Wednesday, December 3, 2008

Who Adjusts?

. Wednesday, December 3, 2008

Funny how the world works. I was talking (or at least trying to) about contemporary global imbalances in class today, with a particular focus on the question of the relative merits of adjustment via contraction in the US and adjustment via expansion in the surplus countries, especially China. Reading the FT tonight I come across Martin Wolf's nice summation:

"Countries with large external surpluses import demand from the rest of the world. In a deep recession, this is a “beggar-my-neighbour” policy. It makes impossible the necessary combination of global rebalancing with sustained aggregate demand. John Maynard Keynes argued just this when negotiating the post-second world war order.

In short, if the world economy is to get through this crisis in reasonable shape, creditworthy surplus countries must expand domestic demand relative to potential output. How they achieve this outcome is up to them. But only in this way can the deficit countries realistically hope to avoid spending themselves into bankruptcy."

Of course, pointing out what ought to happen to get the world economy through this crisis in reasonable shape does not mean it will in fact happen. I am particularly skeptical about China's willingness to embrace this path. "Asked whether China might pursue economic policies aimed at saving the world, Mr. Lou said that the country’s leaders had a narrower focus. “China can only save herself..."


Russell said...

Dani Rodrick has an interesting addition to this topic. If Obama engages in Keynesian fiscal stimulus, people will be paying attention to the multiplier effect. The best way to increase the Keynesian multiplier is taxing imports so that consumption targets domestic industries rather than just going overseas. Rodrick argues to avoid protection, fiscal stimulus needs to occur in China and Europe(Germany) so that they buy our goods too.This echoes Wolf who argued that non-US countries not engaging in fiscal stimulus are essentially endorsing a beggar-thy-neighbor policy. Unfortunately, the Keynes' (who almost everyone is looking to now) multiplier provides the theoretical background to engage in protectionism if the fiscal stimulus does not succeed to people's expectations.

Thomas Oatley said...

Thanks Russell. And here's the link to the Rodrik post:

Who Adjusts?
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