Tuesday, January 26, 2010

How the Chinese One-Child Policy Caused the Financial Crisis

. Tuesday, January 26, 2010

What caused the financial crisis? A new (to me) argument says it wasn't regulation. It wasn't greedy bankers. It wasn't predatory lenders. It was the Chinese one-child policy. Tyler Cowen points us to Eric Barker, who passes this along:

“The increased pressure on the marriage market in China might induce men and parents with sons to do things to make themselves more competitive,” Wei says. “Increasing savings is one logical way to do that, to the extent that wealth helps to increase a man’s competitive edge. Parents increase household savings mostly by cutting down their own consumption.”

Wei worked with Xiaobo Zhang of the International Food Policy Research Institute in Washington, D.C., to see if his hypothesis held up, comparing savings data across regions and in households with sons versus those with daughters. “We find not only that households with sons save more than households with daughters in all regions,” Wei says, “but that households with sons tend to raise their savings rate if they also happen to live in a region with a more skewed sex ratio.”

The effect is significant. The household savings rate in China rose from about 16 percent of disposable income in 1990 to over 30 percent today, which is much higher than most countries. About half of the increase in the savings rate of the last 25 years can be attributed to the rise in the sex ratio imbalance.

Here's the sequence: the Chinese one-child policy led to a greater male-to-female ratio (since cultural norms valued male children over female children, and if you only get one...), which increased competition among men for the affection of women; this incentivized good-husbandry signals like lots of savings; lots of savings among many Chinese men led to excessively high savings rates, which led to a "global savings glut"; all that savings had to go somewhere, so it came to the U.S. and found its way into risky mortgages; these risky mortgages were then packaged and sold under wrong risk calculations, leading to the spread of systemic risk throughout the domestic and international financial systems; this led to the failure of some financial institutions, which caused a credit crunch, which led to the financial meltdown, which led to the current Decession.

Got it? As Cowen notes, this means that macroeconomic imbalances cannot be addressed through exchange rate mechanisms alone:

You'll note, by the way, that low wages and a high savings rate are the fundamental reasons for global imbalances, not Chinese currency policy. If this is true, one implication is that the Chinese attempt to cut population leads indirectly to those global imbalances. If you "fear China" (whatever that means), the current imbalances might be better than the relevant alternatives, namely a China with high and growing population and all the environmental problems which that involves.

Of course it's worth asking whether Chinese currency policy incentivizes those low wages and high savings rates. If the yuan is under-valued, then imports and even domestic products are relatively more expensive than they "should" be. Factor in the low wages, which is also somewhat intentional, and that lack of a social safety net and it's no wonder why having a lot of savings is attractive to a potential mate. This pushes incomes into savings rather than consumption.

But it doesn't have to be that way. After all, in some other societies males signal their worth to female by conspicuous consumption, not conspicuous savings. If China wanted to incentivize consumption they could begin constructing welfare programs, let the yuan appreciate (and thus let the real purchasing power of Chinese citizens increase), and we'd (presumably) start to see behaviors change.

So there is certainly a currency/exchange rate component to this. Chinese men are acting according to the incentives the government has given them to save rather than the incentives the government *could* be giving them to spend.

I have no idea how rigorous this theory is, but it's certainly intriguing. I'm kind of surprised Malcolm Gladwell hasn't gotten ahold of it yet, to be honest.


How the Chinese One-Child Policy Caused the Financial Crisis
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