12.8.12

Five years on the Great Recession is turning into a life sentence

Ambrose Evans Pritchard, The Telegraph, 12/08/2012:
"... why did the credit bubble happen in the first place? You could argue that it is merely the flip-side of too much saving. The world savings rate has crept up to a modern-era high of 24pc of GDP. That is the most important single piece of information you need to know to understand the great economic drama we are living through. There is nowhere for this money to go. The funds flood into investment -- now a world record 49pc of GDP in China -- or into asset bubbles. So my candidate for chief cause is Asia’s `Savings Glut’, and indeed whole the structure of East-West trade under globalisation. The emerging powers built up $10 trillion of foreign reserves -- ie bonds -- in a decade. They flooded the global bond market. That is why spreads on 10-year Greek debt fell to a wafer-thin 26 basis points over Bunds in the bubble. They also flooded Western markets with cheap goods, driving down goods inflation. Western central banks -- in thrall to inflation-targeting -- cut short-term interest rates ever lower. They set the price of credit too low, forcing pension funds and insurers to hunt frantically for yield to match their books. The central banks compounded the effect. Western multinationals played their part in this saga. They drove up the profit share of GDP to historic highs, playing off wage rates in the US and Europe against cheaper labour in China, Latin America, or Eastern Europe. That too concentrated wealth among those who tend to buy shares, land, and Impressionist paintings, rather than goods. The GINI coefficient of income inequality went through the roof, as it did in the late 1920s. It is a formula for asset bubbles. The credit bubble disguised the exorbitant imbalances in trade, capital flows, and incomes. The game could continue only as long as the West in general -- and the Anglosphere and Club Med in particular -- were willing to run ruinous current account deficits, borrowing themselves into dire trouble. As soon as the debtors hit the brakes and slashed spending, the underlying reality was exposed. There is too much saving and too little consumption in the world to keep growth, and people in jobs. It is the 1930s disease. On this the Keynesians are right. None of this would have been any different if banks had been saints. The forces at work are tidal in power. So this is where we are in the summer of 2012. The imbalances are slowly correcting. Wage inflation has eroded Asia’s competitiveness. China’s current account surplus has dropped from 10pc of GDP in 2007 to around 2.5pc this year. Yet Europe refused to adjust. Germany is still running a surplus of 5.2pc, down from 7.4pc in 2007. The North has refused to offset the demand squeeze in Club Med. Indeed, Germany legislated its own internal squeeze through a balanced budget law and imposed this curse on the rest of Euroland. The effect is to trap Euroland in chronic slump, at least until the victims rebel and take matters into their own hands. As for our debt mountain, we have barely begun the great purge. Michala Marcussen from Societe Generale says the healthy level is around 200pc of GDP for advanced economies. If so, we have 100 points to cut. This cannot be achieved by austerity alone because economic contraction would tip us all into a Grecian vortex. Such a cure is self-defeating. Much of the debt will have to be written off. Whether this done by inflation (1945-1952) or default (1930-1934) will be the great political battle of this decade. Pick your side. Pick your history."

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