Brad Setser

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The savings glut. Controversy guaranteed.

by Brad Setser
June 30, 2009

Few topics are quite as polarizing as the “savings glut.” The very term is often considered an attempt to shift responsibility for the current crisis away from the United States.

That is unfortunate. It is quite possible to believe that the buildup of vulnerabilities that led to the current crisis was a product both of a rise in savings in key emerging markets, a rise that — with more than a bit of help from emerging market governments — produced an unnatural uphill flow of capital from the emerging world to the advanced economies, and policy failures in the U.S. and Europe.

The savings glut argument was initially put forward to suggest that the United States’ external deficit was a natural response to a rise in savings in the emerging world – and thus to defuse concern about the sustainability of the United States’ large external deficit. But it was equally possible to conclude that the rise in savings in the emerging world reflected policy choices* in the emerging world that helped to maintain an uphill flow of capital – and thus that it wasn’t a natural result of fast growth in the emerging world. This, for example, is the perspective that Martin Wolf takes in his book Fixing Global Finance. Wolf consequently believed that borrowers and lenders alike needed to shift toward a more balanced system even before the current crisis.

From this point of view, the savings glut in the emerging world — as there never was much of a global glut, only a glut in some parts of the world — was in large part a result of product of policies that emerging market economies put in place when the global economy — clearly spurred by monetary and fiscal stimulus in the US — started to recover from the 2000-01 recession. China adopted policies that increased Chinese savings and restrained investment to try to keep the renminbi’s large real depreciation after 2002 – a depreciation that reflected the dollar’s depreciation – from leading to an unwanted rise in inflation. The governments of the oil-exporting economies opted to save most oil windfall – at least initially. Those policies intersected with distorted incentives in the US and European financial sector – the incentives that made private banks and shadow banks willing to take on the risk of lending to ever-more indebted households (a risk that most emerging market central banks didn’t want to take) to lay the foundation for trouble.

On one point, though, there really shouldn’t be much doubt: savings rates rose substantially in the emerging world from 2002 to 2007. Consider the following chart – which shows savings and investment in emerging Asia (developing Asia and the Asian NIEs) and the oil exporters (the Middle East and the Commonwealth of independent states) scaled to world GDP.

savings-glut-weo-09-6-1-redone

Investment in both regions was way up. But savings was up even more.

It is unusual for Asia and the oil exporters to show large surpluses at the same time. In 98 the fall in oil prices helped Asia and hurt the oil exporters; in 2000 the rise in oil prices helped the oil exporters and hurt Asia. And way back in 1980, Asia ran a deficit that helped offset the oil exporters’ surplus.

savings-glut-weo-09-2

The main reason for the rise in emerging Asia’s savings is simple: China’s GDP rose relative to world GDP, and China’s savings rate rose relative to China’s GDP

The chart is from Stephen Green of StanChart; used with permission

The result was a very large increase in the aggregate savings of the emerging world – especially after 2003. The rise in the combined surplus of Asia and the oil exporters that followed the Asian crisis was around 0.5% of world GDP. The post 2003 “China boom” pushed the combined savings rate of the oil exporters and emerging Asia up another 1% of world GDP.

All my data, incidentally, comes straight from the IMF’s WEO data tables. All I did was to multiply the data on savings rates by regional GDPs and then scale the resulting dollar figure to world GDP in dollars.

That disaggregated data is almost as striking.

It shows, for one, that the “investment drought” argument applies far more to the Asian NIEs (Korea, Taiwan, Singapore, Hong Kong) than to the rest of Asia. Investment in some countries may not have recovered from the 1998 crisis, but the overall data is dominated by the huge rise investment in developing Asia (read China). Plotting the rise in billions of dollars – rather than as a share of global GDP – makes the scale of the rise in investment in developing Asia over the past few years clear.

savings-glut-weo-09-51

Savings and investment in India both rose. And China went from a $1 trillion economy investing 30 to 35% of its GDP to a $4 trillion plus economy investing close over 40% of its GDP …

It is also striking that investment in the Middle East was essentially stagnant, in dollar terms, from say 1980 on. That meant that is was falling as a share of world GDP – and certainly falling relative to the Middle East’s population. Comparisons with the “boom” level of 1980 is a bit unfair, but it still isn’t hard to see why the region stagnated when oil prices stagnated.

And it also isn’t hard to see why the region boomed when oil prices soared, as the rise in oil revenue financed a boom in investment. The scale of that boom – in dollar terms – is rather impressive.

savings-glut-weo-09-4

The net result: the global economy prior to the crisis was characterized both by high levels of both savings and investment in Asia and the oil exporters and by high levels of consumption and low levels of savings in the US.

In a global economy, a rise in savings relative to investment in one part of the world necessarily implies a fall in savings relative to investment in the rest of the world; sorting out why key macroeconomic variables change is always difficult.

Maybe this equilibrium was a function of excessive demand stimulus by the advanced economies in the aftermath of the last recession – and lax financial regulation that allowed households to over-borrow. High US and European demand allowed the emerging world to save more. Maybe it was a function of policies in the emerging economies, policies sometimes put in place to support undervalued exchange rates. That would explain why the growing US savings deficit didn’t put upward pressure on global interest rates and why the rise in the US external deficit didn’t lead to a rise in US real interest rates — something would have short-circuited the housing boom. Probably it was a mix of both. Emerging market savers (really their governments, as private savers weren’t exactly seeking out depreciating dollars) helped to provide Wall Street and the City the rope they (almost) used to hang themselves.

No matter. We don’t need to assign responsibility for the imbalances that marked the pre-crisis global economy to know that the chain of risk-taking that allowed emerging market savers to finance heavy borrowing by US households didn’t result in a stable system.

* Policies that increased savings in China include a tight fiscal policy and the reforms that increased the profitability of the SOEs, creating a new source of business savings. No comparable reform was put in place to have the SOEs pay dividends (or to use the dividends to support say a social safety net), so the rise in business savings in effect freed up household savings to be lent abroad (with a lot of help from the state banks and the PBoC). Policies that reduced investment include the rise in the banks’ reserve requirement — which meant that Chinese banks had one of the lowest loan to deposit ratios in the emerging world going into the global slump — and more generally the restraints on bank lending. The governments of most oil-exporting economies also saved a large fraction of the oil windfall, especially in 2004 and 2005. Over time discipline waned a bit, but the rise in spending and investment didn’t quite keep pace with the rise in oil prices.

73 Comments

  • Posted by charles monneron

    “That to me is the “savings glut”; tis entirely an EM thing, with the offsetting move that balanced the global economy coming in no small part from a fall in US national savings. Determining casuality is hard — though i would agree with Bernanke, Wolf and Summers that low real rates offer a hint.”

    causality, casualty ? nice freudian slip !

  • Posted by Viktor

    What I don’t understand is: why are people like Paul “free lunch” Krugman blaming the emerging world for their propensity to save?

    It was the US banks who funneled the money into fraudulent “investments” promising irrealistic returns. The basic mistake was that people naively believed that the US banks are _not_ going to rob them blind and rip them off outrageously, which in fact they did.

    These people seem to accept that if you get cheap funding, sink it into some black hole that is predicated on house prices always going up, and then blow up, then it’s not your fault, but that of whoever gave you the money.

    This is a completely inverted morality, and if we accept this to be the real causal chain, then I think it’s better if we all withdraw our money from the banks…

  • Posted by Qingdao

    Here is Skidelsky in a review of Martin Wolf’s book ref. the 97 Asian crisis:
    Under these conditions of uncertainty, Koreans and other foreigners started selling the domestic currency, which therefore plummeted in value and triggered a currency crisis. This is when the full financial crisis of the 1990s really got going. With a devalued domestic currency, neither private nor public institutions could afford to take out new loans in foreign currencies, and the old ones could not be repaid. Interest rates soared and insolvent companies were wiped out, bringing solvent banks down with them. “Domestic credit seizes up. Inflation surges as the currency tumbles. The economy falls into a deep recession.” Partly because of similarity of circumstances and partly because of contagion effects, this was the fate of most East Asian economies in 1997–1998.
    Here is Zhou Xiaochuan from a recent post at PB of China:

    The high savings ratio and large foreign reserves in the East Asian countries are a result of defensive reactions against predatory speculation. During the Asian Financial Crisis, the rampant speculations of hedge funds caused large capital inflows and subsequent reversal in these countries, which exacerbated their economic woes. People in these countries were shocked, and disgusted by these speculative attacks. Afterwards, many suggested that unregulated predatory speculation caused the crisis, and appropriate international regulation was needed. However, for various considerations, some countries were against such regulations, and failed to see the need to adjust the regulatory frameworks. International organizations also failed to perform their regulatory responsibilities over abnormal capital flows, forcing the East Asian countries to amass foreign reserves to fend for themselves.

  • Posted by Thomas

    @Rien Huizer

    All you write is true. But does that really imply that things are so different from China?

    Let’s see:

    Singapore has a large SoE-sector. It has lots of MNCs that have invested money into manufacturing (the “reinvoicing” sounds similar to what some – including Twofish on this blog – have said happens in China on a massive scale due to tax advantages and possibly other reasons). It has two huge sovereign investment funds (Temasek and GIC) which control a major portion of Singapore’s international investments, with the stated aim of developing “Singapore’s second wing abroad” via massive direct investments. And it has an entirely funded mandatory pension scheme (CPF) that essentially forces private households to save a large portion of their income (which then to a large extent gets channelled into the aforementioned sovereign funds). As for the high-net-worth individuals: Sure, China doesn’t attract many of those from abroad, but it has lots of homegrown ones by now.

  • Posted by Brick

    I would query the fact that the IMF data does not show price declines in China, which would seem logical conclusion since factory gate prices have declined. It is also interesting to note that the IMF had some difficulty calculating savings (see their note below) and seems to use a different method to the US calculations. Correct me if I am wrong (I only perused the data quickly) but the savings forecast data does not show increases in the future, not even for the US. I wonder if there is some sort of difference in definition of savings and whether paying off debt does not count as savings in the IMF’s eyes.

  • Posted by Thomas

    @Rien Huizer

    regarding the “profit component of GNI”:

    I checked the latest data, and in 2008, roughly half of Singapore’s GNI was “employee compensation”, and the other half “gross operating surplus” (what you apparently call “profit component).

    Isn’t that quite similar to China as far as the percentages are concerned?

  • Posted by Michael Pettis

    Interestingly enough, Brad, Zhou Xiaochuan recently posted this on the PBoC website: “The high savings ratio and large foreign reserves in the East Asian countries are a result of defensive reactions against predatory speculation. During the Asian Financial Crisis, the rampant speculations of hedge funds caused large capital inflows and subsequent reversal in these countries, which exacerbated their economic woes. People in these countries were shocked, and disgusted by these speculative attacks. Afterwards, many suggested that unregulated predatory speculation caused the crisis, and appropriate international regulation was needed. However, for various considerations, some countries were against such regulations, and failed to see the need to adjust the regulatory frameworks. International organizations also failed to perform their regulatory responsibilities over abnormal capital flows, forcing the East Asian countries to amass foreign reserves to fend for themselves.”

    In the past it was always argued by chinese policymakers that high PBoC reserve accumulation was simply an unintended consequence of profligate US consumption, and was not domestic-policy driven. But now by arguing that polices aimed at protecting China from Asia-1997-style balance-of-payments crises were what drove the reserve accumulation priocess (a reasonable if partly muddled decision, it seems to me, that got out hand in part because of loose monetary policies in both China and the US) he is implicitly acknowledging the role of domestic policy in driving the imbalance. Like with his SDR proposal, I think Governor Zhou has sort of allowed the savings glut hypothesis to slip in by the back door, but of course he would get into serious trouble if he ever acknowledged this explictly.

  • Posted by bsetser

    Qingdao — China has WAY more reserves than it needs to avoid a repeat of the Asian crisis. Way more. In addition to building up its reserves, it also restricted borrowing and maintained capital controls — which reduced its need for reserves. The net result was that China traded vulnerability to an asian style crisis to vulnerability to a collapse in external demand, as it created incentives to concentrate too heavily in exports.

    Tis hard to attribute the rise in Chinese savings v investment from 04 simply to a policy response to Asia’s crisis; if Asia was the driver, why did china wait so long to run up its current account surplus?

    Empirically, the surplus emerged after the USD depreciated bringing the RMB down, and then after China curbed bank lending to try to keep the Chinese economy from overheating in 04. If china had allowed theRMB to rise then to cool its economy, in my view there wouldn’t have been the same kind of surge in savings v investment in china — and today China wouldn’t have to worry so much about its excessive exposure to the dollar.

  • Posted by bsetser

    Michael — perhaps. i wouldn’t have recognized this as a backhanded recognition that the rise in savings was policy driven if you hadn’t highlighted it.

    Though I am more struck my the cosmic irony of a world where China builds up its reserves to defend against unregulated “speculators” (presumably a reference to hedge funds, among others) and then ends up investing some of its reserves with said unregulated speculators …

    The other irony is that savings didn’t really rise in the countries most hit by the crisis of 97/98; in most such countries, surpluses reflect a fall in investment. the big rises in Asian savings came in India — where the rise financed a higher level of investment and growth and didn’t create an imbalance — and in China …

  • Posted by Rien Huizer

    Thomas,

    Any Singapore/China comparison is complicated. Your facts in both comments are correct. But you know that just counting limbs and reproductive habits is not going to convince anyone taht what happens to mice must happen to elephants. Germany cannot emulate strategies (i guess they have them there too, it is a very small place) available to luxemburg. Singapore -sorry, Spore is my hobby- is chamber music.

    And while Singapore and few other boutique economies, with a very clever version of economic nationalism, can get away with these figures, large countries like China cannot. Singapore can free ride many world wide institutions (i.e. not contribute to the cost). China’s <50% can only be explained as a sign of a highly unjust division of China’s national income. No Singaporean (if these statistics would be politically problematic in Singapore, they would not be this easily available) will blame the government for letting a pharmaceutical giant drop a few billion of group profit in Spore (and there is genuine life science activity to provide substance of course) So Singapore’s BOP surplus is something that does not disrupt the international economy. And it may even grow bigger. Spore’s domestic economy is in about the same shape as HK and Taiwan. Struggling. It would be crazy for Spore to have a freely floating currency (same for HK for that matter) because so many significant enterprises do not even account in it. Of course they pay salaries and rent in SGD, but that is it.

    That important parts of Spore’s political economy have Chinese characteristics (a bit of KMT ideology mixed with Harvard Public Administration and learning by doing) with a large (and maybe surprisingly effidcient state sector) does not mean that a very large country, with very strong industry potential, on the threshold of middle income status, deserves the same trade political treatment that a harmless resort for international capital gets. No way.

    Interesting topic though, but ugly.

  • Posted by Winslow R.

    I hope you eventually understand global rebalancing will require a better balance between U.S. fiscal and U.S. monetary policy.

    Only once China is sufficiently concerned with the inflationary consequences of U.S. fiscal policy will they make the political changes necessary to slow or stop U.S. Treasury Security purchases.

  • Posted by Thomas

    Quote Rien Huizer: “And while Singapore and few other boutique economies, with a very clever version of economic nationalism, can get away with these figures, large countries like China cannot.”

    I agree with that statement. What I meant to say earlier was: China might try to follow Singapore’s course (either on purpose, or unwittingly). But it can’t, because it’s too big. But if it indeed tries to go down that route, the implications will be nasty.

    Because Singapore is tiny and ultimately inconsequential (though a 30 % current account surplus in Singapore is the same absolute size as a 1.5 % current account surplus in Germany, i.e. not minuscule in absolute standards). China isn’t, and can’t possibly do the same thing for long.

  • Posted by Thomas

    Quote Rien Huizer: “sorry, Spore is my hobby”

    Seems we have the same hobby… 😉

  • Posted by Blissex

    NOBODY has mentioned the Japanese ZIP which begun in 1995-1996

    Far from irrelevant.

    Also the credit explosion in the USA (near abolition of capital requirements) which also begun in 1995-1996.

  • Posted by pebird

    Why the focus on excess savings instead of scarcity?
    Which tail is wagging which dog here?

    Didn’t the export of manufacturing to the Far East basically guarantee a savings glut/scarcity imbalance?

    The entire global glut and credit expansion looks like a generational scheme to repatriate profits while bypassing virtually all workers and avoid taxation.

    What did anyone expect – eliminate large volume of decent income jobs in the US – replace 75% of lost income with cheap goods. No middle class wage pressures in US – check. Inflation at “3%” even though imported consumer goods are roughly 15-25% cheaper. Hmmm – can’t be the volatile energy and food, that’s always excluded.

    Pump up trade volume because incremental unit margin decreases. Over production of retail, electronics, toys, apparel, automobiles, hedge fund managers. WalMart becomes largest US private employer – someone in HR forgets about health insurance.

    China gets to invest in Soviet-scale infrastructure projects, with better architects. Workers gets taste of Western lifestyle – after 15 years back to the farm – sorry no work. Specialize in producing things not designed nor needed in China. Basically global wage arbitrage game.

    Pile up of dollars in Chinese central banks – big f*ing surprise. What to do? Lets call it something that sounds really bad – like a glutton eating all those dollars disappearing from US worker paychecks. What a waste of the last quarter century. At least the east coast of China looks like Las Vegas.

  • Posted by Too Much Fed

    bsetser: Sorry about that.

  • Posted by Simon

    Greenspan lowered interest rates to avert a downturn AND try to maintain high employment in the US. It worked. Unfortunately the buckets of money made available didn’t find useful effect, instead they sparked a bubble in housing. Inflation was kept low, because of the high productivity, IN CHINA. Unfortunately high productivity in China does not help the US.

    If there had been a significant and sustained downturn in the US from 2001 onwards it would have forced household savings rates UP, forced capital allocation into areas of TRUE internationally competitive PRODUCTIVITY, slowed China’s growth rate and potentially improved capital allocation in that country too.

    In interesting corollary to the current discussion about regulation implied by this analysis is that more than likely improved regulation is not the full answer. Curbed credit expansion and closer supervision of credit agencies while important are probably not a complete solution. Ironically higher interest rates may well be. More than likely all this fuss could be avoided if it was not permisable for the FED to lower interest rates to below lets say 4%.

    If no one can come up with a sensible plan to allocate capital effectively and pay interest at 4% its probably not worth while doing it.

    I question the assertion that increased savings rates result in lower interest rates. Is the short end of the curve controlled by central banks or not?

  • Posted by Laobaixing

    Simon,

    A bit late, but excellent post. Just the idea of having an interest rate bottom. But wait until the next boom. But I agree that the 2001 downturn should have been allowed to run its course, however painful for the politcos of the day. That would have saved the world a lot of trouble.

    Perhaps that is why the Chinese are very publicly looking for alternatives to a reserve currency managed by a (possibly irresponsible) national government interested only in its domestic electability. Every modern bank regulation theorist is familiar with the “gambling for survival phenomenon” that usually impoverishes outsiders. Looks that is exactly what the GWB gvt did and no doubt the present gvt will do if the circumstances rquire.

    But that is also the main reason why no US gvt would sit by and let “the world” take away its main tool of domestic economic policy. I am sure the Chinese are aware of this and what they may want is something far less ambitious (yet costly for the US). It would be interesting to know what that might be. It cannnot be anssurance of policy quality because that would not be a credible promise (no democratic gvt can restrict successors economic policy or ability to change laws, except by constitutional change). Perhaps some form of guarantee. Leveraging the IMF as seems to be in the process now has limits and is in essence a crazy idea. Perhaps a new type of SDR, with the CNY in it and some liberation of China’s capital account.

  • Posted by Jonathan Sherman

    Interesting that the chart of Chinese saving as a % of Chinese GDP mirrors the price of spot gold over the past 20 years.

  • Posted by henrylow

    Everyone has their favorite way of using the internet. Many of us search to find what we want, click in to a specific website, read what’s available and click out. That’s not necessarily a bad thing because it’s efficient. We learn to tune out things we don’t need and go straight for what’s essential.

    latest trend

  • Posted by Pension Savings Accounts

    I appreciate the concern which is been rose. The things need to be
    sorted out because it is about the individual but it can be with
    everyone.
    Pension Savings Accounts

  • Posted by cristina

    hiiiiiiiii

    I think that’s not necessarily a bad thing because it’s efficient. We learn to tune out things we don’t need and go straight for what’s essential.

  • Posted by cristina

    hiiiiiii

    I think that thing because it’s efficient. We learn to tune out things we don’t need and go straight for what’s essential.
    ………..
    cristina

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  • Posted by avelino lobo

    Hi alll,
    It would be interesting to know what that might be.
    ========================
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