. No wonder they are keen supporters of this scenario.
Saudis get defense. From Iraq, Iran, the fanatics, their own oppressed people, whatsoever.
India, Japan and Europe gets access to oil, gas and other strategic resources they need (remember WWII was started by oil hungry states )
What exactly Russia gets I can not understand.
If I was Putin I would immediately close down the oil pump and conserve my resource base. Wouldnt change it for dollar debt. But I think Putin is one of the smartest players on this planet so he may also be getting something for supporting US spending.
What Brazil gets out of it also dont know but I am not sure they are big time dollar recyclers.
Those guys who could save and recycle dollars but dont get anything useful from this game are hostile: Iran, Venezuela, Nigeria, Peru, Sudan.
So to continue the thoughts that I outlined in the previous post ( as Guest ), current scenario will remain alive as long as the major players benefit.
The golden age of cheap money will end when either:
- the arab oil regimes are replaced by governemnts with much wider supporting population base( like Venezuela or Iran- oil revenues will be channeled for domestic investement consumption and weaponry)
- the independent dollar recycler states ( Russia, Iran, Venezuela, Nigeria ) become so ignorant and hostile that they shut down all the oil production they cant convert into domestic consumption or investment.
- China will be able to manufacture anything in the world ( just as Japan or Korea ) and reduces dollar recycling to the level where they can feel their global market share is still solid – so their oil supply is safe. Safe, not because they have dollar reserves, but because they have market share.
I dont yet want to think of an even more dire scenario in which China channels its newfound industrial strength into military and tries to get influence over resource bases using force ( as Japan and Germany tried it in two big wars).
All in all, these scenarios will lead to a reduction in the supply of tradeable goods in the international trade which will inevitably transform into shrinking liquidity through inflation.
US housing market and nominal oil price doesnt play a role at all in this sense, because these are just part of the transmission machinery. Production and allocation of resources and manufactured goods and tradeable services – thats all what matters.
Does not Brazil have the world’s second largest net indebtedness after the US? Why are they lending to the US rather than reducing their indebtedness? Would not the latter give them a much better return? Is this a political favor by President Lula?
“In effect he said that with a lag (a few months to a year or so) exports to oil exporters go up more than the increased oil import bill”
but can german capital exporters
keep the euro high
by the sop of asian/oil purchases
that don’t sound like enough oars to keep
moving suro jobs and wages forward
at a socially stable speed
its a far guess the point when reval
will really happen
is indeed when …
” China will be able to manufacture anything in the world “
I don’t think you can understand the behavior of the oil exporters without understanding that those in control of policy don’t have durable, well-defended property rights over the resources they control. It’s an elementary Econ textbook case turned on its head (apologies I don’t remember which textbook, but probably all of ‘em have a variation):
Paraphrase: “Suppose an old man owns a forest. If stewarded well, over a period of a century, the forest can produce a great deal of wealth. But the old man is going to die in 5 years, and clear-cutting the forest would turn a quicker profit. Why doesn’t he?”
The answer, of course, is that in a functioning capitalist economy, the old man can sell the forest for the present value of its future wealth, thus realizing immediately much more than he would by clear-cutting. Well protected property rights encourage any owner to put a resource to its wealth-maximizing use or else sell to someone else who can, rather than prematurely destroying or depleting.
But the varied unsavory governments managing the world’s oil fields in their own interest can’t credibly sell them to a better steward and pocket the change. They don’t have transferable, enforceable property rights over what they control, and their control is tentative and temporary. In this version of the story, the old man clear-cuts. Many oil exporters have every incentive to deplete their fields as rapidly as possible, and will gladly accept negative returns on savings for the security of Western bank accounts and the stimulus in hurrying up the heist. Given the prices they’re getting at the moment, accepting 30% depreciation on their USD accounts is a no-brainer.
sw
“the varied unsavory governments managing the world’s oil fields in their own interest can’t credibly sell them to a better steward and pocket the change”
a few years back there was chatter about
a national establishment
acting as a fiduciary
the oiler oligs
are not an establishment
they’re free booters and corsairs
so yup
the optimal development path
” clear cut ”
and since their final act
most likely
will be a sudden need
to cut and run
i might suggest we add
to your maxim for shieks
” pump it fast as u can ”
a second maxim:
“hold the proceeds in
as liquid and portable
a form as possible”
nice post
this comment
will prolly never get read
but globalization is hardly
beyond a vast reversal ‘
mis handle the interchange
allow financial flows to distort trade flows enough
and …..
what made me sink into this sump
was
the point about a future china
able to make just about whatever it wants
and
in at world class fashion
it made me think about old china
and apply its cycles to our planet’s middle future
what more or less opens wide
in response to a perceived benefit
may sooner or later
more or less
reclose in response to a perceived benefit
nothing insures china
( or fot that matter
the larger globality itself )
will remain this huge
fast to open blossom
in particular
long range fantasy tales
of outsiders
in on the han harvest
from now on
and
forever and day …
might lack precedent
check out the ming period
in one hundred years
china could once again
have become a world unto itself
and our globe
well into a development phase
where the share
of total planetary output value
crossing national borders
is contracting
Brazil does have exchange rate flexibility and it is using USD reserves to buy back foreign debt (it already bought USD 10 billion of foreign debt this year – the Bradies, I think -, and it will buy another USD 10 billion until the end of the year).
I am really not sure that this is a good policy, becuase Brazil has to increase its internal debts which has a much higuer interest rate, but maybe it is the least bad option, considering that the BCB has to deal with an overflow of dollars and it is better to use then to buy back our foreign debt than to buy USA bounds… dunno.
What is Brazil getting out of all this global crazyness? Good question… I would guess that it would be a structural change on its international trade that greatly reduced its international economical vulnerabilities, which (will) make possible a bigger cut in internal interest rates, which (will) make possible higuer GDP growth, which (will) solve the internal debt problem. A lot of wills there, though.
Brad – this is one of the best pieces you’ve put out yet. Maybe you should do more from that ‘remote location’. Kudos.
Personally, I can see the game going along swimmingly until some unanticipated ‘externality’ knocks one of the key supports out of place… then the whole thing collapses.
Don’t know when that will happen or what it will take but stuff always seem to happen when things are this unbalanced. Then those in charge will all say… “But we never saw it coming!”
Ya right.
Alves is right — Brazil is largely using capital inflows to buy back/ pay down its existing dollar debt. It did this in a sense in 2005 as well, when it paid down its loan to the IMF. Even with these payments, though, Brazil’s reserves are trending up. Net reserves went up by something like $30b in 2005, tho most of that increase took the form of paying back reserves borrowed from the IMF. I suspect Brazil’s reserves will be up $10-20b in 06, on current patterns.
That said, there are big differences between Brazil (small current account surplus, but still significant external debts, reserves that are not so large relative to its GDP) India (current account deficit, modest reserve growth) and Russia and China. The really fast reserve growth comes from Russia and China more than from the other two BRICs. What is no doubt true though is that all are financing the US to various degrees. India because capital inflows top what is needed to funds its current account deficit. Brazil because reserves are going up as it pays off its external debt, and because paying back external debt puts dollars into the international financial system that are avaible for other uses. Russia because its oil windfall finances rapid reserve growth and significant inflows to the US. And China is the biggest player of all — with a big current account surplus, big inflows and enormous reserve growth.
dry fly –thx.
I like the Guardian’s take on the IMF meeting:
The IMF and World Bank spring meetings are a ritualised chin-wag between finance ministers, central bankers and policy wonks about the state of the global economy. With the co-operative days of the postwar Bretton Woods agreement long gone, those who attend these jamborees now tend to spend their time lecturing each other about their economic policies, while the staff of the IMF and World Bank spew out reports, announcements and policy papers.
People are content to go on with unbalanced growth. Delaying the adjustment process will only make rebalancing more painful all around. In the meantime, enjoy the charade (and stock up on commodities, mayhaps).
Brazil to Sell Real-Denominated Bonds Overseas, Treasury Secretary Says
Foreign Companies Cut Spending in U.S.
Next:
BRICS lent
US spent
Brad – Yes, Brazil and India are not active in lending as China (and Russia ?)
Infact, India runs its own deficit, so its not too keen on dollar pegging. It also has plans for full capital account convertibility. It currently doesn’t know how to come out of the pseudo peg it has presently though its keen on breaking the deadlock. Thanks to the services industry. (and less dependence on manufacturing)
Brad – Yes, Brazil and India are not active in lending as China (and Russia ?)
Infact, India runs its own deficit, so its not too keen on dollar pegging. It also has plans for full capital account convertibility. It currently doesn’t know how to come out of the pseudo peg it has presently though its keen on breaking the deadlock. Thanks to the services industry. (and less dependence on manufacturing)
Beautiful post and ugly world.
Steve W.
Interesting thesis, though not one that I am sure that I totally buy. Your description of “insecure” — tentative and temporary — rights of control seems to capture the behavior of the Russian Oligarchs in the 1990s (When oil was low) quite well. The (smallish by current standards) profits were used to build up assets abroad, and little else. But it is hard to square the buildup of Saudi Government assets at the Saudi Central bank with an argument that the Saudi Royal family thinks its control over the Saudi fields is temporary. Tempoary control implies private bank accounts not government deposits at SAMA. Not that the Saudis don’t have those too. But right now the split seems maybe 2/3s public deposits, 1/3 private … at the least that would be my interpretation of a world where about $60b of the Saudis $90b plus current account surplus is found on the balance sheet of the monetary authorities. And in Russia too, private capital flight (the big london bank accounts) has fallen, so the $90b current account surplus was used in large part to build up reserves (roughly $60b as well, with some of that moeny effectively backing the government’s oil stabilization fund) and to paydown Gov of Russia debt ($20b). Private capital flight continues, but it has been offset by inflows from western banks looking to lend to the state controlled oil giants.
All in all, the picture I see is one where more of the oil windfall is ending up in central bank/ government hands, and less in private hands. That doesn’t mean the story you wrote isn’t true — it seems like a good description of Tchad, tho I don’t know the details. It may not describe how the Saudis, Chavez, the Iranians and the clique around Putin see things though.
All no doubt have there security blankets in London, switzerland or the Caribbean. But right now, the majority of the oil windfall doesn’t seem to be going primarily to build up such private security blankets. Maybe because the windfall is so big that your average oil despot can take care of #1 and still build up government deposits to stabilize future public finances. I don’t know.
All this cash though does open up new venues for oil profiteering. Say you are a down and out cousin of a prince (by marriage) and know someone in the markets. Why not set up a hedge fund and get a big cut of 2 and 20 … all legal.
brazil ????
what crazed junkhead’s lumping this economy
with india’s
let alone
china’s and russia’s ?????
as i ‘ve said before
if ground zero for the next 97 can be seen today
as i view the line up of suspects…
i’ll just say
blame the next one on Rio
Swiss are going away from Dollar
http://www.riksbank.com/templates/Page.aspx?id=21213
Regarding the Sa’udis, they are traditionally both very conservative and also very secretive about what they are doing with their earnings. During the 1970s they held almost 3/4 of their assets in 90-day US T-bills. They are certainly well diversified beyond that now, but they are simply ultra-cautious.
Another curious tidbit is that it is not clear that they always even know what they themselves are doing. Thus if one perused the annual reports of SAMA during the 1970s and 1980s, one would find that they had two different measures for M3 in different parts of the report. I presume that different sub-parts of the central bank somehow had different definitions, rather than that there was actually a disagreement about the amounts of particular kinds of monies were there, although I doubt that any outsider will ever be able to find out.
Barkley — if the Sa’udis are holding everything in 90- day t-bills, they are now doing so in ways that don’t show up in the US data. Russian short-term holdings now top the aggregated total of the Gulf countries (I need to confirm that), and certainly, the increase in short-term gulf holdings has lagged the growth of their current account surplus (or even SAMA’s non-reserve foreign assets) in a big way.
Navin — you meant the swedes, not the swiss, I presume.
Brad,
You and your stubborn allegiance to, well, actual data, central bank balance sheets, the reality-based community. It’s infuriating sometimes.
More seriously, I very much agree that my little anti-fairy tale was overstated. I certainly had not done my homework studying the Saudi’s statistical appendices, but I’m not really surprised by the data you present.
A glib response would be that it’s much easier to transfer financial assets than oil in the ground when it all starts to hit the fan. Also, 1/3 of the Saudi oil revenues in private hands ain’t chicken feed. Agents may make rational judgements trading off political stability benefits of nominal public ownership against the personal security of direct expropriation. The process of extracting oil may create current opportunities for favored parties, cutting into the net proceeds that make it to reported reserves. State assets may as you suggest be managed by funds that profit handsomely from public assets, and that could transfer wealth to private entities (perhaps via a “bad investment”) and declare bankruptcy should political control change hands.
All that said, I’m in danger of rendering my hypothesis untestable, and I don’t like untestable hypotheses either. I think the null hypothesis ought to be that state agents are managing national wealth in the public interest. Can we reject the null?
You’ve often stated that oil producers are still mostly budgeting for $30 oil. That implies that any of these countries could meet current cash flow needs by selling about half of what they are in fact bringing to market. Thus, half of sales represents a shift in portfolio wealth from oil in the ground to mostly US dollar denominated assets. The question is whether that portfolio shift is consistent with public interest wealth management.
Arguments supporting the public interest hypothesis are diversification and the unsustainability of current prices. It makes sense that countries whose wealth is all oil in the ground would want to diversify to other assets, particularly if their petroleum reserves are large compared to their financial reserves. If oil producers think current prices are a spike and not a long-term structural fact, then thier behavior can be understood as simply selling short from a long position.
Conversely, the public interest hypothesis is undermined if oil producers believe that long-term oil prices are likely to rise faster than the total return on US debt or that petroleum reserves are overstated. If oil producers believe that the US will eventually soft-default on its debt by forcing a significant real devaluation of the dollar, implying a rising USD price of oil and negative FX return on American debt, that argues strongly against the public interest hypothesis.
It’s not so easy to test oil producer beliefs. But it might not be impossible. It’d be interesting to analyze expectations implicit in the private wealth portfolios of petrostate decisionmakers vs their central bank reserve holdings. Obviously, central banks face a variety of constraints that private investors do not, and many factors lead entities with identical expectations to very different portfolio allocations. Still, controlling as well as possible for these differences, are petrostate managers managing their own wealth in a manner consistent with their management of reserves? Private portfolio information is inherently private, but there are some funds known to be managed by and in large part for petrostate wealth holders, and there might be at least some suggestive information available on their holdings.
I’m sorry to run on so long…
Ever so often I show up on this blog, to marvel at the high level of understanding displayed by the commentators (and Setser) and also to chastise your folks for not moving beyond analysis. Regardless of the unwillingness of the people in power to unravel their spool of thread, it is crystal clear to me that the problem is not going to be solved in a constructive fashion until and unless some of the people who really understand what is happening can discuss and then agree on what an ideal trade policy should be for the U. S., to restore balance by U. S. action.
Brad, what happens if discover that the oil pricing regime has inverted? Oil goes up, causing the dollar to go down?
Bolivia to join the club of the discontents.
http://quote.bloomberg.com/apps/news?pid=10000086&sid=asqAWhJemN6Q&refer=news_index
Oil companies that are in Bolivia will no longer have the freedom to set prices and export volumes
The government will also implement a law approved by congress a year ago that boosts taxes on oil and gas output to 50 percent from 18 percent, he said.
sw
“I think the null hypothesis ought to be that state agents are managing national wealth in the public interest. Can we reject the null”
you’re A GENEROUS FELLOW
on the next level
perhaps
“public interest ”
as our domestic tax policy debate proves
is itself “untestable ”
my pop:
“untestable …detestable”
anonymous — then we are back in 2003 and 2004, when lots of folks thought one reason why oil was going up was that the dollar was going down … has been generally true this year as well. Euro at 1.23 v. 1.19 or so, oil up far more. The correlation just didn’t hold in 05. I think 05 showed that oil is rising for seperate reasons that the dollar is falling. But maybe some oil markets have a stronger view.
Brad, Yes- I meant the swedes. Thanks for the correction.
Brad–I think from the outset the “BRICs# have constituted no coherent concept or group, apart from serving as an investment bank sales talk. Brazil is not quite out of currency crisis, Russia is nothing but an oil exporter, India is strong in service sector but still in current account deficit, and China is a real manufacturing giant with a huge trade surplus. So, there is no wonder in that not all of them are financing the US deficit; actually only Russia as an important oil exporter and China as a manufacturing powerhouse are.
Therefore, as you rightly analyzed, from the global imbances point of view, oil exporters including Russia must be required to contribute to the resolution of imbalances as much as (or even more than) China. And of course, the role of the US is the most crucial. It is very unfortunate that oil exporters, China, and the US are the countries that are most unlikely to make any meaningful adjustment in their policies. The global imbalances may stay long until the markets crash or the US protectionism destroys the mutilateral trading system.