How much “capital flow reversal” insurance should the world offer?
That isn’t a question that is usually asked in the debate about the “right” size of the IMF. But it strikes me as a question worth asking.
Back in 2006, US growth slowed relative to growth in the world. Private demand for US assets fell.* But the US didn’t have to “adjust” — that is to say bring its trade deficit down to reflect the reduced availability of private financing. Why not? Emerging economies, who received most of the influx of private money not going to the US, generally used this influx to build up their reserves. A rise in financing from central banks and sovereign funds offset the fall in (net) private demand for US assets.** The US trade deficit fell a bit relative to US GDP, but not by all that much.
Thanks to a generous supply of credit from the emerging world’s central banks, the party kept going long after private investors ceased to be willing to finance it.
Suffice to say that when emerging economies running comparable deficits to the US encounter a comparable fall off in private financial flows, the amount of financing that gets recycled back their way by the US and EU (through institutions like the IMF) is far smaller. Between 1997 and 1999, “volatile” private capital flows (bank loans and portfolio flows, I left FDI out) swung from a $100 billion inflow to a $100 billion outflow. The net increase in IMF’s lending over this time by contrast was only around $30b — not all that much relative to the $200 billion swing.
The current crisis isn’t all that different. Between 2007 and 2009, volatile capital flows are expected to fall from a positive $250 billion to a negative $400 billion — a swing over over $650 billion. IMF lending — based on all existing programs — will increase by close to $120 billion (see this chart by my colleague Paul Swartz). That is more than in the past, but not enough to offset the fall in capital flows, and certainly not enough to offset the combined impact of lower capital flows and lower commodity prices on the commodity exporting region.
Scaled to world GDP, the current swing in private capital flows and the (projected) rise in official lending looks roughly similar to the swing back in 97-98.
I don’t know what the right balance between financing and adjustment is. No one probably does. And it clearly varies from country to country. Some countries are in worse shape than others.
But it is still striking that the emerging world did more to help the US avoid adjustment from say early 2006 to mid 2008 than the US, EU and Japan seem likely to do (through the IMF and World Bank as well as bilaterally) to help the emerging world avoid adjustment now, even with the recent expansion of the IMF.***
Call it part of the United States exorbitant privilege. So long as key emerging economies peg to the dollar and allow their reserves to rise when private demand for their financial assets rises, the US gets more protection from a sudden reversal in capital flows than other countries with large deficits.
But also call it part of a broad system that has resulted in a persistent uphill flow of capital — and thus part of a broad system that led the US to run larger external deficits over the past few years than really were healthy.
* US investors started buying more non-American long-term assets while (private) foreign investors lost interest in US assets. The fall in private demand though wasn’t immediately apparent because a lot of official flows initially registered as private flows through the UK and other financial centers.
** $100 billion in “private” outflows from China in 2006 lowered the global total. Those private outflows though were clearly the product of an effort to hand some of China’s reserves over to the state banks to manage. They weren’t really private.
*** It also interesting that the $200 billion or so in financing Russia got from the sale of its reserves far exceeds the IMF’s total commitments to date; that helps put the IMF’s actions in context.
I would say this kind of thing should be beyond regulation. The emerging countries continued to finance the US because they were exporting to the US and thus felt they were benefitting from extending credit. Any merchant does that to a top customer.
What if World Control – as you can see, I love The Forbin Project – decides that we need to allocate capital flows away from x country? Or to certain other countries? That to me sounds either like a hideous version of the UN, where the oppressive dictatorships run the human rights organizations, or like imperialism, where the rich countries decide what the poor should get.
Isn’t a lesson from this that developing countries should focus more on developing domestic demand – with as you’ve noted, a more national form of finance?
I’m not saying the developed countries should walk away from the developing – and they aren’t – but those choices are better based on traditional views of doing good because it helps you. We see China doing this now, taking stakes in materials, etc. as part of their helping hand. As a different example, if you’ve spent any time in the ghettoes that have grown up around Europe, you see a strong rationale for economic assistance; if these people had opportunity, they wouldn’t be flooding into Europe. That is a form of self-interest.
Brad: So long as key emerging economies peg to the dollar and allow their reserves to rise when private demand for their financial assets rises, the US gets more protection from a sudden reversal in capital flows than other countries with large deficits.
Me: I’ve modified my view on the impending US Treasury collapse. Other countries are rapidly increasing the trade amongst themselves, stimulating domestic demand, holding their dollar pegs, and, in the background diversifying into gold, Euros, Yen, etc – away from the dollar.Dollars are becoming increasingly unacceptable to African and South American regimes, so the trend is currency swaps and bilateral barter exchange in return for their commodities. Within a short while, China and other emerging markets will have much less of their population dependent on exports to the US.
Then, at will, they will hit the exit button on the remaining volume of Treasury purchases. They’ll have plenty of justifications. China can easily point to their repeated advice not to print dollars.Meanwhile, dollar printing will be the main activity of the US Treasury. Hiking the interest rates defeats the purpose of the Treasury borrowing.
So I don’t see how the idea of the US having some insurance, changes all this. In the first place why would there be a “flow reversal” from private in other countries. The hackneyed approach that the US can easily trigger flights of capital from foreign countries to cripple them has led to the current predicament. More than 38 million Americans are receiving food stamps and the unemployment rate is more than 8.1%. Soon, 700,000 Americans will have used up a full year of unemployment benefits and they’ll need another extension. The collapse of Lehman could have easily crippled the German economy, but it didn’t. The collapse of crude prices could have made Russia bankrupt, but Russia, with German support, survived by hiking their natural gas prices. The fall in US demand for China’s exports could have led to massive unemployment, followed by revolt and regime change. Instead, the Chinese economy is rebounding much faster from the deployment of their hard earned Sarkari savings in domestic stimulus.
My point is that is a massive reversal in capital flows – the traditional weapon of IMF financial wars – has already been tried against the world, and that has failed to produce its typical results.
The US Treasury Department of International Monetary Policy then tried the ultimate – massive disruption of the entire world’s financial systems. The repeated exhortions to Spain to break away from the European Union, the vile attempt to trigger a Europe – wide disintengration – has failed. China’s stimulus was branded as inadequate simply for the reason that their fiscal deficit as a percentage of GDP didn’t reach the US-desired level. The US Treasury has tried to force every Sovereign to incur massive fiscal deficits, so that the dollar exchange rate can remain stable, while also ensuring that the alien Sovereigns will be unable to further increase their dollar reserves – that has partially succeeded with several notable exceptions.
The exceptions will prove my rule. The US Treasury Department of International Monetary Policy, which runs the IMF, is no longer able to financially terrorize the world.There is enough emerging market sweat and blood on their hands. Even in the recent boom, reported statistics show that one Indian farmer committed suicide every half hour. Stop dreaming of continuing to keep the world in your slavery and start facing your own reality.
http://www.thenewamerican.com/economy/commentary-mainmenu-43/915
A blog article refuting this?
Brad: So long as key emerging economies peg to the dollar and allow their reserves to rise when private demand for their financial assets rises, the US gets more protection from a sudden reversal in capital flows than other countries with large deficits.
ME: It’s now quite clear to me what the approaching theme is – a Green Shoots Great Game. Going forward the US Treasury will massively print dollars to fund its outlays, China can talk about that, but there isn’t much action from them. The US Treasury is engaged in a battle of nerves – as they print more dollars will foreign central banks short their Treasuries, at the risk of further unemployment due to the resultant disappearance of exports to the US?
Meanwhile they hope to institute a massive transition to green techology, that can drive a recovery. Just as the recovery takes effect, they will trigger a Paul Volcker – style Interest Rate Crisis. That’s what Brad Setser is probably thinking of in terms of a further reversal of capital flows. The interest rate hike will result in massive strengthening of the US dollar exchange rate. In the melee, the provisions of cap and trade will be enforced globally, extracting a significant tribute from countries that may be continuing on traditional, ‘non-green’ technology.
I’m not going to take any further positions in a hurry. I’m going to wait and reason this out further. Will this strategy work? Meanwhile, China and all other countries will be increasing their trade amongst themselves and reducing the dependence of their population on exports to the US. Also, they will be diversifying their forex reserves away from the dollar in the background, while backstopping the exchange rate with on going purchases.I think this will cause much further strengthening of yen, EUR and roubles, etc against the dollar.Does the US have the ability to enforce foreign tributes on environmental counts?
A great deal depends on the rapidity with which the above two sets of trends take shape. There is a very significant risk that things might collapse meanwhile.
Injun:
Cap and trade doesn’t start till 2012, so timing of the impact is an issue again on the economic impact. We may even drop the idea once some sensible economic cost numbers are made public.
Also, the whole thing is BS…Cap&Trade&Tax won’t make carbon go away, and here is an article arguing that carbon is not the problem…water vapor is. Being a desert dweller, this is believable to me since we have big swings in night and day temps due to low humidity…a constant reminder of the heat retention capability of water vapor.
http://www.geocraft.com/WVFossils/greenhouse_data.html
Of course if I’m wrong about the USG dropping the idea, we could get carbon import duties on products from countries that don’t play ball with the new green happy world. We could even say it’s not protectionism….but it will still bankrupt the US economy.
Irresponsible Federal Reserve printing US Dollars like there is no tomorrow – DJC
Record Expansion of the Fed’s Balance Sheet and M2
In the past year, the Fed’s balance sheet, as measured by the monetary base, has nearly doubled from $826 billion last March to $1.64 trillion, and potentially larger increases are indicated for the future. The increases already posted are far above the range of historical experience. Many observers believe that this is the equivalent to printing money, and that it is only a matter of time until significant inflation erupts. They recall Milton Friedman’s famous quote that “inflation is always and everywhere a monetary phenomenon
From Asia Times,
While the White House may be making all the right noises about fixing American finance, a growing number of astute observers (see the Newsweek article as well as the Simon Johnson piece in The Atlantic) worry that the administration has fallen into the grip of what Willem Buiter of the London School of Economics calls “financial capture”.
Lawrence Summers, director of the National Economic Council, and Treasury Secretary Timothy Geithner (not to mention President Obama himself) have become victims of “cognitive capture”. That is to say, well-meaning as they might be, they had spent so many years in and around Wall Street that they were unable any longer to conceive of how an economy not run by and for finance capital could possibly function.
But watching the dissembling out of Washington and London, Buiter fears “it is becoming increasingly hard to deny the possibility that the extraordinary reluctance of our governments to force the unsecured creditors (and any remaining non-government shareholders) of the zombie banks to absorb the losses made by these banks, may be due to rather more primal forms of state capture.”
If this is true – if key figures in the Obama White House are essentially acting as shills for Goldman Sachs or, to put it more politely, if they are unable to distinguish the interests of Goldman Sachs from those of the Obama administration and the American public.
http://www.atimes.com/atimes/Japan/KD28Dh01.html
On topic comments please; this is a post about the IMF as a financier of last resort for the emerging world (and the emerging world as a financier of last resort for the US), not about the fed/ US monetary policy.
Interesting article. Thanks!
Im alarmed by the divergence between opinions of traders (that the IMF $1 trillion will be enough to bail out anyone in trouble), and the massive shortfall that you describe in your post. I think there is an issue of having a false sense of security that comes with the additional commitments of funding for the IMF (outlined at the G20 meeting). This seems to also lead to a moral-hazard issue whereby private investors are lulled into taking additional risks thinking the IMF is offering enough protection.
My thoughts are outlined on my blog here: http://blog.globotrends.com/2009/04/03/moral-hazard-of-increased-imf-funding/
To continue from my comment above, I think the IMF has a role to play but I don’t see countries surrendering essential elements of sovereignty to it. It was hard enough to get Germany and France et al to agree on the EU – and that after 30+ years in the old Common Market.
So I have two issues. The first is abjectly political but the second is a version of what we’re seeing now with the Euro and the strains being produced as countries struggle to stay inside the guidelines required for the single currency. It’s one thing to speak generally of emerging economies, another to get into specific countries, and yet it is at the specific country level that decisions would need to be made.
Again, if we’re talking about charity, about maintaining capital levels in emergencies, that’s something the world prefers to handle ad hoc. If we’re talking about policies that have consequences and then rewards and punishments, that’s an entirely different thing. It’s at this level that the economic and political objections come together because the interests of say countries in South America differ from SE Asia differ from Europe, etc.
In the worst case – meaning an absurd case – imagine voting blocs that drive these policies in favor of oil producing and exporting nations. They have a lot of power, can buy support, and yet their interests are the opposite of much of the world’s present and certainly of the future.
Brad: On topic comments please; this is a post about the IMF as a financier of last resort for the emerging world (and the emerging world as a financier of last resort for the US), not about the fed/ US monetary policy.
Regarding this post and previous where you note China buying gold, requesting IMF SDR’s to be “global” money. If, as suggested, China kicks in a barrel of CNY to the IMF, buys many many tons of gold and then declares the CNY linked to gold at a set price does that get us back to pre-Nixon days with now China the dominant (and stable) currency? Then we shift gold bars around in cages and thus end the “abuse” of trade deficits and all the financing this essay is based on?
Chinese buying spree with $2 trillion foreign reserves for Energy assets across the world
http://www.cnbc.com/id/30392494
ALMATY, Kazakhstan – The rivalry between Russia and the West for Central Asia’s energy resources has generated headlines. But it’s Chinese companies that have been snapping up assets in the region.
State-owned China National Petroleum Corp. is acquiring joint ownership of Kazakhstan’s fourth-largest energy company, MangistauMunaiGaz, which controls an estimated 500 million barrels of oil reserves. The deal, announced Monday, is expected to be completed in July.
Backed by hefty foreign currency reserves, China is doing big energy deals in Central Asia’s biggest oil supplier and elsewhere as it seeks to secure future energy supplies for its growing economy.
The purchase of the stake in MangistauMunaiGaz means that Chinese energy companies will control around 15 percent of this former Soviet nation’s current total oil output.
CNPC efforts to secure the MangistauMunaiGaz stake was complicated by the lively interest shown by Russian and Indian rivals, but Beijing’s jaw-dropping $2 trillion foreign reserves gave it an unassailable advantage.
It is that kind of solvency that has given China the leverage to strike deals at a time when the global financial crisis has left other governments scrambling for cash. In February, China signed a long-term oil supply contract and pipeline deal with Russia worth $25 billion. Days later, Brazil agreed to supply up to 100 million barrels of crude oil a day to China in exchange for a loan of up to $10 billion.
That same month, Venezuela and China struck a deal to put an additional $6 billion into a fund used finance joint development projects in areas including oil production. Venezuelan President Hugo Chavez said the fund would in part be aimed at increasing oil exports to China from 330,000 to 1 million barrels a day by 2015.
Another key element of Beijing’s strategy is the Kazakhstan-China oil pipeline. When fully completed in 2011, the route will span almost 3,000 kilometers from the oil-rich Caspian coast to the Chinese border and ferry around 20 million tons of Russian and Kazakh oil every year.
gold investors seem to be the most relentless of all in ‘talking their own book.’
that does not mean they are always wrong – just that they never give up . . .
a headline says china has amassed a quantity of gold. this is true. you could also report this in terms of the proportion of total chinese reserves held in gold. if they have a gold policy (they must ?) – surely it is more likely to be expressed in percentage terms, than somebody saying in some committee – “let’s go for the thousand tonnes !”
there are about 30 billion teeth in china. someone should check with the dentists. it might be the teeth which are rotten and about to fall out, not the dollar.
I hope we don’t see too much of the ‘capital flow reversal’ in 2010 that will cause the U.S. trade deficit to expand again, at a time when the U.S. needs to augment aggregate demand. That would not help U.S. employment and would retard needed balance sheet adjustments.
Gillies: gold investors seem to be the most relentless of all in ‘talking their own book.
I own no gold. I was asking a serious macro econ question in line with the post. The IMF is selling its gold to fund investment in the developing world, which, as this essay posits, turns around and support the US. China is amassing gold, has huge amounts of US paper, and wants a global currency. If I’m way out of line speculating that CHina could be looking for a way to changes the rules a bit and to their favor by going back to a gold std with their currency supreme, linking a fixed fx rate tied to gold then I do apologize. I’m trying to weave many possibilities together based on arbitrary factoids. Which I think are relevant to this thread in that shuffling gold bars around on the floors of central banks to “balance trade imbalances” is how it used to work, no?
rob if you look at the way the imf has done gold transactions in the past, it is done in a way that avoids actually selling the gold — the imf sells it at the market price to a country that is about to repay the IMF, and the IMF can book the gap between the book value and the market price as a capital gain. the coutnry then repays the imf in gold (as it legally is allowed to do). the imf thus gets the gold back at a higher price (if i understand this correctly; look at the “gold” fact sheet on the imf’s web page)
as for china shifting its reserves into gold — well, see my earlier comments, or drezner’s. there isn’t much evidence that china is increasing the total share of its reserves in gold. it may — but it hasn’t yet happened.
what clearly has happened is greater willingness on the part of China to use its foreign assets to buy into resources abroad.