stephen roach's latest - "asymmetrical risks of ..

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    Global: Asymmetrical Risks of Global Rebalancing

    Stephen Roach (New York)

    The disparity between current account deficits and surpluses is now closing in on a record 5% of world GDP. Behind this imbalance lurks an important and potentially dangerous asymmetry: Deficits are heavily concentrated in one economy whereas surpluses are spread out widely over a large number of nations. This mismatch could well exert a very destabilizing influence on the coming rebalancing of the global economy.

    The numbers speak for themselves: As can be seen in the accompanying chart, the deficit side of the global current-account equation is heavily dominated by the United States. By our reckoning, America’s record current-account shortfall should account for about 70% of the total deficit positions in the global economy in 2005. By contrast, the incidence of surpluses is far more diffused: It takes some 10 economies to account for 70% of the total global current-account surplus in 2005. While our estimates suggest that Germany and Japan should collectively account for nearly 30% of the world’s total current-account surpluses this year, the remainder of the global surplus is widely distributed into a broad cross-section of countries around the world. The “second tier” of surplus economies includes five countries that collectively account for another 33% of the total current-account surpluses in the world -- Russia (8.7%), Saudi Arabia (8.0%), China (7.8%), Norway (4.7%), and Switzerland (4.4%). The balance of the surpluses is spread out widely. Indeed, it takes another 11 economies to account for the next 25% of the world’s overall current account surpluses in 2005. (Note: Recently, we published an estimate that Japan and Germany should collectively account for 56% of the world’s total current account surplus in 2005; see my 9 September dispatch, The Shoestring Economy. That estimate was based on a much smaller sample of surplus economies that overstated the positions of Japan and Germany. The 30% figure cited above is derived from an IMF database that contains a much broader universe of some 179 economies. Apologies for any confusion).

    Current account imbalances are really nothing more than saving-investment gaps. A country such as the United States runs a current account deficit because its domestic saving falls short of investment. It must then import surplus saving from abroad in order to maintain such “under-funded” investment. Conversely, a country such as Japan runs a current account surplus when its investment falls short of domestic saving. The excess saving then gets intermediated back into global capital markets, where, under certain conditions, it can be recycled back to the deficit economies. In theory, since there is always equality between global investment and saving, the aggregation of current account surpluses should be equal to the aggregation of the world’s deficits. Unfortunately, because of data problems, that’s not always the case in practice.

    There are no guarantees that there will be a synchronous rebalancing in the mix of global saving -- that a US saving increase will be accompanied by declining saving rates elsewhere in the world. To the contrary, there is good reason to fear a further widening of the disparity in global saving and current account positions over the next couple of years. While there is a growing and welcome possibility of some saving reduction in the major surplus economies, that constructive trend could well be more than offset by a sharp deterioration on the US saving front.

    America’s national saving outlook is in the process of going from bad to worse. Deterioration is likely in all three major components of domestic saving -- for households, the government sector, and for businesses. American consumers were already running a negative personal saving rate before the energy shock intensified; to the extent that households now attempt to defend their lifestyles in the face of energy-related shortfalls of disposable income, the personal saving rate should move deeper into negative territory. At the same time, Katrina-related recovery and reconstruction costs could add at least one percentage point to the Federal budget deficit in 2006. And the business sector saving cushion seems likely to diminish as the combination of rising energy prices and mounting unit labor costs puts a dent in corporate profit margins. As a result, America’s net national saving rate -- which has averaged a record low of 1.5% of GDP since early 2002 -- could well threaten to pierce the “zero” threshold at some point over the next year. Consequently, it appears quite likely that the world’s dominant current-account deficit economy -- the saving-short US -- is about to put an even larger claim on the world’s pool of surplus saving.

    There is an important new reason to believe this could be a serious problem for world financial markets and the global economy: Surplus economies are finally on the road to recovery. That’s true in Japan and could well be the case in Germany, as well. As noted above, these two economies collectively account for nearly 30% of the surplus saving in the world. To the extent recoveries in Germany and Japan rely increasingly on support from domestic demand -- and there is good reason to think that might be the case -- surplus saving will be absorbed. That will then leave less foreign capital available to fund America’s ever-deepening saving shortfall. Moreover, China -- the fourth largest surplus saver in the world (possibly moving up to number three by year-end 2005) -- is very focused on stimulating domestic private consumption. To the extent China succeeds in its own rebalancing, that will put downward pressure on its saving -- undermining yet another source of funding for America’s current account deficit.

    There’s a certain irony in these prospective developments. For the last few years, Washington politicians have been quick to label America’s current account and trade deficits as a foreign problem -- an outgrowth of persistently sluggish growth in the rest of the world. There is, of course, a certain amount of truth to that characterization of the past -- although as our dispersion analysis suggests above, the US certainly deserves its fair share of the blame as well. But the past may not be prologue for what now lies ahead. The rest of the world finally is starting to break the shackles of sluggish growth. And in doing so, recoveries seem likely to be concentrated amongst three of the world’s four biggest savers -- namely, Japan, Germany, and China. In the meantime, America has not only failed to correct its record saving deficiency, but it appears to be on a course that will depress its domestic saving rate even further over the next year or so. This puts more tension on the global rebalancing framework.

    Today’s unbalanced world is in an extremely delicate state of equilibrium. The asymmetrical distribution of current account deficits and surpluses around the world means global rebalancing will involve an equally asymmetrical realignment in the mix of global saving. This is potentially a “hair-trigger” result for an already unbalanced world. America is having a highly disproportionate impact on the state of imbalance in today’s global economy. As such, there is much greater urgency for the US to raise its record low domestic saving rate than there is for any one country -- or group of countries -- to draw down surplus saving. Yet a US-centric rebalancing is very much a double-edged sword for a lopsided world: An increase in US saving would also crimp the major engine on the demand side of the global economy. Depending on the path of the saving adjustment -- gradual or abrupt -- the outcomes could range from a sustained shortfall in global growth to a sharp worldwide recession.

    This is where the asymmetries in the mix of global saving have the clear potential to become a serious problem. If the world’s dominant deficit economy -- the United States -- goes even deeper into deficit at the same time the world’s surplus economies start to absorb their domestic saving, America’s ever-mounting external financing pressures are likely to be vented in world financial markets. This, of course, is the stuff of a classic current-account adjustment -- the case for a weaker dollar and higher US interest rates. As long as the non-US world was in an excess saving position, a major re-pricing of dollar-denominated assets could be avoided. But now, with an asymmetrical shift in the mix of global saving increasingly likely, it could well become all the tougher for the United States to avoid this treacherous endgame.

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