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CiteI have turned the trackback function off. Too much spam, unfortunately.
Don't hesitate to bring a link to my attention in the comments section.
If there are topics that you want to discuss, feel free.
And if there are topics you think I should explore, suggestions are welcome. My recent posts have fit in a certain pattern: I go from the US trade deficit is going to get bigger, to China should revalue, the savings surplus in the oil states is huge, Saudi Arabia and the rest of the GCC should revalue, dark matter ain't all its cracked up to me and betting on macroeconomic stability and continued low volatility in a world with enormous imbalances is risky. I did get into Iceland for a while and dabbled with the French real estate market, but maybe I should cast my eye even further …
Brad, what do you think of the latest Dyalinas report?
http://www.pimco.com/LeftNav/PIMCO+Spotlight/2006/Spotlight+Dialynas+April+2006.htm
raphael kahan
Top-tier economist, will work for suggestions? Never see that on a cardboard sign. It’s almost embarrassing to try to come up with things that would be interesting for you.
I try to read every post, but I’m pretty busy these days, so you may have addressed these already Nonetheless, a few ideas:
1. Your discourse on petrodollars is great. Some have further suggested that higher oil prices don’t even form a negative feedback(i.e. normal market response) due to the recycling of petrodollars back into the markets of the consuming countries. Is something beyond normal demand inelasticity at work?
2. Assume your balance of payments stuff works out, and the dollar continues its depreciation. Assume also China and the Oilers refuse to adjust their pegs, and the rest of Asia resists strongly. What happens to the pound, euro, and the others playing by the rules? Do the political dynamics change significantly when Bretton Woods 2 starts to hurt somebody in the present, in particular a German export-based economy with high structural unemployment?
3. When the QQQ burst, threatening to take the economy, real estate saved the day. If real estate bursts which would almost certainly be associated with declines or dislocations in the bond market, what do you view as the practical ability of the Fed to create enough liquidity to escape the trap given current rates and policy, and where would it happen?
4. Higher commodity prices: inflationary, since they raise the cost to produce everything, or deflationary, since they suck the purchasing power out of consumers who have negative real wage growth?
5. How is asset appreciation and its liquidation skewing savings rate data in the face of continued strong net worth increases? Which is wrong? With the burning furniture construct, is this sustainable?
What about your outlook for inflation, given that gold contnues to push upward? Do you think we are still in an era of disinflation (continuing on from the 1980s) or do you see a secular change with inflation going up? Gold bugs seem to think we are headed for much higher inflation given the printing presses run by the central banks resulting in so much “paper” out there.
Brad,
I have a question for you. If you assume the American consumer is going to be unable to keep up the current pace of consumption and that a reduction in American consumption will impact the Chinese balance of trade, shouldn’t the Chinese act very conservatively with respect to revaluation?
It seems to me that China is moving slowly to appeciate the Yuan.
I certainly understand that the massive trade imbalance and reserve accumulation argues for a significant revaluation. But if you don’t think the current situation is sustainable, isn’t it more prudent to move at a snails pace? This way, you don’t reward hot money, and you don’t make yourself vulnerable to a significant US recession?
I’d appreciate your thoughts on how a US slowdown would affect China and the intrinsic value of the Yuan.
Let me shoot another dart at your “china should revalue” theme: there is a big difference between China and Europe in that goods still dominate Chinese economy while service is the dominant sector in OECD economies. And China has a pretty open economy so the tradable goods are priced in Yuan at relative equilibrium levels with US. With a reval that means either goods inflation in the US or deflation in China. To minimize the impact China should expand service sector first before it can float the currency. With a large service sector the deflationary impact of the reval on the economy will be smaller.
BTW I am gratified to read Andy Xie and see him suggest the same thing that I posted here (let me be a bit presumptious here
: removing export sector (and manufacturing in general) subsidy in terms of tax, pollution cost and labor standards should be a lot more effective at curbing excessive surplus and hot money growth than reval in the near term. I may add if you check the time of the post you will know I wasn’t just repeating Andy Xie (of cource in no way would I suggest that he was repeating me 
.
In case of a reval there will be no way to predict where benefits accrue to. By removing export subsidies and raising minimum wages China can make sure that its people benefit the most.
Brad, As PC had mentioned earlier, we like to see a more light thrown on the commodities (esp Gold). Is this the starting of dollar going down and commodities shooting up ?
Brad,how much is the portion of government spending in relation to total GDP,how did it evolve in the last couple of years…
best of regards&thanks for the great blog
“Emerging Asia vs Central/Eastern Europe: Compare and Contrast”
It feels presumptuous to be sending you homework assignments. This space you’ve created, both by the quality of your own analysis, your fairness and data-centric orientation, and your willingness to interact with commenters rather than stand aloof above, is extraordinary. Many thanks.
Forgot to mention…In theory, freely traded currency and open markets should fix our trade imbalances as the “point of manufacturing” shifts. I think it could fix our trade deficits with Asia. The problem is that the multinational company’s “point of manufacturing” would probably be shifted to other low cost countries (LCC). So the US worker and middle class will still not benefit. At the same time our trading partners would be doing the same thing using the next LCC as an export platform to the US. Then over time currencies could fix the problem and the “point of manufacturing” would shift again and again.
It will be interesting to watch what happens to Mexico. They have experienced investment into their country because they were a LCC and became a “point of manufacturing”. As their standard of living rises, currencies hold, and manufacturing costs rise, they may well experience losses in the “point of manufacturing” to other LCC. They may be already experiencing this, but I have no data to support that idea.
This could well be the model for all future LCCs if all they can offer is labor.
So far China is not following this LCC model because their government was smart enough to develop infrastructure, share technology, and control their markets development. The US government is not that smart. In the future China will continue to have a hugh domestic & export market and be on par with all members of the G7, if not stronger. However it will be interesting as their standard of living rises and manufacturing costs rise if they allow their companies to use other LCCs to bring cheaper goods back to China. I doubt it, they are smarter than we are. The will only use the other LCCs as an export platform.
I’d like to echo Steve W’s comments.
I don’t think you need to stray too far from your present focus. This is your area of expertise, and although it may seem repetitive at times to you as the author, the issues are of such significance that I think you’ll later look back with great satisfaction that your blog is a day-to-day record of how these momentous changes eventually played out. Whether you’re right or wrong, you’re in the thick of it.
In particular I think your understanding of the reserve flows is second to none. I’ve noticed on a number of occasions when some news breaks which will affect trade/capital flows that your immediate interpretation has differed from that of other mainstream economists. More often than not your intuitive reaction is right, so I think you’re able to ‘see’ these flows in a similar way a Grandmaster ‘sees’ a chess position so much deeper than lesser players. It’s an enviable ability.
To me, the Great Game we’re witnessing is a triangle between the financial economies, the manufacturing economies, and the resource economies. It’s the latter which seem to hold all the aces at present.
In particular the resurgence of Russia is remarkable, as evidenced in this article:
Don’t stand in our way
And, just as an aside, this might be of interest to you:
China’s pension fund gets go-ahead to invest overseas
Only a trickle at first, but more savings on the way…
Rene,
Don’t count on the Chinese consumer consuming anytime soon. A while back, I took average Chinese wages in various provinces, increasing them 10% each year. Even within 10 years, the average Chinese consumer will not be able to buy the many of the products exported. Yes, in some selected areas and for some who are making money, there will be some consumption, but nowhere near enough.
Besides, there are two other factors at play to keep wages low: tnc flight to other lower wage countries and high end technology to increase the efficiency of any rises in Chinese labor. That technology is now moving to China. The spread between the have and have-nots will continue, in the West and in developing nations.
Western consumer burn-out will occur well before globalization brings forth its supposed “promise.” And I have not even mentioned oil. Those long supply chains are vulnerable, not even to mention all the products upon which oil is based.
Labor, tax, and environmental arbitrage have played a very dangerous game. The situation is akin to slow but increasing and relentless pressure. The economy may be “booming” here and abroad, but that boom is for the disproportionate few. Whether it is this year, next year, or the following–it will snap.
Brad – Your current focus is successful in that you have attracted some very capable responders. Steve Walderman is among the best. BUT, in contrast with Steve, I would like to suggest a topic.
Solutions, what should the U. S. be doing to reduce the trade deficit?
The majority of your respondents (and you) are very nervous at the prospect of current trends continuing without any intervention by the U. S. government, yet no attempt to use the collective brain power assembled by this blog to argue pro and cons of possible solutions.
Maybe the first issue is, is it too late for any possible action by the U. S. government to make any difference? Have we already gone over the dam?
I am with ReformerRay;
A responsible US government (HA!) could kill the budget deficit, but could it unilaterally reduce the trade deficit? What if China and oil-exporters continue their present policies?
In recent conversations I got the sense that some development NGOs are fighting the last war. They’ve got IMF on the brain as the source of all misery, or else they have a bank-centric view of the credit cycle that ignores the role of securitization and risk-management instruments. A more current and nuanced view might improve their standing with deep-pocketed aid agencies. I was gonna draft some kind of white paper to get em thinking, but this is like I was making some ramen noodles and then Wolfgang Puck comes over and sez, Hey, what’s to eat? And he’s got 20 Michelin 3-star chefs with him.
So my hobby horse boils down to something like this: What will global imbalances and their resolution mean for the HIPCs? Do foreign-aid dripfeeds insulate them from the global economy? Do the burgeoning reserves and tight spreads of ‘systemically important’ emerging markets threaten a new and maybe sharper credit cycle? And so on. Suggestions of sources would be welcome, but I hang on everybody’s every word, so whatever you think. Free advice is worth it, but not here.
Some good ideas here –
A couple of brief reactions.
FTX, thanks for the compliment, but i have gotten a fair amount wrong — I didn’t see the last g-7 statement in the same context as the markets for example. I was struck by the fact that they didn’t embrace any concrete policy actions, and instead just called on others to take (necessary) steps. The market saw it as a clear statement of concern, and sold dollars. I still wonder why the market suddently took note of the g-7 after ignoring them for so long.
Steve — Let’s see, emerging Asia runs a current account surplus (in aggregate) and uses that surplus and capital inflows to finance the US. Emerging europe (everyone in between the Germany and Russia) tends to run deficits financed by the rest of europe. more so now that they are paying top dollars for russian energy … helpign Russia finance the US. See above. I think the Latam/ East Asia comparison may be more intersting.
PC, Navin — i don’t have a particularly well informed view on the dollar/ gold. Dollar/ euro, dollar/ RMB, dollar/ riyal, dollar/ ruble even dollar/ argentine peso — sure. dollar/ oil — sure. dollar/gold — not so sure. gold rose when the dollar rose in 05 and rose when the dollar fell in 06 — it generally seems to be rising. I suspect that gold indexes that make “investing” in gold easier (checkable gold accounts anyone) is part of the reason, as is the boom in India/ the middle east/ other traditional gold loving countries. I also don’t have a particularly well informed view on the future course of US inflation, in all honesty.
I suspect the fed will do its job and keep the measures it tracks (which do strike me as a bit off in a world where china is putting pressure on commodities but not manufactures) in the desired range. But i pay more attention to the details of the balance of payments data than to price indexes.
Guest — for trends in government spending, i recommend the Congressional Budget Office’s analysis … Angry bear also generally tracks this data closely. I would to look at the latest CBO projections to get the data you want, but my general sense is that federal spending is trending up a bit relative to GDP. The war. Katrina. prescription drugs.
Dialynas seems to be advocating
a) cutting short-term rates to zero
b) buying long-term gov. paper (i.e. printing money) to bring long-term rates down as well.
Or at least try –
I wonder if foreigners would be as willing to buy agencies and MBS even at decent spreads over zero rate treasuries in that context. The fed can fix some rates, but not all.
And even with a radical increase in taxes and massive fiscal consolidation and a much weaker dollar, the US would still need to
a) attract ongoing inflows to fund ongoing deficits
b) retain the confidence of existing investors.
Obviously, such a move would be very aggressive, and put tons of pressure on the central banks of dollar zone countries. basically, it would dramatically increase the costs of maintinaing a dollar peg – and probably break the dollar block.
Now maybe a big fall in the $ would eliminate expectations of further falls, but i have my doubts. Dialynas consequently goes way further than I would …
that said, i do generally agree that the right policy response for the US during a period of adjustment is tight fiscal and relatively loose monetary policy (with relatively loose supporting a weaker dollar), rather than say loose fiscal/ tight money/ a strong dollar … don’t get me wrong, i don’t want monetary policy to be so loose that it creates a cycle of rising asset prices and more borrowing against rising asset values to support higher levels of consumption.
but if other countries central banks stopped financing the US — forcing the US to pay more to borrow under all fiscal/ monetary policy combinations — i think the easiest adjusmtent path would be one where interest rates don’t rise too much, and that to me suggests that fiscal needs to do the heavy lifting.
So I have some sympathy for the impulse behind Dialynas’ proposal.
“doesn’t going slow reduce China’s vulnerability to a US slowdown” –
Not necessarily. Remember, going slow means that resources continue to flow into China’s export sector, and, over time, more and more of China’s economy is geared toward the US market. Compare Chinese exports to the uS in 2003 with likely exports in 2006 — I think they basically doubled in dollar terms. Had China allowed the RMB to rise more over this period, China would export a bit less, be investing a bit less and thus be less exposed to a US slump.
Moreover, going slow means continuing to peg to the dollar, and in some sense, the last thing China needs is an even weakerRMB. Yet a US slump likely implies dollar weakness against currencies not tied to the dollar.
that to me increases a host of financial vulnerabilities tied to China’s peg — i.e. the $/ RMB fall, US rates fall in the US slump and hot money flows to China pick up as market players start to bet that China doesn’t want to follow the dollar down …
And if China did follow the $ down, I suspect it would create a protectionist response from europe (and with cause — having exported like mad in good times, china can hardly expect to export even more to drag itself out of bad times … particularly if the weak currency stems not from markets but government policy )
The one condition where going slow makes sense form China’s point of view is if you think a big slump in Chinese investment is just around the corner, and China is about to slow on its own. Otherwise, i woudl argue that the combination of a US slowdown/ continued growth in China (which admittedly requires some policy action to base Chinese growth on domestic sources in the face of a US slowdown) would imply ongoing pressures for RMB appreciation, as relative growth rates would shift. and if both slow, well, watch out.
I figure most of you know what i am for my now –
My list isn’t terribly orginal
– fiscal consolidation in the US (I wouldn’t mind reforming tax subsidies for housing either, but that is a long-shot politically)
– An asian appreciation
– steps to stimulate consumption in China, which include developing a system of social insurance/ lots more transfers to poorer regions/ bigger fiscal deficits (Blanchard’s proposals = a good place to start)
– An appreciation of the oil currencies (unless oil prices fall dramatically)
– more spending by the oil countries. spending can be defined broadly, rather than actually having the government spend the money, i wouldn’t mind seeing the saudi government cut its citizens a check for a good chunk of the oil windfall. Sort of like what microsoft did with its cash … when it upped its dividend.
– relatively easy monetary policy in europe to support domestic demand growth during the global adjustment process, since adjustment implies a higher euro …. and anything possible to get German real estate going and german consumption booming. if Germany were a bit more like Spain (and spain a bit more like Germany), the eurozone would be in stronger shape.
Compared to most, I put more emphasis on adjustment in the oil states and less on adjustment (notably structural labor market reforms) in europe, and tend to put more emphasis on exchange rate adjustment than many — tho i fully realize that exchange rate adjustment needs to be combined with steps to increase US savings (fiscal = good start) and reduce Chinese savings.
cheers
Hello Stormy,
I work a lot in China. I am seeing wage inflation of about 10% this year in my industry. So your calculations are not far off. The only thing not in your equation is the purchasing power of the yuan within China. I think the domestic consumer market here is stronger than anyone can document. Add the “haves” and there is an even bigger consumer market here. I have never seen so many luxury items for sale. High end cars everywhere.
Regarding savings, yes they save a lot.
But as Brad pointed out it has a lot to to with social insurance. It is also due to the high cost of housing and not using credit. The younger person with no personal housing is saving for a home, parent support, and retirement. The lucky ones to already own housing are saving for their children’s education, possible moves to a better school district, and again parential support and retirement. Both groups want to own a car but will only do so after they feel that they are ontrack with housing, parential support, children’s education and retirement. They are not using credit to pull purchases forward.
In the US, the consumer uses credit to pull purchases forward. Example: cars They are not planning for the future. That is what is different about a China consumer versus a US consumer.
I think you need to give the China government a lot of credit for what they have accomplished since the mid-eighties. They are building an amazing infrastructure, capabilities, and they focus on economics. That’s my frustration with the US government, their focus is social issues, not economics.
I am always disappointed when people think of the China goverment as an evil communist government. Rather it is a government in transition and it should be referred to as a centrally planned government. Yes, there are issues such as human rights, property rights, but you must look at the trend. In each catagory it is getting better. The Chinese government knows that in order to stay in power they must take care of the people.
Thanks, Rene, for your extremely valuable local insights. My principle takeaway was:
“High end cars everywhere…. Both groups want to own a car but will only do so after they feel that they are ontrack with housing, parential support, children’s education and retirement.”
In the face of 5-10 year lags for the development of newly discovered or profitable energy sources, this is very significant. That’s presumably longer than it will take for sufficient money to accumulate for these individuals, given the subsidies in place. It’s even more important in the improbable — tongue firmly in cheek — case that energy supplies on Earth happen to be finite.
For what it’s worth, I see very little local belief that China is a backwards government because they’re evil, communist, or centrally planned, much less their record on human rights. They’re evil because they want to live as well as we do.
My comments are always the same :
It is not possible for Debt/GDP ratio to rise indifinetely.
What happens when it falls and how that fall is managed is a very interesting question.
I would keep track of this indicator, especially in China. And I would link major international imbalance to a global economy who’s relying increasingly on debt as a way to boost growth. Which is unsustainable.
On top of this, I would track wages growth and productivity growth. Especially also in China. And conclude that it is highly probable that one of the reason of the growth in debt is that wages are kept too low, rising more slowly and than productivity.
If wages are too low, the only way producers can find consumers is by lending to them.
The growth of the Debt/GDP ratio squares with the declining power of labor vs capital in the negociation of wages.
It also squares with skyrocketing asset prices, because lower wages boost profits.
And it also squares with international imbalances, because USA are mostly a country of assetholders and Chinese a country of workers and producers.
Betser provides a very well calibrated picture of how the financial imbalances in the world economy could be corrected, if all the participants were focused on that objective.
In my mind, the rest of the world is not focused on correcting the financial imbalances. They are achieving their goals; the U. S. is not.
What unilateral action is open to the U. S.?
Tariffs. Why are tariffs unacceptable? Because the Congress inevitably selects the wrong industries to support. Steel is too intimately involved with the cost structure of other industries, plus other well documented deficiencies.
What about applying tariffs to all products, rather than focus on just one or a few? Turn to a textbook such as INTERNATIONAL ECONOMICS, third edition, by Krugman and Obstfeld,1994, chapter 9, you will find that tariffs are assumed to be applied only by individual products or industries.
In my opinion, relaxing the assumption that tariffs can be applied only to indivdual products opens up a whole new set of possibilities.
Market distortions are not created by applying tariffs to all imports. Commpetition determines which products are successful as imports.
Obviously, if one does not discriminate among products, that opens the door to the possibility of discrimination among countries. Not all countries are equally involved in creating the current imbalance.
I fully realize that this issue is not the subject usually discussed here. My excuse for introducting it is: 1) I think it has potential; 2) I want to get some critique of the idea; 3)Betser did open the door.
I agree with Steve Waldman. “This space you’ve created, both by the quality of your own analysis, your fairness and data-centric orientation, and your willingness to interact with commenters rather than stand aloof above, is extraordinary. Many thanks”. Betser is the reason for the quality of this discussion.
But the insights by Rene, DF, Waldman and Chiang, among others, have been invaluable.
Please, give me some critique, some evaluation of the simple idea introduced above.
ReformerRay — Here’s a bit of a rumination (by me) on “What Is To Be Done!” that ends up suggesting we take another look at Warren Buffett’s 2003 “Import Certificate” proposal for managing the US trade deficit. I didn’t like the idea, back in 2003, thought it was cumbersome and unnecessary. Today I think I’m converted.
Yes, an import certificate is an original idea, never tried, but it would really reduce imports to the level of exports.
Like all ideas, it needs refinement. 1) A transition between today, when the trade deficit is so large (1/2 of all imports) and tomorrow, when the trade deficit is zero, is needed. 2) No provision for stopping or slowing down the transition process if U. S. inflation becomes excessive. 3) Enforcement. A drastic reduction in legal imports will call forth efforts to get illegal imports into the U. S. Where is the money to hire more Customs agents?
These issues, and any others that arise, can be addressed, if this seems like the best alternative available.
ReformerRay — In Buffett’s original article, he did note that the government could “grant” import certificates in excess of those created by exporters, so that the trade balance could be reduced gradually, rather than suddenly forced to zero.
Similarly, such grants could theoretically be used to strategically “import deflation”, but I’d be opposed to this. The disinflationary effect of unbalanced trade is a part of why the control systems we have today haven’t kicked in to rebalance. The distortions of an overly loose monetary policy have been hidden by averaging with deflating tradables. The Fed should manage inflation as a monetary phenomenon, not as a scarcity phenomenon. If we agree that balanced or near balanced trade represents a genuine constraint, that the long-term costs of imbalance are unbearably large, then higher import prices from an import certificate scheme represent real scarcity, not a monetary phenomenon, and should not be “managed” by the government.
Enforcement and administrative costs, especially “red-tape” hassles and their effect on small business, are I think the biggest problem with the proposal. But, exporters would have every incentive to comply (it means free money for them), we already know how to do tariffs on importers, and this would be about the fairest, most widely dispersed tariff imaginable.