Brad Setser

Follow the Money

Cross border flows, with a bit of macroeconomics

The facts, just the facts (US goods trade)

by Brad Setser Thursday, August 31, 2006

First, US imports to three major non-oil (really non-resource) exporting regions of the world economy – Asia, Europe and North America.  Ok, Canada and Mexico sell their share of oil to the US, but they also account for a large share of US non-petroleum imports and exports.   I haven’t tried to strip out Mexican and Canadian energy exports to get their goods exports (US goods imports) only.     It turns out that it doesn’t matter – even if you include energy imports, the NAFTA countries do not explain the recent surge in US imports.   Look instead to Asia. 

All data comes from the BEA, ends with q1 2006, is a rolling four quarter sum and is presented as a percentage of US GDP.


After the very strong growth in US imports from Asia in 2004 and 2005, I just don’t see how folks can still argue that rising US imports from China just reflect shifts in the location of final production in Asia.  

Sure, that has happened.   In early 2003, total US imports from Asia were not any higher than they had been at the peak of the tech boom.   But things have changed since then! 

If imports from China were substituting for imports from elsewhere in Asia, I would expect overall US imports from Asia to be flat as a share of US GDP.  Or perhaps even fall, as cheap Chinese assembly replaces expensive Korea and Taiwanese assembly.   Yet overall US imports from Asia (the data series excludes Asian OPEC countries) clearly are rising as a share of US GDP.  That suggests some things previously made in the US are being imported from Asia – though the pace of increase seems to have moderated recently.

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Do we live in a world dominated by private flows? Or official flows?

by Brad Setser Wednesday, August 30, 2006

“The IMF has been asleep at the wheel in an era when private capital flows have been growing at an unprecedented pace” 

So says Tim Adams, the Treasury Under Secretary (in the New York Times).

I think it would be more accurate to say that:

“The IMF has been asleep at the wheel in an era when official capital flows have been growing at an unprecedented pace”

It is true that private capital flows to emerging markets have recovered, more or less, to their pre-crisis levels.   If they are now growing fast, it is only because they fell so far.  In absolute terms, they must be a smaller share of the world economy than in the mid-1990s. 

And what are those capital flows now used for?   In aggregate, to build up the emerging world’s reserves.   Private capital flows to the emerging world come back to the industrial world as official capital flows.   

I used to work for the Treasury, so I know that the notion that we live in a world dominated by private capital flows is part of the Treasury’s boilerplate.   But it is time to retire that boilerplate! 

The defining feature of today’s world economy is how big a role official actors – central banks and oil investment funds – play in the global flow of capital. Don’t believe me?    Look the WEO data.   The IMF may be a bit sleepy, but it usually gets its numbers right.

Try Table 35 of the WEO's statistical appendix.   Emerging and developing countries added $525b to their reserves in 2005.   That is the change in their reported stock of reserves.   Adjust for changes in the dollar/ euro and the real "flow" increase was well over $600b.   You also might want to add the $90b in “other official outflows” that appear in Table 33 from the Middle East to that total.   That presumably picks up on the activities of the Gulf’s oil investment funds.    Read more »

Wages, Walmart and the debate about the Global Economy –

by Brad Setser Tuesday, August 29, 2006

Both the Financial Times (Krishna Guha) and the Wall Street Journal (Greg Ip) ran articles summarizing the papers presented at Jackson Hole.   I liked Guha’s summary more than Ip’s summary, largely because Ip's summary seems to put too much emphasis on the positive.   Ip writes:

Globalization, the conventional wisdom goes, has downsides: It hurts the wages of the lesser skilled. It leads to large and possibly dangerous trade imbalances. It can threaten economic stability through financial-market volatility … But academics, investment bankers and government officials at the Federal Reserve's annual symposium here heard a much more upbeat vision of a globally integrated world.

I’ll set Rajan, Prasad and Subramanian’s paper on foreign capital and economic growth aside for now.  It argues capital inflows help growth in rich countries and hurt in poor countries, so the flow of capital from poor to rich may not be such a bad thing. Instead, I will consider some of the issues raised in Gene Grossman and Esteban Rossi-Hansberg’s paper arguing that the offshoring of many of the tasks associated with the production of goods and services hasn't been a bad thing for unskilled American workers …  

I have only skimmed the Grossman paper.   But it hardly paints a wonderful picture of that state of working America. Real wages of the least skilled manufacturing workers increased by 3.7% since 1997, while total factor productivity is up by 11.8%.    Real wage growth for low skilled blue-collar manufacturing workers has been flat 1998 (Figure 5, p. 24) — most of the 3.7% growth came in 1997.  Real wage growth for average blue-collar workers has been flat since 2002 (Figure 6, p. 25).

Why aren’t wages rising in line with total factor productivity?  Because the price of the goods produced by low-skilled workers is falling.  Grossman and his co-author’s don’t claim that things are good, only that without the higher productivity from offshoring, things would be worse:

“Real wage growth for low-skilled workers in the US has been far from exceptional (and some might say “far from acceptable”), the experience has not been as bad as one might have expected based on the sharp improvement in the United States terms of trade.”

Not as bad as might be expected isn’t exactly an upbeat account, at least in my book — even if cheap imported goods are good for those in sectors insulated from global competition. 

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Europe, engine of global demand growth …

by Brad Setser Sunday, August 27, 2006

That isn’t a headline that you see in mainstream economy commentary.    The standard story – one that is echoed in communiqué after communiqué – goes something like this. 

Global rebalancing – code for a set of changes that will slow demand growth in the US and increase demand growth outside the US to help reduce the US deficit and the rest of the world’s surplus – requires policy changes in Asia, the US and Europe. 

Somehow, the oil exporters usually get left out despite having a bigger surplus than anyone else.    

What does Europe need to do contribute more to global demand growth?  Reform its labor and product markets.  It hasn’t done so.  So it won’t be able to contribute to global rebalancing.   

One problem.  The story isn’t true.   Not right now.   Europe may not have reformed.  But it sure has contributed to global demand growth over the past year and a half.   My evidence? European imports.  

Imports are the most direct way Europe contributes to global demand growth.  AndtThey are way, way up.    Eurozone goods and services imports grew around 20% y/y if you compare q1 06 v q2 06.   Q2 was a bit slower – the January-June 06 growth rate was only 17.5%.    For the first half, Eurozone imports are up 18.6% y/y.     US goods and service imports are up a paltry 11.9% by comparison.

Look at the following graph.   I set q1 2005 imports for both the US and Europe at 100.   Guess whose imports grew faster?

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Is there any meaningful distinction left between the core and the periphery? Bernanke says no, I disagree …

by Brad Setser Friday, August 25, 2006

Bernanke says no:

The traditional distinction between the core and the periphery is becoming increasingly less relevant, as the mature industrial economies and the emerging-market economies become more integrated and interdependent. Notably, the nineteenth-century pattern, in which the core exported manufactures to the periphery in exchange for commodities, no longer holds, as an increasing share of world manufacturing capacity is now found in emerging markets. An even more striking aspect of the breakdown of the core-periphery paradigm is the direction of capital flows: In the nineteenth century, the country at the center of the world's economy, Great Britain, ran current account surpluses and exported financial capital to the periphery. Today, the world's largest economy, that of the United States, runs a current-account deficit, financed to a substantial extent by capital exports from emerging-market nations.

Bernanke is right to highlight the fact that emerging markets are exporting capital to the US, financing the US current account deficit.  Euroland and the UK both have deficits, and Japan's surplus hasn't increased significantly — so the recent rise in the deficit has largely been financed by an increase in the surplus of emerging markets.

But does that make the distinction between the core and the periphery less relevant?

Not in my book.   Those flows aren't coming from private citizens and private financial institutions in the periphery.  They are coming from governments.  China is a case in point, but the oil exporters matter too —  Russian reserves grew by about a billion a day in the first ten days of August.  The Saudis are sitting on a huge inflow of dollars.  Even Brazil is once again adding to its reserves at a rapid rate.   

That means there is a big difference between the core and the periphery.   In the periphery, private capital inflows are used to finance the build-up of reserves.  In the core, official capital inflows are used to finance current account deficits.

That is true for all of the "core" — not just the US

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It is nice to occasionally be right! China confirms it holds around 70% of its reserves in dollars

by Brad Setser Friday, August 25, 2006

According to Market News International and others, the People's Daily has indicated that:

"About 70 pct of China's reserves are held in US dollars, confirming widespread speculation about the weighting."

That was rather obvious the moment the US released its survey data showing that China held around $525b in US securities at the end of June 2005.   A 70% ratio now implies that China probably has around $700b in US securities.  That is real money — as is the roughly $150-200b in US securities China has to buy every year to keep its dollar holdings at 70% of its (rapidly growing) reserves.  

Any one care to guess how large an impact that has on US interest rates?   (My estimates are in my testimony)

China's new (marginal) transparency probably isn't good news for professional Chinese reserve watchers though.  The mystery is gone. 

But China's disclosure does throw into question (I think) the work of all China analysts who use don't adjust for valuation and still use reserve growth to derive estimates of hot money flows.   With $300b or so in non-dollar reserves, 2-3% moves in the euro/dollar or pound/ dollar and the like can generate substantial monthly variation in China's headline reserve total.

My testimony on China – and the Bergsten/ McKinnon debate …

by Brad Setser Thursday, August 24, 2006

I had the opportunity to testify before the US-China Economic and Security Review Commission on Tuesday – on a panel with C. Fred Bergsten and Professor Ronald McKinnon of Stanford.  

It is quite fair to say that I was the warm-up act for the main card – the Bergsten-McKinnon debate.    

Bergsten believes that RMB revaluation is essential – to help bring the US trade deficit down, to help slow China’s own economy without adding to its current account surplus and to maintain a relatively open international trading system as the US economy slows.   Regular readers (and in August, are there are any others?) know that I basically agree.

Dr. McKinnon, by contrast, believes that any additional appreciation of the RMB against the dollar would be a terrible mistake.   It would compound the mistake that China already made when it broke the RMB’s longstanding peg at 8.28 … and replaced it with what seems to be a crawling peg against the dollar. 


McKinnon’s argument is spelled out in his most recent paper.   RMB appreciation would not necessarily reduce China’s current account surplus.   Sure it would lower Chinese export growth.  But if it slowed China’s economy, it might also slow China’s import growth. If you prefer to reason from the savings and investment gap, McKinnon argues that the savings and investment gap is independent of the exchange rate.   If anything, he thinks change in the RMB would lead to less investment in China’s export sector and a larger Chinese surplus …

But that isn’t all.  Expectations of RMB appreciation, according to McKinnon, would drive down Chinese interest rates.  If Chinese interest rates are equal to US rates and the RMB is expected to appreciate, everyone should want to hold RMB rather than dollars.  The obvious solution here – pushed by Bergsten — is a big initial revaluation that ends expectations of future appreciation.  But that isn’t politically realistic.   Another argument: expected exchange rate appreciation do not have to match the interest rate differential if there are capital controls.   McKinnon’s response: China’s controls are relatively ineffective … since China already has a market economy.   The last point certainly seems a bit over-stated to me. 

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George Magnus makes an important point. If the oil surplus is rising and Asia’s surplus isn’t falling …

by Brad Setser Wednesday, August 23, 2006

If the oil exporters current account surplus is rising, and oil-importing Asia’s surplus isn’t falling (thanks to China and Japan), then either the US or the European deficit has to be growing.   Global balance and all. 

Up through 2005, though, almost all the deterioration has come from the US.  Magnus:

However, the distribution of the oil shock has been more uneven. The US has borne the brunt of the decay in external balances. Europe’s position has remained stable while Asia’s has actually strengthened. Thus, global imbalances are being exacerbated by petrodollar developments to the disadvantage of the US. 

Fortunately, the oil exporters seem quite willing to hold their surplus in (offshore) dollars, and thus finance the US.    Russia is a bit of an exception, keeping only 50% of its reserves in dollars.  But 50% of a big number is still a big number. Russia's reserves, incidentally, are up about $11b in the first eleven days of August.  Some of that is valuation and capital inflows, but most of it comes from oil and gas exports.  A chart tells the same story.george_magnus_us_defecit_ba

My “oil exporting regions” are Africa, the Middle East and Russia.  That leaves out Venezuela and Norway, so it understates the global oil surplus.   

But the basic idea is still pretty clear.  The oil surplus is rising.  Asia's surplus is not fallin, and perhaps even rising.  And until recently, most of the offsetting increase in the world's current account deficit came from the US.

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So, does China export oil?

by Brad Setser Monday, August 21, 2006

I challenge anyone who doesn’t know that China is an oil importer to find a way of distinguishing China’s current account surplus from those of the major oil exporting regions.   You almost would think from looking at a graph of China’s current account surplus against those of the big oil exporters that China exports oil.



To me, the fact that China’s current account surplus has soared even as oil and commodity prices have soared is one of the great puzzles of the world economy.  

It is related to another puzzle.  China has had one of the world’s all time great investment booms, a boom that has raised investment from around 40% of China’s GDP to around 50% of China’s GDP.  That boom is one reason why commodity prices have soared.  Investment booms usually generate current account deficits.  But in China’s case, the investment boom has coincided with an even bigger savings boom – so savings has grown even more than investment.

The results of this show up clearly in the US data.   The US is – in a global sense – the counterparty to both the oil exporters’ surplus and China’s surplus.    I plotted the US bilateral balance (a rolling four quarter sum) with the main Asian economies and the US bilateral balance with the countries that export oil to the US – oil exporting Asia, Venezuela and Africa in the US data.  The US also imports oil from Canada and Mexico, but it also imports a lot of manufactured goods from its NAFTA partners.   So I left them out of the picture.

Be forewarned, the scales are different.  But the basic picture is clear – the US bilateral deficit with both Asia and oil exporters has risen sharply.    And please, after looking at this picture can we all dispense with the now very dated argument that the United States soaring deficit with China just reflects shifts in production inside Asia.   That was arguably true through 2003, but the United States overall deficit with Asia – not just its deficit with China – has soared since then.  Look at the blue line.

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Is Adam Posen talking about Germany – or the US?

by Brad Setser Monday, August 21, 2006

Dan Drezner (and Mark Thoma) liked Adam Posen’s critique of Germany’s emphasis on “competitiveness.”  But when I read parts of Posen’s argument, I kept thinking that he was describing the US or China, not Germany.   Posen writes:

If exports are the public criterion of economic success, policymakers can meet that goal only by self-destructive means: depreciating a country's currency, thus eroding the purchasing power and the accumulated wealth of citizens; depressing wages in export sectors, either directly or through relative deflation vis-à-vis trading partners, thus cutting real incomes and domestic demand; subsidizing or protecting exporting companies, thus distorting investment decisions and locking in old technologies and businesses at the expense of new entrants…… No example better illustrates the costs to an economy of distraction by export competitiveness than Germany in recent years. 

A weak currency, restrained wage growth (falling real wages) and tax subsidies for any firm that wants to put up a manufacturing plant … hmmm.    What part of that description doesn't apply to the United States?     

Germany cannot credibly be accused of having a weak currency policy.   Sure, German inflation has been lower than inflation elsewhere in Europe, improving Germany’s position inside the Eurozone.  But the Euro itself is hardly weak.    And Germany sells a lot of goods to countries outside of the eurozone; more than your typical European economy.

The dollar, by contrast, is weak against the currencies of almost all countries whose central banks who do not actively prop the dollar up.   Benign neglect and all.  The US won’t take steps to keep its currency from depreciating – it outsources that task to the Chinese.  The result is that the RMB is weak v the dollar and the dollar is weak v the euro and the RMB is really weak v the euro (the yen is too … ).

The US is hardly immune from the temptation to offer tax breaks for manufacturing firms.    The US may not have a national industrial policy.  Or an exporting Mittelstand.  But most states will offer any firm willing to build a plant in their state rather significant tax breaks.   Ask German auto firms.   Ask South Carolina.  Ask Alabama.

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