The vast, deep-seated global economic imbalances that were the fundamental cause of the present crisis.

from TheTimesOnline 7/20/09


It is to these “imbalances” that we can trace back the dynamic that spawned the calamitous economic fate now being endured by the United States and the world.

On one side of a relationship that we now know was a Faustian bargain, America spent most of the past decade or more on a runaway consumer binge — fuelled by an unsustainable boom in house prices and a headlong accumulation of debt that was made attractive and accessible by a flood of cheap money.

On the other side of the equation sat China, where vast savings — as excessive in many ways as heedless US consumption — provided the ultimate source of the easy money blown by Americans on cheap Chinese imports.

As Chinese exports to US consumers boomed, Beijing happily recycled the massive proceeds on buying up seemingly limitless quantities of US Treasury bonds. In turn, this drove down China’s exchange rate and kept its products cheap and US citizens eager to buy to buy them. Americans’ access to ever greater borrowing was subsidised as China’s T-bond buying strategy forced down US market interest rates.

This seemingly perfect symbiotic relationship was unsustainable, however. It collapsed as soon as American house prices crashed and unravelled its twisted economic logic.

Yet while this “great game” ought now to be decisively over, both Washington and Beijing still seem intent on simply pressing “restart”. All of US policy to fight the slump is presently geared to shoring up and reviving consumption. At the same time, many market players are being deluded into thinking that the fundamental corrections needed to restore balance to the global economy are already under way. They are not.

To achieve this vital rebalancing, what is required is for the United States to spend less and save more, while China must move, albeit gradually, to an economy driven far more by domestic demand and consumption and become much less dependent on exports.

Some economic observers have come to believe that this is already under way. The key reason for this mistaken belief is that the US household savings ratio, the headline gauge of how much once-spendthrift Americans are saving, has soared during the crisis, from a meagre 0.4 per cent in 2005 to a startling 6.9 per cent this May.

But, as Mark Cliffe, chief economist of ING, the Dutch-owned bank, exposes in new research, this trend is very far from being all that it appears. Mr Cliffe shows that because the savings ratio is, in reality, a net measure that tots up changes in what most would regard as savings — the squirrelling away of money in shares, deposits or other assets — with changes in borrowing, it shows just the opposite of what the headline numbers have seemed to indicate.

The reason that the savings gauge has leapt is not that Americans are saving more, but only that they are paying off their past, huge borrowings because of financial distress. Americans actually cut savings in the form of financial assets held by 0.5 per cent of their incomes in the first quarter, while cutting borrowing even more aggressively, by 5 per cent of income. This telling data leads to two important conclusions.

First, it suggests that immediate US recovery prospects may be even more frail than supposed, and than Mr Bernanke is liable to admit. With Americans now battling to pay down debt against a backdrop of still-plunging house prices and soaring unemployment, while shoring up spending power with cuts in their savings, the resurgence of consumer demand on which recovery hopes are pinned may well prove elusive. The position could grow worse still once the boost to US personal incomes from the Obama Administration’s fiscal giveaway also fades, as it soon will.

Second, and critically, it is clear that America has yet to begin to address the real roots of this crisis and embark on the long road to a more sustainable economic future. Until it does so, the future will remain a hostage to fortune.