The Continuance of the Savings Glut

With President Obama in China and the issue of the dollar-renminbi exchange rate presumably on the agenda, there has been a great deal of commentary about the threatening peril of the Chinese savings glut1. Here was Paul Krugman late in October on how the savings glut — the condition and a leading cause of the 2007-2008 financial crisis — remains unabated, continuing to propagate its distortions throughout the world economy2:

Until around 2001, you could argue that [the target value of the yuan was reasonable]: China’s overall trade position wasn’t too far out of balance. From then onward, however, the policy of keeping the yuan-dollar rate fixed came to look increasingly bizarre. First of all, the dollar slid in value, especially against the euro, so that by keeping the yuan / dollar rate fixed, Chinese officials were, in effect, devaluing their currency against everyone else’s. Meanwhile, productivity in China’s export industries soared; combined with the de facto devaluation, this made Chinese goods extremely cheap on world markets.

The result was a huge Chinese trade surplus. If supply and demand had been allowed to prevail, the value of China’s currency would have risen sharply. But Chinese authorities didn’t let it rise. They kept it down by selling vast quantities of the currency, acquiring in return an enormous hoard of foreign assets, mostly in dollars, currently worth about $2.1 trillion.

Many economists, myself included, believe that China’s asset-buying spree helped inflate the housing bubble, setting the stage for the global financial crisis. But China’s insistence on keeping the yuan / dollar rate fixed, even when the dollar declines, may be doing even more harm now.

Although there has been a lot of doomsaying about the falling dollar, that decline is actually both natural and desirable. America needs a weaker dollar to help reduce its trade deficit, and it’s getting that weaker dollar as nervous investors, who flocked into the presumed safety of U.S. debt at the peak of the crisis, have started putting their money to work elsewhere.

But China has been keeping its currency pegged to the dollar — which means that a country with a huge trade surplus and a rapidly recovering economy, a country whose currency should be rising in value, is in effect engineering a large devaluation instead.

And that’s a particularly bad thing to do at a time when the world economy remains deeply depressed due to inadequate overall demand. By pursuing a weak-currency policy, China is siphoning some of that inadequate demand away from other nations, which is hurting growth almost everywhere.

For thirty years now the prevailing grand social bargain in the United States has been that outsourcing and offshoring will be the means whereby capital will capture an increased portion of national income and the resultant consumer goods price deflation will substitute for the also resultant wage stagnation. In shorthand, this might be called the Reagan Revolution, though Reagan only brokered the deal. The conditions that gave rise to parties militating against the preceding post-war social bargain lay much deeper in the structure of the post-war international order. This social bargain is the basis of the financial problems of the U.S. as well as of the China problem.

The savings glut is not merely a problem with China, but in its Chinese component it is driven by two factors, neither of which is likely to be resolved by U.S. action. First, owing to population growth and the massive migration from rural farms to urban wage labor, China needs to create around 25 million new jobs per year. The memory of Tiananmen Square demonstrations of 1989 remains potent in the mind of Chinese Communist Party officials. It is widely believed among Chinese officials that preventing a repeat of the unrest of 1989 and hence the survival of the Party depends on the ability of the Chinese economy to provide jobs for these millions, preventing them from becoming a mass of disaffected urban unemployed. Second, the savings glut exists as a part of China’s long-term grand strategy of pursing peaceful development first and regional political realignment only once they have attained sufficient economic and military weight. For the U.S., the G-8, the IMF or whoever to ask China to abandon its policy of undervaluing the renminbi is to ask the Chinese government to commit suicide and to accept their second-tier world-political status; it is to ask them to run the highest order of political risk as an act of charity to the rest of the world. We cannot rely on China doing the U.S. any macroeconomic favors here. The only way to eliminate the macroeconomic conditions of the next financial crisis is to get our own house in order.

On the right and amidst the Lou Dobbs crowd you here these constant sidelong remarks about China holding the strings of America’s economic future. But this is not the result of some insidious plot on the part of China to acquire a financial WMD stuffed full of T-bills for deployment against the U.S. at some opportune occasion (like a WMD, to actually use it would result in mutually assured destruction). This is result of the Wal-Mart low-wage, low prices, long supply chain model of doing business (surprise: the day-to-day purchasing decisions of millions of people reach up to the commanding heights of world finance). We can try to brow-beat China to forego the opportunities of the system that we have created, but the origin of that system reaches down into what is now, under the midwifery of the right, claimed as the American way of life. And perhaps we have decided that getting off on a bad foot with the world’s next superpower is preferable to confronting our own economic culture.


  1. Dominique Strauss-Kahn, the Director of the IMF, made a speech on the subject in Beijing, The International Monetary System: Reforms to Enhance Stability and Governance, International Finance Forum, Beijing, 16 November 2009; Krugman, Paul, “World Out of Balance,” The New York Times, 16 November 2009, p. A25; Wolf, Martin, “Grim Truths Obama Should Have Told Hu,” Financial Times, 17 November 2009.

  2. Krugman, Paul, “The Chinese Disconnect,” The New York Times, 23 October 2009, p. A35

Political-Economy and Inflation

Paul Krugman devoted his column two weeks ago to the conduct of economic punditry as if the economy were a nineteenth century morality play: sermons about “debasing” the currency, longings for gold, fretting over inflation at the nadir of an economic crisis, a masochistic enthusiasm for “belt tightening” (“Misguided Monetary Mentalities,” The New York Times, 12 October 2009, p. A23). Taking off from this, Matthew Yglesias makes the point about the degree that class-parochial interests play in purportedly objective economic analysis (“The Monetary Hawks,” ThinkProgress, 12 October 2009):

… I would suggest that divergent analysis is in part driven by things that have relatively little to do with analysis. … if we have four or five years of near-zero inflation and 9-10 percent unemployment that will be fine for prosperous middle aged people and devastating to the interests of the poor and the young. Conversely, if we have four or five years of modest unemployment with four or five percent inflation, that will be fine for young people and poor people but potentially detrimental to the interests of wealthy people sitting on large piles of savings. Ultimately, I don’t think it helps the progressive cause to ignore the class / ideological elements to this dispute and just pretend to be engaging in a neutral technocratic dispute about the correct application of the Taylor Rule. What we’re talking about, after all, is decision-making under conditions of moderate uncertainty. What the hawks are proposing to do is to implement a policy that’s extremely attentive to minimizing downside risk to the currently wealthy whereas Krugman is proposing a policy that’s [attentive] to minimizing downside risk for people with below-average labor market prospects.

The problem is that we’ve adopted a manner of speaking about economic issues denuded of any mention of interest. The language of popular economics today is categorical: a strong dollar is good, a week dollar is bad; stable prices are good, inflation is bad; low unemployment is good, high unemployment is bad; rising house prices are good, stagnating or falling house prices are bad; et cetera. But none of these factors are categorically good or bad (few things in life are). What is omitted is the “for whom” of these characterizations of good and bad. Low employment may be good for job seekers, but high unemployment is good for employers: they have their pick of workers when hiring and they hold the majority of the bargaining power in wage negotiations. A strong dollar may be good for Wal Mart and their customers, but it’s bad for General Motors and their employees.

Real estate maintains some knowledge of contraposition with their talk of a buyers’ market versus a sellers’ market. We do not speak with a similar respect to the value of the dollar: of an investors’ dollar (strong) versus a producers’ dollar (weak) or an importers’ dollar (strong) versus an exporters’ dollar (weak). Or in employment, some people might think getting a raise or ease in finding a job are good, but these are what someone else might call labor price inflation (bad).

Economics isn’t free of the language of interest per se, so much as of one particular set of interests. The propaganda victory of the economic interests of Wall Street, the investing class, large business is so complete that their economic preferences have become de facto the whole language of economics. The awareness of the interests of all other economic actors has been totally expunged from the language of economics — well, not totally: there is the disciplinary ghetto referred to as heterodox economics, an exception that proves the rule.

To have asserted control over the linguistic territory is to have banished the political dispute; to have disappeared from the lexicon is to have ceded political legitimacy. Disputes over the political mixture of the interests of one economic class versus those of another are no longer about one set of economic relations versus another, but now take place in the frame of a rational economic order versus chaos, unreason and decline.

A firm separation between economics in its positivist, scientific role and economics in its normative, polemical and political role should be vigorously policed. Or perhaps economics is simply to value-laden, too embedded in the hurly-burley of human affairs for such a division to be tenable. Perhaps we should dispense with the notion of economics as a hard science in favor of a thoroughgoing political-economy. Even if we admit the possibility of a purely positivist economics, all that economics can do in our political deliberations is serve as a speculative tallyman of the opportunity costs of various policy options. The primacy of politics should come to the fore whenever economics crosses over from the academy to the public realm.

Target values for economic factors represent a political compromise between contending societal factions. The most well known of these is the NAIRU, the trade-off between inflation and unemployment codified in the statutory guidance of most of the world’s central banks. But inflation isn’t an unqualified evil. Its primary evils are that it has a tendency to run-away and, related, that it breeds uncertainty (a certain anticipatable regularity to the future is necessary to the function of capitalism). It used to be well known amidst the working (and indebted) classes that a certain amount of inflation served their interest and that “sound money” was merely the rallying cry of the investor class. The class conflict of easy versus sound money used to be a significant fault line separating progressive from conservative, populist from whig. Hence the advocacy of arch-populist William Jennings Bryan of an inflationary policy of bimetallism or “free silver” in the election of 1896.

There’s talk today about how vile it would be for the government to attempt to inflate away its debt (“debasing the currency” they call it), but the government doesn’t only inflate away its debt, it inflates away all dollar-denominated debts. A couple of years of higher than target inflation might be good for a country that has seen twenty years of galloping gains for the investor class, but racked up unsustainable amounts of debt among the middle and working classes. The investing class would scream bloody murder, but not because 3-5% inflation would be the end of economic reality as we know it, but because it would be a wealth transfer from creditor to debtor.

The Central Question Regarding Barack Obama

Paul Krugman opens Monday’s editorial asking the central question for the left about Barack Obama (“The Obama Agenda,” The New York Times, 30 June 2008):

It’s feeling a lot like 1992 right now. It’s also feeling a lot like 1980. But which parallel is closer? Is Barack Obama going to be a Ronald Reagan of the left, a president who fundamentally changes the country’s direction? Or will he be just another Bill Clinton?

Oddly enough, I found myself a supporter of Hillary Clinton in the primaries because I suspect the latter. Perhaps that was a little naive as I also suspect that Senator Clinton is fundamentally and genuinely conservative politically and personally.

No one can fight every battle and not every battle should be fought in the most direct manner. One must marshal one’s resources for the critical moment, and more times than not maneuver is superior to grabbing the bull by the horns. I presume that Senator Obama recognizes two things: first he has to get into the White House before he can do anything else and once there he will only be able to accomplish a small number of his objectives so he needs to dispense with the lesser objectives and focus on the really important ones.

For instance, voting for the FISA bill last week was, I presume, tactical. It takes that accusation off the table for the duration of the campaign. Everyone runs a stealth campaign anymore. You’ve got to avoid at all costs doing anything that could be used to provoke the middling mind of the independent voter. Once in the White House, then he will really be in a position to address the problems of the FISA program. Again, first win the election, then come the reforms. Would losing to John McCain serve the cause of FISA reform?

Presidents can only have limited power and limited time to accomplish their agenda. Senator Obama has to be eyeing that Oval Office desk and thinking Economy, Budget, Healthcare, Iraq, Afghanistan, War on Terrorism and everything else will just have to take the back seat.

At least this is the story I am feeding myself to assuage my severe doubts that this will be another eight years of cowed liberalism. Senator Obama is giving us plenty of reason to believe otherwise.

The Future Has a Lot of Factors

Via Kevin Drum (“Random Debate Thoughts (So Far),” Political Animal, Washington Monthly, 13 December 2007) a new factoid that Barack Obama is brandishing:

Reducing obesity to 1980 levels will save Medicare $1 trillion.

I’m too busy right now to go and fact-check this before passing it along, but when I considers the sheer number potentialities like this out there in the realm of possibility, I am reminded of Paul Krugman’s admonition regarding how to think about the financing of the U.S. welfare state (“Social Security Scares,” The New York Times, 5 March 2004):

By all means, let’s plan ahead. But let’s set some limits. When people issue ominous warnings about the cost of Medicare after 2077, my question is, Why should fiscal decisions today reflect the possible cost of providing generations not yet born with medical treatments not yet invented?

There is the pragmatic reason that the sooner we act, the less we have to do, but I think Mr. Krugman is right to suggest that there are just too may unknown unknowns — to borrow a Rumsfeldism — to seriously plan for 2077.

A Bipartisan Dupe

One of the reason that I love Paul Krugman so much is that he writes nary a word with which I disagree. Friday’s column (“Played for a Sucker,” The New York Times, 16 November 2007) on Barack Obama’s adoption of Republican “crisis” language regarding Social Security was exactly the sort of rhetoric I would hope for from a vigilant left.

But Mr. Obama’s Social Security mistake was, in fact, exactly what you’d expect from a candidate who promises to transcend partisanship in an age when that’s neither possible nor desirable.

I don’t believe Mr. Obama is a closet privatizer. He is, however, someone who keeps insisting that he can transcend the partisanship of our times — and in this case, that turned him into a sucker.

Mr. Obama wanted a way to distinguish himself from Hillary Clinton — and for Mr. Obama, who has said that the reason “we can’t tackle the big problems that demand solutions” is that “politics has become so bitter and partisan,” joining in the attack on Senator Clinton’s Social Security position must have seemed like a golden opportunity to sound forceful yet bipartisan.

But Social Security isn’t a big problem that demands a solution; it’s a small problem, way down the list of major issues facing America, that has nonetheless become an obsession of Beltway insiders. And on Social Security, as on many other issues, what Washington means by bipartisanship is mainly that everyone should come together to give conservatives what they want.

We all wish that American politics weren’t so bitter and partisan. But if you try to find common ground where none exists — which is the case for many issues today — you end up being played for a fool. And that’s what has just happened to Mr. Obama.

The left should absolutely not lay central New Deal programs — programs for which the opportunity to create may never come again — down on the negotiating table in exchange for some amorphous good will on the part of the right. And Mr. Obama or any other candidate should get that message in no uncertain terms.

Seven years ago, during the 2000 campaign, there was a fairly significant sub-debate about how time spent as a Senator did not do a very good job of prepare a politician for the presidency. The Senate is a collegial atmosphere and owing to the long terms of office, the staggered election cycle and the fact that states can’t be gerrymandered, it is a much more moderate environment than the rough-and-tumble ideological circus sideshow that is the House of Representatives — and really the rest of U.S. politics beyond the hallowed halls of the north wing of the Capitol building.

I would like to think that all Mr. Obama’s happy talk about bipartisanship is just political claptrap designed to appeal to moderate voters who don’t understand what all the partisan bickering is about. But it increasingly seems like real naivety. I would say that nothing in his experience to date has prepared Mr. Obama to fight the kind of partisan wars that he will have to fight to become the president and then more of the same to pass a legislative agenda. And for that reason he should be ruled out at the party’s presidential nominee.

The Disconnect

Paul Krugman makes a seemingly notable observation about the recent economic expansion (“Where’s My Trickle?,” [$ | free], The New York Times, 10 September 2007):

As far as I can tell, America has never before experienced a disconnect between overall economic performance and the fortunes of workers as complete as that of the last four years.

It is a strange fact that throughout the Twentieth Century the benefits of industrialization, productivity gain and comparative advantage have been so well spread among workers. It is also a strange fact that over perhaps the last thirty years this has so progressively ceased to be the case. One might think that some serious analytic attention could be brought to bear on this transformation, but instead it seems that more tightly squeezed shut eyes and more urgent repetition of past dogma has been the response.

Oddly enough it is the center that is most in denial here. On the far left there is Robert Brenner and others around the New Left Review and the world-systems people like Immanuel Wallerstein and on the far right (the paleoconservatives) it seems like Patrick Buchanan and the people around The American Conservative are genuinely concerned about theses issues as well. Where are the neoliberals who will squarely face the problem and propose neoliberal remedies?

And in his usual fashion, Mr. Krugman doesn’t shy from a boldly leftist position, at least of a sort:

Guaranteed health insurance, which all of the leading Democratic contenders (but none of the Republicans) are promising, would eliminate one of the reasons for this disconnect. But it should be only the start of a broader range of policies — a new New Deal — designed to turn economic growth into something more than a spectator sport.

That’s all fine and good but I hope that Mr. Krugman will devote a future column to an outline sketch of what such a policy would look like, because short of direct redistribution — with all the problems that entails — I really don’t know. But Mr. Krugman is an economist and remains at least half-beholden to the idea of economic efficiency. Perhaps some Robert Reich-like scheme of investment in labor plus grand bargain between trade liberalization and labor entailing significant deals of the same, not the pathetic job retraining micro-initiative included as a part of the NAFTA legislation. But what programs, specifically? There’s only so much job retraining the government can do.

A Broad View of What Constitutes a Bank

In today’s column Paul Krugman (“It’s a Miserable Life,” The New York Times, 20 August 2007) points out an interesting aspect of the current financial crisis:

The key to understanding what’s happening is taking a broad view of what constitutes a bank. From an economic perspective, a bank is any institution that offers people liquidity — the ability to convert their assets into cash on short notice — while still using their money to make long-term investments.

Consider the case of KKR Financial Holdings, an affiliate of Kohlberg Kravis Roberts, a powerhouse Wall Street operator. KKR Financial raises money by issuing asset-backed commercial paper — a claim that’s sort of like a short-term C.D., used by large investors to temporarily park funds — and invests most of this money in longer-term assets. So the company is acting as a kind of bank, one that offers a higher interest rate than ordinary banks pay their clients.

It sounds like a great deal — except that last week KKR Financial announced that it was seeking to delay $5 billion in repayments. That’s the equivalent of a bank closing its doors because it’s running out of cash.

The problems at KKR Financial are part of a broader picture in which many investors, spooked by the problems in the mortgage market, have been pulling their money out of institutions that use short-term borrowing to finance long-term investments. These institutions aren’t called banks, but in economic terms what’s been happening amounts to a burgeoning banking panic.

Mr. Krugman points out that while the banking industry narrowly defined is well regulated — that is, both brought under law and made more uniform and predictable — by a host of institutions — the FDIC, the Federal Reserve, various banking laws, the Basil accords, et cetera — these other bank-like institutions are not similarly covered. Hence, the Fed can modify its rates all it wants and the FDIC may offer insurance, but these don’t effect the pricing of asset backed securities or the willingness of investors to purchase commercial paper in anything like the way that they effect regular banking.

Just as the financial sector innovates, so regulation and governing institutions should innovate as well. Unfortunately the sort of consensus that produces institutions like the Federal Reserve or the FDIC come only out of major crises — not the sort at which we are currently looking. For that, the financial system will have to build up a lot more pressure.