The IMF’s forecast for the global current account
Slower US growth doesn’t even imply slower global growth.
Not with China growing even more rapidly than in the past, helping commodity exporting emerging economies in the process.
Not with Europe doing well. Two years ago the conventional wisdom was either that Germany hadn’t reformed enough or that it had adopted the wrong kind of reforms, so it couldn’t grow. Now the conventional wisdom seems to be that it did enough to lay the basis for sustained growth …
Why then should the IMF worry?
While the world’s imbalances are large, they aren’t expected to get bigger. Look at the following chart, which is based on the forecast in the IMF’s World Economic Outlook.
Several things in this chart — which shows the deficits and surpluses of several major parts of the world economy relative to world GDP — jump out at me.
One is that the surplus in the world’s oil exporting economies (I summed up the surpluses of Africa, the Middle East, Russia and Central Asia, Norway and Venezuela) is now as large, relative to world GDP, as it was in 1980, after the second oil shock.
Another is that Asia’s surplus rose even in the face of the most recent surge in oil prices. Back in the 1980, Asia ran a deficit. Now its surplus is at record levels.
That is the unusual feature of today’s world economy – the oil exporters and one oil-importing region are running record surpluses simultaneously.
What does the IMF expect to happen in 2007 and 2008?
US growth will slow relative to world growth. That will lead the US external deficit to shrink slightly as a share of world GDP (it stays about the same size in nominal terms).
Asia’s surplus remains about the same.
The improvement in the US deficit is balanced by a fall in the surplus of the oil exporting economies, and by a rise in the EU’s deficit.
That is a plausible forecast. But I am not totally convinced.
Some the data from the first quarter doesn’t fit perfectly with the forecast.
But first, there is one point that I am pretty sure the IMF has right: barring a big surge in oil prices, the oil exporters’ surplus should fall. Import growth really picked up in the oil exporting economies in 2006, and that looks to continue in 2007. Stable oil prices and rising consumption = a smaller surplus.
Asia’s surplus, though, looks to be increasing – not stable. China’s surplus is certainly still growing. Japan’s surplus isn’t shrinking either. I don’t think the rest of Asia will be able to offset a $80-100b increase in China’s surplus. 30% export growth off a $1 trillion base puts up impressive numbers.
And what of Europe? Well, the eurozone isn’t the same as the EU. But the eurozone’s deficit shrank significantly in the fourth quarter of 2006. The rolling 12 month current account is now roughly in balance (chart here). There isn’t much data for q1. But judging from the q4 data, the eurozone’s deficit looks to be disappearing – not expanding.
The eurozone’s oil import bill certainly fell in q1 (oil fell more in euro terms than in dollar terms … ). And I suspect the eurozone is selling a lot of goods to the oil exporting economies.
That may offset rising European imports of Asian – and even American — goods. At least for a while. Eric Chaney certainly seems concerned about the future impact of the Euro’s current strength.
Chaney gets to the nub of the issue. While dollar weakness makes some sense (look at the chart above), the weakness of Asian currencies doesn’t (again, look at the chart). It generally isn’t a market outcome either.
“For euro area policy makers, the catch is that they have already implicitly acknowledged that a weaker US dollar makes sense, in order to reduce the US current account deficit that they have identified as a threat for financial stability and, ultimately, global prosperity. However, since a weak US dollar implies a weak Japanese yen and a weak Chinese yuan, the euro and closely related currencies, such as the British pound or the Swiss franc, are getting excessively strong, by default. President Trichet noted with exquisite diplomacy that the “IMF should distinguish between market-driven exchange rates and policy-driven rates”. Not being constrained by diplomatic etiquette, I would express the same idea more directly: current exchange rates do not reflect economic fundamentals because of political actions interfering with market forces.”
If “decoupling” of US and European growth means not just a weaker dollar but a weaker yuan, decoupling may not lead to external rebalancing.
The world’s current account surpluses and its deficits have to add up, as they offset each other. If Asia is set to run a larger surplus and Europe a smaller deficit than the IMF forecast, something else has to change. The oil surplus has to fall more than the IMF forecast – or the US deficit has to be bigger.
And that, to me, isn’t entirely implausible.
If the US shakes off the housing slump on the back of still solid consumer spending and US growth picks up toward the end of the year – as many expect – the US deficit may not shrink quite as much as the IMF assumes. Strong consumption growth suggest rising imports (and falling household savings). And there are some worrying signs that the pace of US export growth is slowing. Throw in a rising income deficit, and the US deficit might not fall.
The fall in the oil surplus may result in a further rise in Asia’s surplus – not a fall in the US deficit. That at least is my worry.
And who will finance that deficit? The IMF’s data doesn’t leave much doubt there. Central banks and oil funds (probably more central banks and less oil funds). The following chart really doesn’t need any words.
19 Responses to “The IMF’s forecast for the global current account”
The oil surplus has to fall more than the IMF forecast – or the US deficit has to be bigger. Yes.
(“And there are some worrying signs that the pace of US export growth is slowing”… but the dollar slide is already curing this trend)
“Throw in a rising income deficit, and the US deficit might not fall”. True. But what worries you?
the last 3 months over the preceding 3 months growth rate in US exports (q/q annualized, but using a rolling 3m data set) shows a quite sharp slowdown in US exports. if the US consumer continues to drive the US economy, that should drive up imports over time. oil prices don’t look set to be much lower than in 06. and i expect a quite sharp deterioration in the us income balance.
the dollar’s fall will help, though it will take some time — but i am not sure the dollar is falling where it needs to fall the most, and i am not sure it will drive a big enough increase in us exports to offset the large shift in the income balance i expect over the next two years.
I consequently worry that when conditions are basically right for a real improvement in the US deficit (us growth has slowed v world growth, the $ is weak against some currencies) there will turn out to be very little improvement/ maybe some deterioration.
moreover, The dollar’s slide seems to be doing more to push up Chinese exports than US exports!
And “I am not sure the dollar is falling where it needs to fall the most” is certainly an understatement.
So what will happen? (If my “June scenario” of a robust depreciation of Asian currencies turns out to be wrong) we are heading towards what a US CuA deficit/USGDP almost stable (or slightly growing: +0.4%) in 2007, with Europe and/or oil exporters balancing (taking) the growing Asian surplus.
I don’t see large global threats in this scenario, where the dollar REER continues to fall. (Hedge funds crisis is a micro problem that is always present, independently of global imbalances).
Global imbalances can damage the world economy through I think 3 channels:
1) A solvency crisis of large debtors. But side from the US housing bust, we have “still no unsolvent debtor in sight”.
2) Internal macro imbalances in some countries caused by the external sector. Ok, here China has definitely a problem; but not us. I am not Chinese. (Thanks for the subsidy!)
3) A sudden rise in (world, dollar) interest rates causing a recession. But the alarms in this direction, have proven wrong, and the dollar REER is depreciating, which is a cushion against abrupt future movements (Why? If you fly too high, your fall may cause a big hole, but if you already fly low your fall will not hurt much). So no problem here too.
My two conclusions:
A) If we connect NR and BWS views, the 2007 projected massive financing of the US CuA deficit, while the US has a serious housing problem, is very positive for US growth thus for global growth. Substantial US “non cyclical US CuA” adjustments are better postponed to 2008-10 —
B) I see some positive in these global imbalances. If everyone were even I would be worried. Old JP needs to save. Young US needs to invest. Oil exporters need to save their future, since oil is an exhaustible resource. (In the past the problem was that they adjusted spending too fast, not too slowly, to high oil prices, and were left with debts. They are trying not to repeat that mistake), Unstable third world economies need strong economic governance to cope with all their mkt failures. Don’t you think there’s some merit in current global imbalances?
But are we storing troubles for the future? You seldom discuss the crucial answer to this crucial point, that is US debt sustainability. And when you discuss it you seem to do it at current exrates. So you wrote that current trends imply that the US foreigh debt/GDP ratio would stabilise at (if I remember well) around 100%, which is a lot, etc.. However, a better exercise would be to estimate what happens at the US debt ratio if exrates follow the trajectory implied by UIP (except pegged currencies, if you want to do a short term exercise). Then, it seems to me, the US projected situation (given also the special $ global status) is rather manageable. True, projected US debt/export ratios are not nice, but the US is a flexible economy not a third world commodity dependent economy. All in all, global imbalances (they boil down to the US CuA deficit) do not seem to be a big threat right now…
Regards & have a nice w.e.
From the New York Times, Larry Summers is free to speak his mind and tell the truth since he is no longer constrained by political correctness in the Washington Consensus.
Larry Summers has been sharply critical of current American fiscal policy and the trade deficit. In March last year, Summers warned the Reserve Bank of India of the United States’ “unsustainable and dangerous” current-account deficit. Instead of the financial games played by Wall Street which mostly enrich investment banking insiders, Larry writes about “productive investment” that might actually make the US Economy more competitive in the global economy.
Perhaps it is too much to ask for, but will we ever hear the truth coming from the mouth of Robert Rubin. Oh I forgot, the Democratic party in under the control of the Wall Street special interest lobby led by Robert Rubin. And with Hank Paulson at the US Treasury, the Wall Street lobby has the entire US government under its direct control at the expense of the general public. The financial fiascos at Enron, Worldcom, Fannie Mae are nothing compared to the “weapon of mass destruction” from unregulated financial derivatives where everyone somehow seems to be making a huge profit, and no one ever loses a penny.
Gheorghius – To your 3 channels for potential damage, I would add a 4th; political backlash. Pressures are building in the US for protectionist measures, and it looks as if these pressures are becoming increasingly difficult to resist.
CORRECTION – Sorry, my “June scenario” is that of a robust Asian appreciation.
Estragon – yes, true. But the US has a depreciating currency so what Europeans should say? And Europeans have no foreign debts nor substantial CuA deficit so … I wonder if this was evera problem, and always will be?! But I am concerned too by the WTO stall.
from the latest Grant’s IRO…
“By stifling the monetary impact of foreign exchange intervention, sterilization allows a central bank to influence the real exchange
rate.11 The practice of preventing upward real exchange rate adjustment, made feasible through sterilization, can be harmful by distorting the price signal for resource allocation. It can lead to overinvestment in
tradable sectors at the expense of non-tradables. Expectations of eventual adjustment can attract speculative capital inflows and hence asset bubbles…”
DC — I really think Rubin’s recent views are pretty congruent with those of Dr. Summers. Robert Rubin has consistently expressed concern about the size of the US current account deficit and the size of US deficits. Look at his inteview with William Greider of the nation, or listen to his interview with charlie rose a few months back. reading between the lines, I think it is safe to say that Robert Rubin is very, very worried about the size of the US current account deficit — but he also is somewhat cautious about expressing his concerns.
If you are right about Rubin being worried, it is a shame that he does not say so unequivocally. I think this is a problem in economic policy. The figures involved seem to be so guarded that they do not take advantage of their access to the public to spell out forcefully what could go wrong.
This may be particularly important at the moment, when high asset prices seem to be so pervasive. How much better for someone like Rubin to warn people taking out sub-prime mortgages of the risks to themselves, rather than to raise interest rates. In other words, better to shift preferences rather than prices. Public figures give strong warnings about smoking or drink-driving, so why not about risky financial behaviour? They seem to be scared of being seen to be wrong or being loathed by losers if prices do fall, so all we get is weasel words like “how do we know when irrational exuberance has unduly escalated asset values?”.
Rebel Economist: Subprime is a different issue. I don’t know Rubin’s views on that issue.
On the current account deficit, though, he has been quite clear actually — he just (wisely) hasn’t attached a precise time frame to his worries.
Last February (06) Rubin was quoted as saying:
“At some point, these kinds of deficits are not viable,” Rubin said. “The probabilities are extremely high that if we don’t address these imbalances, then at some point, and it could be years down the road, we’ll pay a very big price.”
and the title of his 2004 paper with orzag and sinai is pretty clear:
Rubin has been quite explicit (by his standards) about his concerns. In some ways i have a similar problem: both Rubin (in a high profile way) and setser (on this blog and in a 04 paper with roubini) started to worry about external deficits too soon, and warnings of problems that don’t materialize within a certain time frame start to lose credibility.
Rubin also gets tied up in knots over how to reconcile his view of the dollar’s likely trajectory (down) with the “strong dollar policy” — there was a 2006 leonhardt column about Rubin’s lack of skill as an fx trader in 2005 … and his interview with charlie rose is quite interesting on this point. rubin clearly thinks $ depreciation is will necessary to reduce the trade deficit, but he thinks that this is still consistent with a strong dollar policy — as the US would actively take policy steps to encourage the dollar’s fall, and indeed, in his view, should take policy steps (i.e. reduce the fiscal deficit) that would, all other things be equal, help reduce the external deficit in the absence of dollar depreciation. but it was pretty clear that Charlie Rose wasn’t convinced, and that Rubin’s very nuanced strong dollar policy (as strong as possible, given the circumstances, no active measures to encourage its fall) wasn’t quite Rose’s view of a strong dollar policy.
Perhaps you could help me with my migraine headache problem arising from too much political spin. Treasury Secretary Henry Paulson said on Friday he is “a big believer in a strong dollar”, but also reiterated that greenback needs to be devalued more against the China’s yuan currency. With similar analogy logic, I will inform the police officer that it is possible to be “sober and drunk” simultaneously while driving down the highway with a beer keg displayed in the backseat. Sorry Hank Paulson, it is simply not possible to have a double-standard currency policy with the greenback weak versus the Chinese yuan but strong versus every other major currency under the US Dollar hegemony regime.
Economic imperialism in the age of industrial capitalism provided employment at the core to produce exports to the colonies to earn gold for the home economy. Neo-imperialism in the age of Wall Street finance capitalism relocates jobs to the periphery and imports products manufactured by low-wage labor paid for with fiat currency by the Federal Reserve, the surplus of which can only be reinvestment in the issuing economy. Dollar hegemony emerged as the dollar, a fiat currency since 1971 when President Nixon took it off gold, continues to assume to role of prime reserve currency for international trade, anchored by transactions in key commodities especially oil being denominated in only US dollars. US neo-imperialism is intermediated financially by dollar hegemony.
If I may add a view, I would say that the worries of Rubin and of BWSetser seem to me quite different. A statement such as:
“The probabilities are extremely high that if we don’t address these imbalances, then at some point, and it could be years down the road, we’ll pay a very big price.” (Rubin)
seems to me very different from the view (that I consider BWS’s view, am I right? Or this is just your old view?) that the sistemic danger for the world economy is now in 2007-08.
Rubin’s satement would be even obvious for any country with a -7% CuA/GDP. Although it is not obvious in the case of a reserve currency country such as the US, since most economists (most of us) easily agree.
But Rubin and Summers are policymakers in their head, and they know that policies take time to be popularised, designed, and implemented. So they warn now about something ahead, so as to cause a change in US policies. I think that’s fair, and it’s not an overestimation of the situation.
Once you start enumerating the dangers caused by the US CuA deficit one by one, you dig into the issues and you find that there is time, time, time, and that global financial mkts are broad and deep. If you look at current macro trends (exrates) without unduly linearizing them, you see that correcting mechanisms are working, although not as those that worry too soon would like them to work!
Maybe I can catch you before you go to Church!
To reinforce the point I made about plain speaking, I do not think that those of us who like to think we understand what is going on should give an easy ride to the policymakers who wait for popularity to build. Economics is supposed to be a science (albeit an inefficient one, the way academics work), and we should advise action according to way we think things are, rather than the way people would like them to be.
I also think that gradual adjustment is not always appropriate, especially when it comes to asset prices. Assuming that “correct” prices are economically most efficient, you want people who refuse to pay incorrect ones to be vindicated. Those people tend to be despised as timid or party-poopers, and it is easy to overlook their interests. I am not talking about morality here (“the meek shall inherit the sub-prime foreclosure”) although the conclusion might be the same. It is that they represent a stabilising influence that is worth preserving. And, looking at Japan, a gradual deflation of the bubble does not seem to have done the trick (there was a letter about this in Monday’s FT).
I write this partly because I have just listened to World Business Review on the BBC World Service, and sensed a consensus that central banks should avoid a sharp correction.
I do think some correction mechanisms are in play — the weaker dollar for one, and its impact on US exports. Though right now the weaker rMB’s impact on Chinese exports seems stronger; there isn’t yet a correction mechanism for China’s surplus “in play.”
Higher oil spending is part of the mechanisms for adjustment that is also “in play”; lower oil prices no longer seem to be in “play”
but there are also some headwinds to any correction — low US borrowing rates have kept down the US interest bill, and i do think net interest payments from the US to the world will rise by $150-200b over the next two years, both from the ongoing deficit and from the impact of int. rates on $10 trillion in debt rising from a bit over 4 to somewhere around 5. a 1% shift = $100b.
I don’t think my time frame is all that different from Rubin’s, though I am a bit more forthright. At some point in the relatively near future (next several years), the US trade deficit needs to begin a sustained fall — that hasn’t yet happened. the non-oil balance stabilized when us growth slowed and world growth picked up; ideally it would have fallen. and i currently am worried that the us trade deficit is poised not to fall more but rather to stabilize or rise (if us export growth rebounds my concerns will fade).
I have been more explicit in laying out the risks back in 04-05 — but i also have noted that i (with roubini) underestimated the willingness and ability of china to continue to add to its reserves, and that any forecast that the current system will crack now needs to explain why china will crack.
so in a sense i have tried to back off some of the statements from early 05 — some things that I expected (china wouldn’t be able to sterilize, inflation woudl pick up) haven’t materialized.
at the same time, after a period when i was less worried, i am now getting more worried — the scale of global resreves growth (i.e. central bank financing to the uS) seems to have picked up enormously over the last few quarters, and private investors seem to have lost their (limited) willingness to finance the US (the world is doing better than the US, so why invest in the US?) even as the US still needs a $900b net inflow. This consequently strikes me as a dicey period.
the available data from april suggests that capital flowed strongly into the emerging world, not into the US — Brazil and Russia both reported strong reserve growth. the only way that pattern of capital flows is consistent with financing the us deficit is if brazil and russia continue to intervene massively — both intervened on a Chinese scale in april.
if you have total confident central banks are willing to finance the us, no worries. but if you worry that the scale of financing is now truely “unimaginably larger” then i do think there is a case for worrying more — not less — now. the scale of reserve growth needed to sustain the current system looks to have gotten a lot bigger after say sept. of last year.
A good general rule of thumb is that bad economic policies tend to be self-reinforcing. They are feedback loops. The worse the problem gets, the more pain is produced by any attempt to escape it.
So evidence of recent acceleration is unlikely to be evidence of impending resolution.
The BW2 governments could be financing the US (that is, buying dollar bonds) because (a) they believe in America and think that American securities are good investments, (b) they are satellites of the American Empire and are paying it tribute, or (c) for domestic reasons that have nothing much to do with America.
In the spirit of the infamous McNaughton memo, I’d put this at 10% (b), 20% (a), and 70% (c). I suspect most readers would agree at least that (c) is the lion’s share.
The BW2ers are buying dollar assets because they have a lot of dollars and don’t want to keep them under the mattress. They have a lot of dollars because they are printing their own currencies and trading them for dollars. They are printing their own currencies and trading them for dollars to maintain their dollar pegs. They maintain dollar pegs because they have mercantilist political alliances to export industries, and the dollar is the currency of most international trade.
In other words, the BW2 countries are running expansionary monetary policies. We know from Austrian business cycle theory that expansionary monetary policy is addictive, ie, a feedback loop. Specifically, it implies a negative dilution-adjusted interest rate, which drive savings out of the monetary system and into capital goods, lowering the rate of return on capital and creating overinvestment in nonmonetary assets – factories, buildings, etc.
(This has recently been rediscovered in the form of the “asset shortage hypothesis”. I’m not sure how anyone whose business card mentions the word “economist” can use the word “shortage” with a straight face, but obviously I don’t work at Morgan Stanley.)
To put this in more concrete terms, the result is that the profitability of many of the enterprises whose shares are currently soaring in Shanghai is extremely marginal. This gives them more, not less, motivation to use whatever guanxi they may have to resist any appreciation of the RMB. China is depending on these very same enterprises to keep a few hundred million ex-peasants busy during the day so they don’t start the next Taiping Rebellion. If solving this problem requires giving everyone in the US a free widescreen HDTV, that’s just what’s going to have to happen, global monetary sanity be damned.
“Diversifying” out of dollars and into nonmonetary assets, while maintaining the pegs, does not solve the problem and in fact makes it worse. It does not reduce the number of dollars that need to be purchased. Its net global result is just to create additional demand for nonmonetary assets. The Fed could do this itself by printing dollars and using them to buy stocks, etc.
“Diversifying” out of dollars and into euros also does not reduce the number of dollars that need to be purchased. And it creates mercantilist political incentives in Europe to effectively join BW2. (Dilute, dilute, OK!) Especially since the European political system is weak, and internal centrifugal tendencies within the euro remain nontrivial. Perhaps Germany can handle a two-dollar euro, but can Italy?
In the context of this inexorable political trap, “inflation” in the Fisherine price-index sense is best defined as a communications tool, which responsible central-bank civil servants worldwide can use to rally public support for efforts to escape the gigantic and horrible whirlpool into which their financial system is sinking. Unfortunately, since price indexes are inherently subjective, they and all statistics that depend on them can be ganked easily and more or less silently, especially by low-transparency governments such as the PRC.
By “outsourcing inflation” – along with most of its productive economy – to the BW2 nations, the US has produced a long period of apparent prosperity. In exchange it has merely scribbled its Hancock on a few scraps of paper and handed them to a tall, dark stranger. Readers wishing to know the ending may consult Faust, Part Two – whose value as a monetary treatise is remarkably unrecognized. (The folks at Barrick, for example, might wish they’d taken a tip from Goethe on the wisdom of exchanging present money for future mineral production.)
BWS: I still agree with your last reply (a clear, balanced exposition of what is going on). But I was trying to take you a bit further.
We all know that current trends are unsustainable. We all know that the current system is doomed. I myself have been explicit recently, in forecasting a collapse (or significant correction) of the Chinese $ peg in June 2007 (or in 2007 anyway).
The issue is: “why worry”!? Why the end of BWII, the end of the US CuA deficit, the US$ depreciation, the shift to a “new system” should be worrisome!?
Now, I AM aware of some risks. But unless we discuss them we cannot evaluate how threatening they are: we will keep hinting at some vague imminent financial tragedies, and abuse adjectives (such as “massive”, “unsustainable”, “unimaginable”, etc.)
As for automatic corrective mechanisms, you think they are slow. I suggested we should not linearize current trends. Some movements are non-linear, exrates in particular. For ex., you don’t announce the break of a peg: you do it. What is reassuring is that (a) forex markets are willing to reduce the US deficit even if China kekeps its peg (b) China is already feeling the pain of too much liquidity, and this is causing political debate over the peg: like in a textbook! So just wait and see.
I don’t think Rubin and Summers are waiting for popularity to build, I think they’re trying to prepare others that, at the right time, IF imbalances grow dangerous, then we’ll have to have clear and shared ideas about what to do.
I also don’t think asset prices are crazy right now. My ideas, I laid out in July, early August and Sept 2006 in NR’s blog:
- I argued against NR’s “sucker rally” theory, that the Dow (then at 11400) would rise above 12500 by the year end. I also forecasted that it would stay above/ around 12500 at least in 2007:1, thus offsetting part of the housing bust negative wealth effect on US consumption. (I suggested an “almost soft” landing scenario: one quarter of almost zero growth only)
- I forecasted a significant decline of oil prices in 2007 (more if the US and world economy would slow), arguing that – at this stage of the oil cycle – oil is a powerful stabiliser of the world economy.
- I argued with BWS that oil producers’ spending would rise rather fast.
- In October and early November in this blog I forecasted the imminent start of a 10% $/Euro slide.
All these trends are still going on! They support asset prices in the US. You may disagree on asset prices, but define them “crazy” seems too much to me. (Unless you refer to thin spreads: I agree they are too narrow).
Italy has not a large trade deficit, and its growth rate is accelerating, so Italy can well handle a strong Euro better than others (Spain, etc.) in Europe. Unemployment is falling so EU consumers feel only the benefits of a strong Euro. But a $/Euro at 2 is not needed for US adjustment: according to some of my own calculations, the dollar may overshoot up to around 1,6 in some (worst case) scenarios, not further.
I stand corrected on Italy – I should be more careful with my stereotypes.
But adjustment is one thing – joining the US as a reserve currency in BW2 is another…
I agree with about 95% of your comment – the 5% is that I think that investing in real assets would be better for China, as it would give them some protection against inflationary repudiation by the US.
I liked some of the links. The Morgan Stanley argument about not enough financial assets sounds ridiculous to me – more aimed at attracting attention than any serious analysis. If the main shortage is in sovereign debt, then surely spreads ought to be historically wide, not narrow. And interesting to see a website dedicated to the tricks played in the calcuation of economic statistics.