The Savings Glut. Controversy Guaranteed.

Few topics are quite as polarizing as the “savings glut.” The very term is often considered an attempt to shift responsibility for the current crisis away from the United States.

That is unfortunate. It is quite possible to believe that the buildup of vulnerabilities that led to the current crisis was a product both of a rise in savings in key emerging markets, a rise that — with more than a bit of help from emerging market governments — produced an unnatural uphill flow of capital from the emerging world to the advanced economies, and policy failures in the U.S. and Europe.

The savings glut argument was initially put forward to suggest that the United States’ external deficit was a natural response to a rise in savings in the emerging world – and thus to defuse concern about the sustainability of the United States’ large external deficit. But it was equally possible to conclude that the rise in savings in the emerging world reflected policy choices* in the emerging world that helped to maintain an uphill flow of capital – and thus that it wasn’t a natural result of fast growth in the emerging world. This, for example, is the perspective that Martin Wolf takes in his book Fixing Global Finance. Wolf consequently believed that borrowers and lenders alike needed to shift toward a more balanced system even before the current crisis.

From this point of view, the savings glut in the emerging world — as there never was much of a global glut, only a glut in some parts of the world — was in large part a result of product of policies that emerging market economies put in place when the global economy — clearly spurred by monetary and fiscal stimulus in the US — started to recover from the 2000-01 recession. China adopted policies that increased Chinese savings and restrained investment to try to keep the renminbi’s large real depreciation after 2002 – a depreciation that reflected the dollar’s depreciation – from leading to an unwanted rise in inflation. The governments of the oil-exporting economies opted to save most oil windfall – at least initially. Those policies intersected with distorted incentives in the US and European financial sector – the incentives that made private banks and shadow banks willing to take on the risk of lending to ever-more indebted households (a risk that most emerging market central banks didn’t want to take) to lay the foundation for trouble.

On one point, though, there really shouldn’t be much doubt: savings rates rose substantially in the emerging world from 2002 to 2007. Consider the following chart – which shows savings and investment in emerging Asia (developing Asia and the Asian NIEs) and the oil exporters (the Middle East and the Commonwealth of independent states) scaled to world GDP.

savings-glut-weo-09-6-1-redone.png

Investment in both regions was way up. But savings was up even more.

It is unusual for Asia and the oil exporters to show large surpluses at the same time. In 98 the fall in oil prices helped Asia and hurt the oil exporters; in 2000 the rise in oil prices helped the oil exporters and hurt Asia. And way back in 1980, Asia ran a deficit that helped offset the oil exporters’ surplus.

savings-glut-weo-09-2.png

The main reason for the rise in emerging Asia’s savings is simple: China’s GDP rose relative to world GDP, and China’s savings rate rose relative to China’s GDP

china-saving-and-investment.png

The chart is from Stephen Green of StanChart; used with permission

The result was a very large increase in the aggregate savings of the emerging world – especially after 2003. The rise in the combined surplus of Asia and the oil exporters that followed the Asian crisis was around 0.5% of world GDP. The post 2003 “China boom” pushed the combined savings rate of the oil exporters and emerging Asia up another 1% of world GDP.

All my data, incidentally, comes straight from the IMF’s WEO data tables. All I did was to multiply the data on savings rates by regional GDPs and then scale the resulting dollar figure to world GDP in dollars.

That disaggregated data is almost as striking.

It shows, for one, that the “investment drought” argument applies far more to the Asian NIEs (Korea, Taiwan, Singapore, Hong Kong) than to the rest of Asia. Investment in some countries may not have recovered from the 1998 crisis, but the overall data is dominated by the huge rise investment in developing Asia (read China). Plotting the rise in billions of dollars – rather than as a share of global GDP – makes the scale of the rise in investment in developing Asia over the past few years clear.

savings-glut-weo-09-51.png

Savings and investment in India both rose. And China went from a $1 trillion economy investing 30 to 35% of its GDP to a $4 trillion plus economy investing close over 40% of its GDP …

It is also striking that investment in the Middle East was essentially stagnant, in dollar terms, from say 1980 on. That meant that is was falling as a share of world GDP – and certainly falling relative to the Middle East’s population. Comparisons with the “boom” level of 1980 is a bit unfair, but it still isn’t hard to see why the region stagnated when oil prices stagnated.

And it also isn’t hard to see why the region boomed when oil prices soared, as the rise in oil revenue financed a boom in investment. The scale of that boom – in dollar terms – is rather impressive.

savings-glut-weo-09-4.png

The net result: the global economy prior to the crisis was characterized both by high levels of both savings and investment in Asia and the oil exporters and by high levels of consumption and low levels of savings in the US.

In a global economy, a rise in savings relative to investment in one part of the world necessarily implies a fall in savings relative to investment in the rest of the world; sorting out why key macroeconomic variables change is always difficult.

Maybe this equilibrium was a function of excessive demand stimulus by the advanced economies in the aftermath of the last recession – and lax financial regulation that allowed households to over-borrow. High US and European demand allowed the emerging world to save more. Maybe it was a function of policies in the emerging economies, policies sometimes put in place to support undervalued exchange rates. That would explain why the growing US savings deficit didn’t put upward pressure on global interest rates and why the rise in the US external deficit didn’t lead to a rise in US real interest rates — something would have short-circuited the housing boom. Probably it was a mix of both. Emerging market savers (really their governments, as private savers weren’t exactly seeking out depreciating dollars) helped to provide Wall Street and the City the rope they (almost) used to hang themselves.

No matter. We don’t need to assign responsibility for the imbalances that marked the pre-crisis global economy to know that the chain of risk-taking that allowed emerging market savers to finance heavy borrowing by US households didn’t result in a stable system.

* Policies that increased savings in China include a tight fiscal policy and the reforms that increased the profitability of the SOEs, creating a new source of business savings. No comparable reform was put in place to have the SOEs pay dividends (or to use the dividends to support say a social safety net), so the rise in business savings in effect freed up household savings to be lent abroad (with a lot of help from the state banks and the PBoC). Policies that reduced investment include the rise in the banks’ reserve requirement — which meant that Chinese banks had one of the lowest loan to deposit ratios in the emerging world going into the global slump — and more generally the restraints on bank lending. The governments of most oil-exporting economies also saved a large fraction of the oil windfall, especially in 2004 and 2005. Over time discipline waned a bit, but the rise in spending and investment didn’t quite keep pace with the rise in oil prices.


Originally published at the Council on Foreign Relations Blog and reproduced here with the author’s permission.

3 Responses to "The Savings Glut. Controversy Guaranteed."

  1. George Harter   July 1, 2009 at 12:50 am

    Mr. Setser,I regularly read and follow your lines of thought. The above however, is either a simple restatement of what is already acknowledged or else a presentation of the savings glut which is so sophisticated that it is totally over my head. I am not stupid.First, our departed Chief Executive lit the fuse on the housing bubble. With securitization,any garbage becomes valuable via prestidigitation-the result< I am still incredulous that people educated in economics wish to blame the peons who were served up mortgages the bank should never have granted. The banks didn’t mind, they made a killing for years along with assorted other criminals in the Bankster Class-if semiliterate Mexican brick layers had been more virtuous we would never had overconsumption, they would have turned down the proffered mortgages. GIVE ME A BREAK!!!!Housing was made to seem a fast receeding necessity, buy now OR lose outperiod. The people went for it. Why NOT???The experts guided them.[Now of course we know that nobody’s advice on finances can be trusted without thorough vetting & vetting the vettors etc.]Real wages have declined for years. For the average American chumps the actual cost of living has NOT declined. Tax burdens are higher to cover the burdens the Upper Classes can avoid with their clever accountants and lawyers and MADE TO ORDER LEGISLATION.Much of the touted OVERCONSUMPTION has been money spent on perceived necessities and of course the Bankster led housing bubble. Actually I don’t see much bitterness against Chinese savings rates, I see acknowledgment that the American public is dumb and has been suckered again, while a select few have made huge fortunes and wisely bailed-out before the s**t hit the fan.This explanation of “Overconsumption” by greedy little American peons leaves out most relevant issues and conveniently ignores the real criminals.George HarterBaghdadontheHudson, USA

  2. Guest   July 2, 2009 at 12:16 pm

    US (or western) money goes in cheap goods go out keeps inflation down money gets recycled back to US the princelings and a few regional tycoons get more wealthyseems like a good trade

  3. God of Finance   July 2, 2009 at 9:53 pm

    God of FinanceEarthlings, listen up. I am your God, stupid, not him, your God of Finance. I, as you know …hadn’d been with you as long; only 700 years since Emperor Kublai Khan started paying paper instead of silver money. Of course scoundrels immediately started to cheat with faked look-alikes but the punishment was sufficient to deter these devious beings to spoil my coming-out party, heard of Death-by-a-Thousand-Cuts.I was once almost dead, chained by these little rules that they called regulations and destroyed over half of the planet by the halfling who called himself Marx. Devilish wasn’t he; the you-know-who compensated for his you-know-what by that gigantic beard. I was then freed by that odd couple, Ron and Margaret, I thought; but it was she, I believe, said “can do business”. Sorry to say it, but it is true that I am a fickle god and there had been many upheavals, not only in the land of my origin in the Yuan empire but also in much of the new European ones like that has-been Holy Roman province of the Tulip fields, the kill-all-the-Reds British South Seas, the new-paradigm swamps of the French Mississippi, the Versailles victimized Weimar, and of course the blindly blissful 1929 New York, and the pacified, but-yet-lost-decade Tokyo, not to mention the baht kicked Bangkok.Well, admit it; you are living in one!Contrary to common belief, I do not usually strike a touch of anger unannounced. There were some unchained souls like M. Roubini, Shiller, and even this halfling Krugman; all gentlemen of immense intelligence, and almost my ego, surely would have spoiled my next party, had it not been for your, say, l’armour d’argent. Ah, the causes. It was actually quit simple despite what your weatherman tells you; I naturally live in your economy, which usually has a productive side, and a financial side. Like, some work and put food on the table, and others count it. So long as the two are balanced, the financial side supports the productive side and the productive side puts more demand on the financial side, which creates the wealth, you know, things like that shining suit on your chest, the sleek iPod in your pocket, and even that seedy establishment, you call it the mall, that you frequent.But unlike me, who is divine, you are only human. Every so often, especially with Ron and Margaret in business, you mistake the shenanigans as “Financial Innovation” – something like “efficient finance” actually produces real wealth by counting it many times. It happens like this. Production gets you feeling rich; you then juice it up by borrowing. Being low in intelligence and high on greed, you are carried away by borrowing so much, until that is, there is nowhere to borrow, only debts to repay, if you can repay at all. Your losses are also piling up at the same time.But, but, but… This time it’s different! You say, you have a New Economy. Of course you do, thanks to me; how convenient I had given these enormous gifts to you of the talented banksters. They came in all falvours, much like your candyman’s chocolate, for your pleasure of choosing: your investment banksers, your shadow banksters, your mortgage banksters, your analyst banksters, and your tanned and untanned banksters. In good time, your friendly neighbourhood bankers, if you still remember them, and your scholarly central bankers, you see, are no longer your ally; much now mine and more of his, you know, the one who is denoted 666.I always had this small column of i-banksters, but this splendid army, I have to thank your Green spinomist, and your weatherman in many a fine season. They gave me the s-banksters, and with their aid, I won over these your-smiling-uncle banksters with huge bonuses and you-know-you-don’t-understand giant pay-packages. To make it certain, I make sure they are paid each year-end so I can have my joyous party on year 5. Even your dignified officials, you know the ones you elect, are in my banksters’ pockets. How do you think they are elected? Not to mention their Italian white shoes, English hand-tailored pinstripes, and trophy blondes around the elbows.You know you cannot win, but still tempted to jump in with these NYSE TRAPs; I deliberately stir them up each quarter so you feel you have no choice. With each passing high-and-low, you feel your gut churn and churn, and I just watch on the sidelines with amusement. Just to magnify my drama, I reward your greed with higher-and-higher highs, and of course, when the end comes, I direct a tsunami on your fine behind.Like all gods, I cannot have mercy. I will have to punish you hard until you are pants down. I remember in 1929, those who feared me jumped and many a widow had been thrown on the streets. This year, there hadn’t been a lot of that, only that little puddle of French red, but still it wasn’t fun. The thing is, if you are illusory thinking you all can get ahead by counting money, instead of producing it, you will be very sorry indeed. Like this year, your economy is really lopsided; so many counting, so few producing, and all are greedy.It looks like, all over again, nothing is learned. Your weatherman, he was a bean counter, wasn’t he, is telling you that great for your taxes, you will be on it again; it is all very predictable. What is going to happen is just going to be “the same old game of the same people, intoxicated with the same old drug, pushing around the same amount of real money and each taking a same amount of little cut and then pushes it to the next stop”. After enough of that go-around, you know there won’t be any cuts left but for the one on your tummy, almost sounds familiar. Oh really, it is not even the same amount of real money, remember you will have to repay your debts. When you are sorry again these more years, don’t say I haven’t told you so.