Tuesday, November 15, 2011

The GSG Redux

. Tuesday, November 15, 2011

Matt Yglesias has a concise post on one of my favorite topics, the Global Savings Glut. It is short, so let me provide the core argument here.

Remember the “global savings glut” of the mid-aughts? This was Ben Bernanke’s explanation for the large U.S. current account deficit as of 2005. It’s also an important part of the backdrop for the housing boom and the financial crisis. What happened is that in the late-1990s, many East Asian countries suffered from a classic financial panic. The international investment community, once bullish on places like Thailand and South Korea, suddenly turned pessimistic. Currencies collapsed, and borrowers were left awash in debt. The IMF stepped in to prevent the global financial system from falling apart, but in exchange for liquidity assistance, it imposed tough austerity conditions on the states in need of rescue.
He then notes that the ECB and German policymakers have embraced this logic.
The IMF qua IMF seems to have decided that this was a mistake, and under Dominique Strauss-Kahn and now Christine Lagarde has largely been pushing a non-austere agenda. But Angela Merkel, European Commissioner Olli Rehn, and the European Central Bank seem to be re-inventing the late-’90s IMF prescription for economic recovery. They’re afraid of creating a situation in which poor economic management isn’t adequately punished, so they’re determined to make sure that troubled European states enact unpopular austerity packages
He concludes that if this succeeds, it has two implications for the global financial system:
1. Increased demand globally for safe dollar-denominated assets.
2. Therefore, larger US budget deficits or new financial engineering to meet the demand.

Lots to react to here, so let me focus on three things. First, the biggest saver in East Asia post 1997 is China. China's savings were precautionary rather than a direct response to IMF austerity.

Second, Italy isn't China. And neither are Greece, Spain, Portugal, and Ireland. By which I mean that China is an authoritarian state that intervenes directly to extract resources without being constrained by broadly inclusive political institutions. Italy is a parliamentary democracy with a multi-party system. It has struggled with fiscal policy since the late 1960s, largely because of its multi-party parliamentary system. Ditto for Greece, Portugal, and Spain though obviously the timing is a bit different. Hence, no switch that the Italians (or the others) can turn on to become a high savings society.

Finally, it is precisely because there is no switch that would transform Club Med into high savings societies that current sovereign debt problems were anticipated twenty years ago (see convergence criteria) and pose severe challenges to the viability of the EU as a monetary union.

So, although Yglesias point is correct in theory, the likelihood that this problem arises in practice, assuming revolutionary movements overthrow current democratic regimes in southern Europe, is rather limited because democracies are rather different than autocracies.

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