Felix Salmon, matchmaker …
Large, opaque financial institution with a long time horizon and lots of cash to invest in anything that yields more than Treasuries, please meet an opaque, hard-to-value (and sometimes hard-to-sell) financial instrument that now looking for new (and perhaps less-leveraged) suitors ….
I think that the move from public and transparent markets to private and opaque markets is more than a blip. CDOs are in the middle: they're public and opaque. Where do they move from here? One possibility is that they snap chaotically back to being public and transparent. But the other possibility is that they move in the other direction, and become private and opaque: that would involve being snapped up by pools of private capital which don't mark to market and which can invest with a long time horizon. Those pools are already being formed, and they could prove to be very popular.
Felix appears to be talking about truely private pools of capital with long time horizons. But the really big money with long time horizons often in state not private hands these days. Felix, Macroman and Steve Waldman ((interfluidity) have all suggested that China might help the Street out by buying up CDOs stuffed with various tranches of securities created out of subprime loans..
After all, a lot of of folks in the market got pushed into riskier products when China bid up the price of all sorts of less risky assets. If those riskier products don't turn out to be a great bet, it is only fair that China should come to the rescue …
I doubt Macro man and Steve Waldman thinks this really makes sense — even if China's State Investment Company might be able to buy some structures a decent discount. Felix, on the other hand, seems inclined to think it might be a good match.
Then again, Felix has always had a bit of a crush on the structured credit market. He generally thinks CDOs, synthetic CDOs, CPDOs and similar instruments that seem to be marked-to-model more often than naught (for good reason, according to Felix; why should the value of something as complex and beautiful as a bespoke CDO tranche be based on the last trade?) are a wee bit misunderstood.
Sort of like China's state investment company.
Is Felix on the Commedy Channel? Although China might no longer be Communist, that does not mean they are so foolish or trusting as to blindly buy burning trash from rogue Capitalists. The folks who build a superpower from one of the world poorest nations are obviously smarter than the Trustees of the average American pension fund.
Felix is delusional if he believes that such toxic waste will be purchased by the Chinese and by other SWFs. These folks are not stupid: they are after real investments in the US: FDI, portfolio investments in equity markets, equity rather than debt. Let other fools - mostly private sector “savvy” investors - purchase the garbage and junk that the subprime industry has created and repackaged under the label of “investment grade” CDOs and subprime RMBs. Those official sector SWF investors are smarter than the fool in the private sectors that were conned into buying this toxic waste.
Glad to see the early commenters are “looking out” for China’s investments!
I say “no mercy” and let the troubled CDOs chips “all fall down flat facing the ground” (be a bear and not a chicken so please hurry up and get it over with now!) so as to repeat the housing slump of 1992-1998 (it’s back to Ground zero and auctions time, yipee!) and don’t even count on the US tresury to “bail out” those undeserving unscupulous hedge funds — sorry Brad, so much for your “only fair” wishfulness that China (in hearing or seeing this CDOs meltdown) would not even go anywhere near it.
(off subject)
Brad Setser,
I have followed up and responded to you regarding Toyota production sourcing on the following main post you put up:
http://www.rgemonitor.com/content/view/201177/86/
Look forward to your next automotive industry post.
All the best.
Bill
>>
Misses the bigger point.
China is strategic.
Has built up a stockpile of cash, with long term plans to deploy when risk has fully repriced, and when US wealth is most vulnerable to such a transfer.
It’s called asset allocation and long term market timing.
The CDO asset regurgitation is a US centric idea, and a rather pathetic one, given the circumstances. China probably has much better assets in mind. After all, they have the money now.
Of course, the US could always become hyper protectionist about its asset base, after spending itself into current account oblivion. But that wouldn’t be such a noble approach to readjustment for the world’s historic leader in capitalism.
Wouldn’t it be ironic if a credit bust in the US led to deflation that made China’s investment in US treasuries look like genius compared to supposedly more sophisticated investors! Once again, Anglo-Saxon greed and laziness, looking for an easy way to riches but not bothering to do proper due diligence, would have played a part.
My comment was, unsurprisingly, tongue-in-cheek. While I think FX reserve managers are responsible for hijacking the US yield curve, thereby providing unwanted stimulus to the economy, the CDO mess and the blatant failure of ratings agencies to act in a timely fashion is made in the USA. What odds that some enterprising presidential candidate decides to “sptizer” the agencies, given that S&P/Moody’s/Fitch are as conflicted as Jack Grubman or Henry Blodgett ever were.
The verb above should be “spitzer”, obviously.
The agency conflict is not nearly as incestuous as the analysts’ (being compensated by the underwriting success of their own firms).
It’s pure caveat emptor - less reason for Spitzer skewering.
The hedge funds have abdicated their analytic work, pure and simple, sitting on their steaming junk piles, actually hoping that the agencies won’t act. They’ll get their just reward for this evil, and the regulators won’t care about them or their money-to-burn clientele.
The organizations that originate and manage CDOs are, in many cases, very large customers of the agencies. Were the agencies to call a spade a spade, they would pissing off some of their biggest customers, similar to the research/underwriting conflicts of the dotcom era.
Thee are plenty of institutions owning CDO exposure that are not hedge funds that are more reliant of agencies to act in good faith. In that regard, they have been let down.
Wall Street is delusional thinking the Chinese government PBoC is even considering the purchase of subprime “toxic waste” CDO securities. Longer term, the Chinese are utilizing foreign exchange reserves acquiring strategic natural resources from Africa, Latin America, Australia, and even in Canada.
China State-owned CNPC acquires Canadian Oil Project
http://www.forbes.com/feeds/ap/2007/06/29/ap3871277.html
In order to raise the standard of living for the majority rural population to Western levels, the natural resource base in China is vastly insufficient to adequately supply Chinese heavy industry. Most resources acquisitions will be in joint ventures with local partnerships, and strategic acquisitions in the United States will be largely avoided due to the increasing political hostility in the Sino-US relationship. The collapse of the Chinese CNOOC purchase of California-based Unocal dues to political hostility from the Washington Consensus precludes any future strategic resource or technology acquisitions in the United States.
Macro Man on 2007-07-02 08:19:06
Still a question of degree.
Any institution using rating agency advice should be savy enough to know how they are compensated. This is public knowledge more than the illegal manipulation of research by underwriting.
Conflicts abound in the snake pit. Independent checks and some additional analysis are always required. Like Reagan said - trust but verify.
As far as China is concerned, the US will never adjust as a result of RMB appreciation or lack of it. Labor costs differentials are just too huge. RMB appreciation within the zone of debated policy is almost irrelevant compared to the wage chasm. Therefore, whatever the RMB path, US adjustment will come about due to debt accumulation and interest rates - not from trade pricing. Unfortunately, this effect will be distributed domestically as well, requiring recession in both domestic and foreign sectors.
Time to get off the denial channel people. Boeing’s largest market will be China-far exceeding the American market. And they have competition-Airbus who, while temporarily set back, is opening a full assembly center in China.
I have spent 20 years in China and, yes I have an MBA. Negative comments about this make no sense. I have shareholders to please and the owners of capital decide whether I get to keep my job.
All of this complaining at “they, them, and those people,” is a waste of oxygen. John Deere, Case, Cat, Cummins, BAC, GM, Ford, Chrysler, and many more companies have operations in China and sell cars there. Toyota, on the other hand, makes 50% of their cars for sale in the US with US parts and US workers. BMW and Benz do the the same. Assumptions that no manufacturing jobs come here due to international trade is dubious at best.
This is not to say that the Chinese play fair nor that we play fair. Neither do. I am unhappy about the deficit which is basically a kind of Economic “Marshall Plan” (for those lazy lima bean Americans who read history or remember such the events).
There is a decided China middle class that is consuming everything in sight. And a lot of the goods come from America.
Yes it is out of balance, and there are ways to fix it that are not being done. This is because we have a traditional adversarial relationship with the Federales compared to other countries whose governments cooperate with business (even in the EU, Canada, and South America) to support the team.
That is not so here.
Complaints about executives being greedy are basically unfounded. There is something we can all do to solve the problems. Stop buying so much and consuming so much.
Example: The Apple I-phone was invented here and made at Apple’s CM in China for a cost of $150 USD before freight. Everyone, if you see the news just HAS to have one and they have lined up like sheep to get it. Each unit increases the trade deficit by $150 dollars times the number of phones sold.
We Americans want everything and we want it now. There is ample evidence of this in our national savings rate (the lowest in the world), our voracious appetite for oil which has inelastic demand, and our burning desire to have new cars, boats, toys, and so on every day. Stupid. The power of the consumer can make a differnce but it rarely works because as individuals we think we don’t make a difference. Basically if Americans saved 35% of their income in various forms, there would be so much capital available here and the national debt much lower or nil. That would likely keep interest rates low and encourage manufacturing here.
Look folks, the weighted average hourly wage for GM is $73 dollars with benefits. A CEO level salary for most businesses. How can they make any money even if all management paid to work there?
You have to go where the market is. I have seen tons of American goods flowing into China but obviously not enough.
If you don’t like what you see, vote with you pocketbook and at the ballot box. But less than 50% of registered votors even bother to vote. The problems of excess, the burning wants for two jet skis, a house on a cul-de-sac for $100K, that appreciates 50% a year and so on are all really called economic rent - above average earnings well above the equilibrium price and wage level.
We turn out so few science and math students. Most of our Universities are loaded with hungry international poeple that want to make a difference. We can thank Lyndon Johnson’s great society program for this.
In sum, all throughout documented economic history, the notion of compete or die has exisited just like in nature. Sorry that in Tulsa you think that 200K a year is unachievable. You could have gone to medical school I suppose to get that, but the assumption that manufacturing workers have superior knowledge to the leaders of business is hogwash. Yet the input is valuable and no one should close plants haphazardly. There are ways to compete. Lean manufacturing requires close in suppliers and when they are union, it never works. Waste of time.
Essentially, if our government would deal with health care, legal tort reform since we all like to sue each other, and cooperate with business funding R&D centers that lead to more manufacturing here, it just might make a difference.
To get that we have to vote-even if it is a raining day. It makes no difference whether the elected representatives are communist democrats or overly right wing religious GOP types.
Last, don’t plan on any wars with China soon. The comparison to Japan is irrelevant in these times. 20 years ago the same arguments were flying around that Japan was unfair, taking this and that and everyone was mad.
In fact, to this date, the largest investors in the US are from Canada or England. I guess that is OK because they are white. Leave the xenophobia out of it and think through you consumption needs. That would make the biggest difference of all. And if a company wants to sell in China they have to make the goods in China. We could argue the same thing easily but we never do.
In a global economy, if one country saves a lot, equilibrium requires another country save a little. If the US takes policy action to raise its savings (say cutting its budget deficit) and China continues to use its policies to increase its savings (say restricting lending) the net effect is that int. rates go down, inducing either lower savings or more borrowing. i would argue that this is what has happened over the past two years — as the us gov. borrowed less, us households and then us corporates (leveraging up) started borrowing more.
The key point is that while there are a lot of things the US can and should do on its own, China’s savings surplus is now large enough (together with the oil savings surplus) that it requires another big player to have a low savings rate (relative to its investment) — that is what equilibrium means. one country saves. Another doesn’t — and the one that doesn’t borrows from the one that does. Adjustment cannot just come on one side, at least not easily. A US recession would reduce US consumption and Chinese business savings (lower profits) …
The notion that exchange rate adjustment doesn’t have an impact given wage differentials is also off — look at the FT story on India (costs went up in Bangalore, the rupee has appreciated and the cost differential is no longer all that big — adjustment, in other words). Moreover, the shift in China’s trade balance with europe is very tightly tied to changes in the rmb/ euro — i’ll have more on that in a bit. Moreover, look around Asia. Korea has let the won appreciate, and low and behold, it doesn’t have the kind of current account surplus that you see in China and Japan!
I fully agree that the US shouldn’t consider China’s growing economic strength a military threat that has to be contained - but i also think that china’s own policy choices are increasingly have an effect on global conditions, and that China needs to adjust its policies a bit to ease its integration into the global economy. Cooperation works both ways.
” that is what equilibrium means. one country saves. Another doesn’t — and the one that doesn’t borrows from the one that does. Adjustment cannot just come on one side, at least not easily. A US recession would reduce US consumption and Chinese business savings (lower profits) … ”
I think I understand this.
But what economic forces cause the change in equilibrium from state A (high imbalances) to state B (reduced imbalances)? It could be RMB induced, or it could be US demand induced, with less RMB adjustment than prescribed by critics of the current RMB adjustment pace. I think the latter is quite possible, but it may take longer. The longer it takes, the worse the foreign debt buildup and the worse the total debt buildup. Seems to imply a diffusion of recessionary forces throughout the economy, domestic and foreign sectors, rather than an FX dependent adjustment that forces change mostly on the foreign side.
Bangalore IT wages went up because it is very hard to find programmers (in my opinion only 30% of people are suited for programming work….)
companies grew faster than new Quality IT guys can be produced by the education system (80% of children dont have access to quality education (cannot afford)
and this exponential wage growth led to rampant inflation…….which was one of the reasons why RBI let the rupee appreciate (stem IT wage growth).
(i wonder if this inflation will mean that india cannot compete in manufacturing anymore)
but china is in the market for mostly minimum skilled labor and there are plenty of those people (will remain plenty for a long time) which explains why wages are not rising much and inflation is not a big factor in china.
without a trade war, i dont think china is going to budge in letting the yuan appreciate…..afterall they have a monopoly in the world of manufacturing.
Well said retired Col Jerry Cadick USMC! - though it took a breath to read, my response and pledge is definitely “Yes sir” (don’t know how long it will take Americans to follow suit or make it happen).
Brad - ordinary folks don’t think about or grasp the dictated workings of international trade “equilibrium” rules created by the West — let alone voting, common decency, equality and respect.
What matters worldwide is making a living and having savings. I prefer the “equilibrium” where all countries can save and prosper (a win-win and not a zero-sum game) because “equilibrium” the West and you so “adamantly” stick or hold-on to so “dearly” can only work as long as resources are unlimited — which they are not!
The global reality is that human labor at all but the most highly educated and skilled level is potentially in huge glut. This will place wage levels in the Western nations on a downward spiral for decades to come. If the number of “good” jobs available increases less quickly than the number of people sufficiently educated to pursue them, then incomes and living standards for the educated will decline (Say’s Law means they will find jobs, but the economies of scale in a mechanized society means they may be low level personal service jobs.) Global wealth will increase, but it will equalize wages between Asia and the West, producing an immense underclass of Westerners who don’t have sufficient education to be worth paying more than the emerging Chinese middle class.
I think you are spot on, Guest. Of course, one way for quintiles two and three in the West to try and preserve their standard of living would be to invest in those regions that will experience higher rates of growth. Currently, of course, that investment is heavily restricted by the same authorities (in much of the BRIC/ current account surplus emerging world) that aggressively export capital to Western bond and, increasingly, equity markets.
That is my primary beef with the current system: the overwhelming influence of official agencies who take the attitude of “I want to buy yours (financial or corporate asset) but you can’t buy mine.”
Forgive me if I misrepresent you, Brad, but you seem to be espousing a “lump of savings” hypothesis. That is, somewhere must consume, because China saves. This is not true. Collectively, the world could postpone consumption by investing more. China is already investing a lot, and its risk-adjusted, environment-adjusted return to more investment is probably low. But America is not investing enough, especially in its public services. Think of the return on investment in, for example, higher levees for New Orleans, education in inner cities and public transport. America is, I believe, missing an opportunity because of its own inflexibility.
From Economist Stephen Roach,
” Globalization has been a huge success - at least on one level. Despite persistent and devastating poverty in many poor countries, there has been a doubling of GDP growth in the developing world over the past decade. Yet a key element of sustainability is still missing in this newfound prosperity - the emergence of consumer-driven growth models in these still largely export and investment-led economies. At the same time, in the rich countries, the benefits of globalization have accrued far more to the owners of capital than to the providers of labor…Moreover, the distribution of gains within the labor share of the developed world has become increasingly skewed toward the very few at the upper end of the income distribution - at the expense of those in the middle and lower end. Therein lie the seeds for a potentially powerful backlash: As the pendulum of economic power has swung from labor to capital, the pendulum of political power is now swinging back from a pro-capital stance to that which provides support for labor. The case for trade protectionism - especially in the United States - is alarmingly high as a result. Sadly, this is antithetical to the global stewardship that is so desperately needed in today’s world. “
How about just taking it?
“…China is the new headquarters for cyber crime, and botmasters prey on any businesses that use the web. “It’s an epidemic in China,” says Laslop. “A few years ago, about 25% of hackers were Chinese. Now it’s about half. But they only go after foreign targets. If a Chinese national hacks into a Chinese bank, he might face the death penalty. But if he attacks an international bank, he might only get a warning. For a second or third offence, he might get a small fine or a suspension of his Internet privileges for six months. In a poor country like that, a smart young computer whiz can assemble a botnet and rent it out for a thousand dollars a day, so you can see why it’s becoming such a problem.” http://www.canadianbusiness.com/technology/trends/article.jsp?content=20070604_85458_85458&page=2
stewardship indeed. if the Chinese SOE’s labour, environmental, quality and corruption control standards are as bad in their overseas projects as reported in China…
wonder how many consumer goods sold in America are bought by ‘tourists’ taking advantage of a relatively cheap USD.
do you really believe a ‘CDO meltdown’ (define?) could happen without disastrous results for China?
RE — I think you are getting confused by the counterintuitive meaning of “investment” from an international accounting perspective. By the way the accounting is set up, if country A is deemed to save more than it invests, it is tautologically true that country B (in a two country world) must be investing more than what it saves.
But “investing” from this perspective has little to do with what you or I might consider prudent investment into future productivity.
The US indeed requires more investment than its domestic savings. But much of that “investment” takes the form of loans we require for consumer credit, mortgages, increasing corporate leverage, and funding government deficits. From a balance-of-payments perspective, the fact that an “investment” actually funds consumption with little hope of repayment doesn’t much matter. The excess savings was invested, sometimes investments offer shabby returns.
If all the world were to postpone consumption and invest much more, that’d be fine. High global savings would match high global investment. But if some country saves a great deal more capital than it can employ locally, it either makes that capital available to others, or lets it sit idle, accepting storage and maintenance costs (real capital) or loss of value to inflation (financial capital). If we presume that anywhere in the world there are positive real returns to capital, then excess domestic capital will become foreign investment. It is a an unnerving time, for those of us who think much of what currently passes for investment will perform worse than merely holding commodities or surplus-nation’s currencies. But until a country like China decides that foreign investment of its surplus is a worse deal than mothballing, its surplus must find a deficit elsewhere.
And even if China did mothball, the savings/investment identity would still hold, because the accountants would just count storage as investment, so, voila, domestic savings and domestic investment would come into alignment.
DC (and others):
I disagree that Chinese government will necessarily spurn CDOs. Roach is right in that winners of globalization are the owners of capital and Wall Street holds a lot of financial and political capital. Both the Chinese government and Wall Street are aware of this. If the development of China calls for globalization to continue, they will intervene to keep their friends on the winning side.
To guest posting at 2007-07-02 12:47:57 and Macro Man:
The downward spiral hypothesis on wages hasn’t been backed by the facts or history. For details, see Martin Wolf’s elegant “Why Globalization Works”.
Global saving = global investment
Total country saving surpluses (current account surpluses)
= Total country saving deficits (current account deficits)
Global saving and investment can increase, but this doesn’t change the fact that CA surpluses and deficits must offset.
(Boosting US investment at a given GDP level suggests lower consumption, higher saving, lower imports, lower Chinese exports, and lower Chinese saving - but saving surpluses at that level must still be offset by saving shortfalls outside of China.)
Current account identities are independent of the form of financing - treasury debt, bonds, stocks, FDI.
The financing form is just a conduit to meet the identity.
There’s more than accounting involved.
Global saving must come from global GDP income; global investment from global GDP investment.
Economic investment is different from financing form.
Bizarre pathological case:
Global saving and global investment in theory can both be 0, but CA surpluses and deficits can still exist.
CA surpluses in this case finance absolute negative savings in some countries.
(S - I is negative because S is negative (more consumed than produced) and I is 0).
Change:
Boosting US investment at a given GDP level, which boosts global investment, suggests lower US consumption and higher saving - but China saving surpluses must still be offset by saving shortfalls outside of China.
Steve Waldman makes the point i was trying to make but does so better — i was talking about savings relative to investment, and a bigger deficit can therefore come from less savings (i.e. more consumption/ a bigger fiscal deficit) or more investment.
And negative externalities:
“Beijing engineered the removal of nearly a third of a World Bank report on pollution in China because of concerns that findings on premature deaths could provoke “social unrest” …Advisers to the research team said ministries told them this information, including a detailed map showing which parts of the country suffered the most deaths, was too sensitive…” http://www.ft.com/cms/s/8f40e248-28c7-11dc-af78-000b5df10621.html
Thanks Brad and Steve - it all makes a global sense now!
And thanks to that “equilibrium”, the End will be ever closer as “it” speeds up the global consumption and depletion of earth’s resources. Or before coming to that, as the West are fully developed, it can start wars by destroying another country’s development so as to facilitate re-development (finding the next suitable destination) for the sake of “global investment” (sounds like the West is stuck in the loop) - Oh my gosh people! I think I have stumbled on the “true culprit” for making the US go to war with Irag (blame the dictates of the “equilibrium”).
And folks, looks like the jig is up and it seems now the “sure bet” to profit from the “equilibrium” is to invest your money like Wall Street in developed countries. Also, forget about being a doctor, lawyer, a teacher or college student and let your kids know that it pays way better to be in the fore front of gaming global financial power — let’s all be Day Traders!
This is indeed a Great Awakening!
2007-07-02 21:12:21
The original use of the word ‘equilibrium’ was qualified by the word ‘if’ (’if’ you read it).
Can’t you make your point without nauseously ridiculing the host’s (correct) use of economic terminology in describing a difficult problem?
Steve, Brad, jkh and anyone else who is interested:
I think my point is getting missed in the confusion about economic terminology, so let’s consider a two country, corn economy.
China is on a diet for its own reasons (one child policy etc) so it is growing more corn than it consumes, and seems to be happy with that position. America is consuming more corn than it is producing. Besides the possibility that this is bad for its health, America also faces the problem of the future when it is due to return corn to China. To me, if America cannot change China’s behaviour, America has the choice of planting more of the corn from China, especially if it has underused productive land.
Everything still balances, but American - and therefore global, since China does not do anything different - saving and investment both rise.
re: “saving and investment both rise”
depending on how that money is allocated and when costs of misallocations have to be factored in - i.e. to use your example, lack of investment in environment results in mounting problems which ruin not only the productivity of China’s land, but the productivity of people all over the world who suffer from the health effects of the food produced by that land and the system that handles it - thereby eroding their capacity to consume any of the stuff China produces, perhaps, in your view, eroding China’s position in the world…? one of my questions being that amid all the talk of financial assets and investments, if some very real, mounting costs are not yet factored in and how/where the realization of those costs may contribute to balancing / unbalancing.
re: “I [a] want to buy yours [b] (financial or corporate asset) but you can’t buy mine.”
if [a] is the better steward, then this makes perfect sense.
2007-07-03 00:54:44
this post demonstrating the relative importance of crafting each headline to focus (the seriousness and content of) the discussion and encourage input from a broader community of credible participants.
2007-07-03 06:02:25
should read “…importance of [brand and] crafting each headline…”
RE — I think in your scenario, neither savings nor investment in the US rises, or needs to rise at all. You suggest that the US still accept the corn from China, but that it plant it rather eat it. From a present-day international accounting perspective, nothing changes. Both planting corn and lending corn to people who eat it (but promise somehow to pay it back) are investment. I’m quick to agree with you that in the real world, the character of investment matters as much as the quantity, and that the two investments differ dramatically in character. But that is a forward-looking distinction.
Under your scenario, future US savings and investment might increase more when corn is planted rather than consumed. Accounting identities make no predictions; they simply hold at any present moment. But if it were true that planting really does offer a superior real return to capital than devouring and granting IOUs, then one would expect capital markets to allocate resources to planters, rather than to locusts. That capital markets have been doing quite the opposite suggests that either planting corn is overrated, or capital markets are broken.
By the way, I don’t think we’re disagreeing about anything substantive. As you suggest economic terminology is just talk. That “investment” is defined as “whatever some fool does with the money they don’t just blow” rescues accounting identities but obscures deeper realities. Unless of course you believe in perfect markets, in which case fools don’t exist, at least in the aggregate. I’m with you though — I see lots of foolishness, and I wish we were planting the corn.
RE -
My total ignorance of corn economics requires me to respond in full SWAG manner as far as that’s concerned (perhaps not far removed from my normal mode as far as economics in general is concerned).
Seems that corn consumption and corn investment are mutually transformable in your example. As you say, if potential corn consumption becomes actual corn investment, then consumption declines and investment increases relative to the alternative. US and global saving and investment increase as you say. This results from China exporting investment goods (used in the US) rather than consumer goods (consumed in the US).
But this doesn’t change the imbalances. The US runs the same level of deficit and China runs the same surplus. An increase in US investment is matched by an increase in US saving - therefore the differential between total US investment and total US saving remains constant and the deficit remains the same.
If you look back at Brad’s first comment, I don’t think he’s espousing a “lump of savings’ hypothesis.
To transpose your terminology, I believe it’s closer to a “lump of net savings imbalances’ hypothesis - meaning that the sum of global surpluses must equal the sum of global deficits (i.e. “lump” net flow = 0).
The fixed parameter in this hypothesis is the 0 sum nature of surpluses and deficits - not a fixed level of global investment and savings.
jkh is right.
take the corn example. say the US consumes a bit less corn, saves the diferrence (more savings) and plant more so the next year (nmore investment), allowing the US to produce all the corn it consumes and to avoid importing corn from China in year t+1 (there is a high return on seed corn in terms of corn …)
say China also produces the same amount of corn, i.e. more than it needs for its own consumption. There is now more corn in the world than corn consumption (US no longer has a corn deficit, china has a corn surplus), so classic economic analysis says that price should adjust, leading one of the two countries to produce less corn in time t+2 …
now suppose for various reasons china’s corn surplus is fixed — it doesn’t change if the price changes. then corn prices will fall to the point where it no longer makes sense to plant as much corn in the us, and the us will go back into corn deficit.
Either that or you need some intervention in the market that keeps us corn production up …
the same basic argument applies if one country saves more than it invests — there has to be, in equilibrium, another country that invests more than it saves.
and, if you think, as i do, that the exchange rate has through complicated mechanisms (business savings mostly, but also restrictions on domestic investment designed to avoid overheating) contributed to the rise in China’s savings surplus (svings surplus = shorthand for surplus of savings v. investment), then further falls in RMB (tied to falls in the $) push up China’s surplus — and necessitate a deficit somewhere else in the world. that is why in my view the rmb-$ peg is an impediment to adjustment. it has meant that the $’s fall has pushed up China’s surplus (and Chinese financing of the us) more than it has pushed down the us deficit.
Brad,
The abysmal US savings rates are more of a direct result of absurd US government taxation policies that encourages egregious consumption and penalizes savings. Why does the US taxation code provide an absurd mortgage deduction subsidy for McMansion housing, and the gas-guzzler Hummer SUV in the driveway financed with a home equity loan? In stark contrast, savers like myself, are penalized by the tax code, with interest and dividend income heavily taxed. Moreover, savers currently receive a short term interest rate set by the Federal Reserve that is currently well below the “real” inflation rate (ie. the “core rate” of Federal Reserve statistical inflation has no relation to the everyday reality of rapidly devaluating US dollar purchasing power).
Steve, Brad, jkh etc,
I am explaining how the US can live with a deficit with China on the assumption that they cannot persuade China to stop lending them corn (in the past, I have also pointed out that America also has the options of refusing the corn loan - ie capital controls - or on-lending it to other countries - ie increasing its foreign exchange reserves).
If the US plants corn (invests) it must consume less, and therefore, given that the corn inflow is fixed, must save more. In this simple model, the US is a unit, so planting corn does not involve lending.
The price of corn does not really enter into a corn economy, but the US does not produce less corn in the first period. It simply eats less and plants more. Of course, this returns more corn in the future, but do not forget that the US owes corn to China then.
In the real world, what this means is that, as Dave Chiang would agree, the US needs to give itself the incentives to invest more and consume less. For example, stop giving tax relief on mortgage debt and spend the resources on educating poor kids.
I have to close down now for a while, so if I do not respond, it is not that I have lost interest!
depending on the parameters, tax relief on mortgage debt and educating poor kids can both be an ‘investment’ - or not
“…the United States continued dependence on foreign borrowing is a significant vulnerability in the event of shock… that might slow the inflow of new funds into the United States. In this testimony, I will first discuss why the more extreme scenarios are relatively implausible, then go on to discuss where the real vulnerabilities lie…” http://www.brookings.edu/views/testimony/20070626rogoff.htm
and on the challenges of ‘investing’ in poor kids:
“The vast majority of the £230m donations made by hedge fund activist Chris Cooper-Hohn to his children’s charity have been reinvested in his hedge fund, the Children’s Investment Fund (TCI)…”
http://business.guardian.co.uk/story/0,,2116978,00.html
And what if the educated kids use their knowledge - obtained at what cost to whom? - to engage in, let’s say, cyber extortion?
Numerous Neo-liberalism Western pundits closely associated with the Washington Consensus, especially Thomas Friedman of the New York Times, have all sorts of wacky and loony ideas about eliminating poverty in the world. Unfortunately, most of their absurd economic theories of “creative destruction” and “democracy” were proven flat wrong in both Indonesia, and more recently Iraq. The Wall Street Hedge Fund speculative attacks on the Indonesian economy resulted in the impoverishment of 100 million people, and set the stage for the 9/11 Islamic blowback terrorist attack on New York City. Bombing Iraq into a democracy hasn’t worked so well either. Iraq will remain an unstable, terrorist haven for decades to come. But the unstated, ultimate goal of both Neo-liberal and Neo-conservative factions of the Washington Consensus is the violent overthrow, and regime change of the Chinese government without regard to global consequences. In reality, Neo-con Paul Wolfowitz and Neo-liberal Thomas Friedman are the two sides of the same coin. Both power-hungry factions have total disregard for the most important of all human rights, the elimination of poverty and the sovereign right to live in an independent nation. For all its faults, the Chinese government has eliminated more poverty in absolute numbers than any other government in world history.
DC:
Let’s not get too carried away with Friedman or Wolfowitz bashing here. Sure, Wall street and Washington has its faults, but remember the Chinese government pre-1979 had a lot to do with the poverty in China as well. One shouldn’t also lose sight of the fact that there are still plenty of poor people in China without access to basic necessities such as clean drinking water and preventive health care. I think Tom Friedman and Wolfowitz (for the short time he was at World Bank) at least have their hearts in the right place. Globalization is the only way to effectively eliminate poverty and nothing anyone does should jeopardize that process.
Brad,
I responded to your latest post at the Toyota thread:
http://www.rgemonitor.com/content/view/201177/86/
Happy and exciting 4th!
MG
DC– when it comes to keeping int. rates low and offering savers a low real return, no one tops China!
(i have some sympathy for your points about the tax code favoring mcmansions and household borrowing, but with home prices heading down in lots of places, this isn’t the time to change that portion of the tax code!)
“Philanthropy in China is still in its infancy. Take the case of Nanjing-based philanthropist Shao Jianbo. He has used his profits… to help other Chinese… But many locals… started harassing Shao for handouts. His experience demonstrates why Chinese have traditionally been careful to conceal their wealth…” http://www.npr.org/templates/story/story.php?storyId=10976910
re: “Globalization is the only way to effectively eliminate poverty” - if you could substantiate, as the facts I see indicate that global poverty is getting worse. And if we could see the facts in the World Bank pollution report, we may find that many middle class Chinese may not have access to clean drinking water - or air - either, whether or not that situation is getting worse. Isn’t the manner in which a government chooses to raise its population from poverty of importance, given the apparent costs of, and instability associated with China’s ‘growth’?
[q]re: “Globalization is the only way to effectively eliminate poverty” - if you could substantiate, as the facts I see indicate that global poverty is getting worse.[/q]
Can you point out what facts are those? It seems very inconsistent with what I’m seeing. There are pockets of areas that have gotten worse with globalization, but by far it’s been getting better.
[q]Isn’t the manner in which a government chooses to raise its population from poverty of importance, given the apparent costs of, and instability associated with China’s ‘growth’?[/q]
I don’t know of any economy that hasn’t followed a path of “wreck the environment first, fix the problem later.” Poor people care more about poverty than air pollution. Its only after that people are not so poor, that they start caring.
The very fact that there is confusion about what counts as investment demonstrates the point that, as jkh says, consumption and investment are to some extent transformable. In fact, using the C+I+G+(X-M) national income identity in most textbooks, my example of investment in education would actually be in G not I!
But we should not be blinded by semantics. Essentially, investment is the allocation of resources that could have otherwise be consumed to some project that yields resources that can be consumed later. The point is that the idea that either America or China must consume now is false. Even if America cannot persuade China to change its policy at all, America can redirect the resources it does control to more prudent preparation for the future.
re: “There are pockets of areas that have gotten worse with globalization, but by far it’s been getting better.” - If I may ask you to substantiate - along with your definition of ‘globalization’ and ‘better’.
re: “Poor people care more about poverty than air pollution…” is it not true that in many cases the pollution created by the smaller, wealthier ‘urban’ class is worsening the poverty of their own, much larger poor population? - increasing their healthcare costs, reducing the productivity of their labour and land (if it hasn’t been confiscated, developed and sold at a profit by someone else), poisoning the food they may be able to produce without cash, forcing them to accept ‘jobs’ at entities that profit from their capacity to offer the cheapest labour in the world…
RE - one further consideration being, perhaps, is that ‘American’ consumption encompases a very large ‘foreign’ population - which, more than the est. 12 million ‘illegal guest workers’, includes tourists, ‘foreigners’ who may be attending school, relatively wealthy professionals with temporary visas, along those who may have citizenship, but still remain very connected to their ‘home’ nations and maintain those connections with sizable transfers of money and goods (?)
re: “more prudent preparation for the future” - i.e.?
RE:
I don’t think there is disagreement with your point regarding the potential effect of reallocating current US resources from consumption to investment.
Your contention is that China’s excess saving shouldn’t require US to consume. Again, I don’t think anybody has claimed anything different from this.
What has been claimed, under the assumptions of the discussion, is that China’s excess saving requires a deficiency in US saving (I - S > 0).
Such a saving deficiency may reflect any number of possible distributions in the mix of total GDP expenditure on consumer or investment goods. Of course, the nature of imports is a constraint on that mix in the final analysis - imports skewed toward consumer goods rather than capital goods allow less movement from C to I expenditures in total, other things equal.
I think your point is - whatever China’s excess saving, let’s skew the US GDP distribution toward I rather than C, to better prepare for the future.
In other words, nobody is forcing the US to load up on C, just because China is saving. I don’t think this has been claimed. What has been said, given the assumptions of the discussion, is that given China’s surplus, the US must have a deficit.
This holds regardless of the current distribution of US expenditure on C and I, or the current distribution of M as content within either C or I (i.e. whether the US imports consumer goods or capital goods from China).
In an extreme case, the US might import only capital goods from China (e.g. corn for planting). This won’t change the fact that because China has a current savings surplus (assumption for discussion), the US must have a current savings deficit. But it doesn’t necessarily have to mean more consumption.
RE - no real contradiction or difference of opinion that I can see. Your point is well taken I think.
jkh: As in previous discussions, we seem to more or less concur. I dare say there are some who would blame China for excess US consumption though!
Guest on 2007-07-04 06:35:37:
re: “more prudent preparation for the future” - i.e.?
The obvious area is education, especially of America’s poor. A gasoline tax would certainly reduce consumption and could be used to pay down debt, but might also stimulate investment in fuel saving technology. Another candidate would be public transport in cities - eg from Washington DC to Dulles.
Given the present demographic situation in the US and recent economic growth, the US should not be running a budget deficit now.
RE
greatly appreciate your responses and perspective, but in part to be devil’s advocate, is it not true that some highly educated and well-off people have put the U.S. in a situation which, in your view, is less then prudent. At risk of being an optimist and pessimist at the same time, I’d like to believe that the educated people who are running America, and much of the world, are doing the best they can. But if they are messing up, then not sure how a blanket prescription of education for the poor - taught by whom in a networked world with many different systems, perhaps we need to be articulate by just what type of education we are referring to, as poor kids will learn no matter what their circumstances - provides any assurances that aquired knowledge will be put to ‘good’ use. And I’ve seen so much waste in government welfare and R&D, education and healthcare spending, I’d love to believe that philanthropies and endowments can come up with better ways of making more productive investments. But at the end of the day, given the blurring of public and private sectors, if these entities may be more or less extensions of government or the private sector is not clear to me…
“…The existing owners of Kohlberg Kravis will not cash out any shares but will invest the proceeds into the business, according to the public filing. The proceeds will be used to build new businesses around the globe, reduce dependence on third parties like pension funds and endowments [and philanthropies?] for financing and give the firm a currency — its stock — for acquisitions…” http://www.nytimes.com/2007/07/04/business/04kkr.html?ref=business
Guest on 2007-07-04 17:42:51
Thanks for the discussion.
There are lots of investments that the US could make. Not just education, but infrastructure, health service etc. Take your pick.
My own preference would be for education, especially in science and maths. Even if there are not enough jobs that directly employ these skills, they are widely applicable - eg in finance, the path I followed - and any training to think rigorously is good for democracy in general I think. I believe that competition from China, India etc is likely to make us in the developed world absolutely poorer (even if the global cake grows) and much depends on us being able to understand this pressure and being skeptical of engaging politicians who claim to have an easy answer.