Get caught leaving Hong Kong with three tins of milk powder and you may go to jail http://t.co/cUMzRXrvrK
14 minutes ago
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Updated paper on the sustainablility of US trade and current account deficits
Nouriel and I have just posted our updated analysis of US external sustainability, i.e. the United States capacity to continue to run large trade and current account deficits.
The paper is certainly long and perhaps a bit technical, though hopefully it serves as more than just a cure for insomnia. Our conclusion is fairly stark: the US cannot continue on anything like its current path, and won’t be able to continue to place enough debt abroad to be able to finance the trade and current account deficts assocaited with exporting 10-10.5% of GDP and importing 16% of GDP for long. We tried hard to document the analysis behind our conclusion clearly.
If any of you read the earlier version of the paper, we did not change much. Certainly the conclusions are the same. We did update our numbers — notably by increasing out estimate of the 2004 current account deficit to $670 billion, or 5.7% of GDP — and make our oil price assumptions explicit. But otherwise, the changes were modest — a footnote here and there, a critique of Richard Cooper’s thesis, now picked up by some at Morgan Stanley, that the US will be able to import 10% of global savings for a long time, so the current account deficit is sustainable, etc.The key points that emerge from our analysis are:
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Bush considering to a tax hike for most Americans?
Isn’t that what a revenue neutral flat tax or a national sales tax implies, particularly one that exempts investment income from any taxation? (as Cheney reportedly is pushing).
In all honesty, it is hard for me to see how a revenue neutral flat tax would be politically viable, since it would almost necessarily raise taxes on many and cut taxes for a few, or how anything other than a revenue-neutral tax reform is economically viable, since a budget busting tax cut under the guise of tax reform would drive up long-term interest rates and drive down US home prices …
Tom Franks’ book What’s Wrong with Kansas attracted my attention because, well, I am from Kansas. Born there, raised there, familty lives there and desperately hoping that a Jayhawks national title run in basketball will take my mind off U.S. politics. The core thesis of What’s Wrong With Kansas is simple: Republicans mobilize their base with cultural issues, and then deliver conservative economic policies that in Franks’ view offer little to their base.
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Will Bush economic policy pass the global test?
The dollar is falling even with strong jobs numbers. That makes sense. Jobs = consumption = trade deficits, especially since bush = no tax cuts and rising spending (spending on the war and homeland security counts in the budget, if not with parts of the right that oppose big government) = deficits. Falling national savings = larger external deficits. Yet unless Japan resumes reserve accumulation, the financing for the external deficit currently is not there. Private markets will only step in and buy dollar assets at current interest rates after the dollar falls. With current interest rates, foreigners only should buy dollars if there is an expectation of future dollar appreciation. The dollar has to fall today to create an expectation that it will rise in the future — and to cut US spending on foreign goods.
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the best recovery money can buy
One interpretation of the results of the US election is that Ray Fair’s model (am having trouble with the interface, so no link — it is available on nouriel’s web page in the elections section) was right: strong economic growth, particularly at the tail end of last year, propelled Bush Jr. to the victory that eluded his father.
Ken Rogoff memorably called the US recovery “the best recovery money can buy” a year ago. I would say it was the “best recovery (borrowed) money can buy.” By borrowing tons of money, notably from East Asia, the US was able to have guns (the spending associated with invading iraq and the war on terrorism), the republican version of butter (rising housing prices and rising consumption funded by cheap long term debt, and a better equity market that otherwise would have been possible) along with tax cuts. By drawing on $441 billion in financing from foreign governments (central banks) in 2003 and probably a comparable amount in 2004, the US was able to avoid one of the standard problems with sustained fiscal deficits, namely higher interest rates. The cost of this strategy — job losses in states exposed to foreign competition in the tradeables sector like Ohio — was not enough to overcome the cultural redness of these states, or perhaps their trust in Bush as commander in chief.
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Richard Cooper on the current account deficit
Richard Cooper has an oped in today’s FT (avaible here, subscription needed) arguing that the US current account deficit is “not only sustainable, it is perfectly logical”.
Cooper argues that a $500 billion current account deficit is sustainable indefinately. The strange thing is that if you delved int the depths of Nouriel and my analysis, we too would argue that a current account deficit of $500 billion is sustainable (so long as the economy grows, it will be a declining share of GDP, and debt sustainability hinges on the trade deficit, not the current account deficit). However, Cooper seems to think current policies will put us on a trajectory that produces constant nominal current account deficits, and thus falling current account deficits in real terms. Nouriel and I disagree with that. We think current policies will put the US on a trajectory that generates a current deficit that is growing both in nominal terms and as a share of GDP.
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David Wessel visited the Harvard economics department
Or at least talked to Summers and Rogoff, before writing his Thursday Wall Street Journal column. It is worth reading if you have access to the Journal. I agree with his bottom line: getting out of the current mess will take a bit of luck and policy action in the US, Europe, Japan and emerging Asia — and that hard work ought to start the day after the election.
Working on emerging economies taught me that there is a reason why crisis prevention is not easy — countries (and political systems) have to act before they are forced to by their creditors, in order to ward off concerns that have yet to materialize in full. That is hard. And make no mistake, the steps needed to reduce the United States trade and current account deficit won’t be all fun and games. We in the US depend on foreign savings to support the current market prices of many dollar denominated assets. Matthew Higgins and Thoman Klitgaard of the New York Fed have conducted a series of interesting calculations in a recent paper than illustrate just how dependent the US has become on foreign central banks to provide the dollar inflows needed to support current market prices for many dollar denominated financial assets. They note, using BIS data, that central banks built up $441 billion in dollar reserves in 2003, providing over 80% of the financing for the United States’ $531 billion current account (central banks in emerging Asia and Japan combined to provided 70% of the funding for the United States 2003 current account; oil exporters probably have stepped and are providing more of the overall financing this year). Private inflows, on net, provided only $90 billion of the needed financing for the current account deficit.
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Morgan Stanley: China does not rely much on export led growth
Sometimes you read something and it makes you stop, because it is at odds with your existing sense of how the world economy is working. Drossos and Kinbrough’s argument that China does not rely on a cheap currency to fuel an export-led growth model had that effect on me. They are making a comparative argument — other countries rely more on undervalued currencies and current account surpluses for growth than China. But the basic point, even upon reflection, still seems off.The hard part of their argument to swallow is this: China’s exports to the US are on track to rise by 30% this year, or by a bit less than $50 billion — the increase alone is about 3% of China’s GDP (though this will be partially offset by the imports China needs in order to export). China’s exports to the US are on track to double since 2000, rising from $100 billion to around $200 billion by the end of 2004, while overall US imports have gone up by only 20%. Nouriel and I are looking at data on exports to the US as a share of GDP, and China is among the countries that is most dependent on the U.S. market. That sure feels like export led growth.
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In the second Presidential debate …
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How Bush budget deficits ended up hurting Ohio
Ronald McKinnon has an interesting argument in yesterday’s Financial Times (based on this policy brief), namely that manufacturing workers are paying for low US private savings and large US budget deficits. The counterpart to low savings is a large trade deficit, as the US depeneds on foreigners to save some of the money earn selling to the United States, and then to lend it back to the US. We have outsourced savings. McKinnon believes the solution is a smaller US budget deficit; Nouriel and I think you also need some exchange rate adjustment. But McKinnon’s basic argument is right — manufacturing employment would be much higher if the US was not so dependent on foreign savings (McKinnon suggests manufacturing employment would rise from 10.5% of the labor force to 13.9%, a change worth 4.7m jobs).
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The IMF staff report on Iraq is a goldmine
I don’t expect many journalists will delve into it, but the IMF staff report on Iraq is a fountain of information. My favorite number: in 2004, the amount Iraq will spend importing (yes, importing) refined petroleum ($2.1 billion) will exceed the amount Iraq received in grant aid from the world (tranfers are projected at $2.05 billion). The refined gasoline that Iraq imports is then basically given away inside Iraq (the going price apparently is 1.7 cents a litre, which I think works out to less than 10 cents a gallon, though my metric conversion skills are a bit rusty) along with some gasoline Iraq refines itself, at a fiscal cost of $7 billion (or 30% of GDP, that is the IMF’s estimate of the cost of Iraq’s subsidy for domestic oil). Iraqis then take some of this cheap gasoline, put it on trucks, and ship it back across the border where it is sold at a profit, providing income and jobs for Iraqis (Iraq consumes an amazing amount of petroleum domestically for a $21 billion economy … ). The free market in action!
