Until recently, the US was always the world’s “consumer of last resort”. Since the collapse of the Bretton Woods exchange rate system in the early-1970s and the subsequent huge increase in cross-border capital flows, the US easily absorbed more and more of the world’s surplus savings. This was particularly so in recoveries after US recessions. The US current account moved into modest deficit in the late-1970s and into much larger deficit in the 1980s. Thereafter, the deficits got even bigger, reaching a peak of almost 6 per cent of US gross domestic product before the onset of the global financial crisis.
The latest US recovery is, thus, unique. This time, the current account deficit has continued to shrink. Lots of explanations are offered, most obviously the decline in America’s dependency on imported fossil fuels thanks to the shale energy revolution. Yet, if that were true, Saudi Arabia and other oil producers should be running much smaller current account surpluses; mostly, they are not.
A more plausible explanation lies instead with the nature of the US’s own economic recovery. It has been decidedly anaemic. In a dismal shift from the US experience in earlier economic cycles, domestic demand has risen at an average annual rate since the 2007 peak of only 0.6 per cent. That compares with average annual gains of more than 3 per cent during equivalent time periods from the 1970s onwards. The gains from the 2009 trough have been similarly insipid.
Domestic demand weakness reflects a whole host of factors: last year’s sequestration courtesy of Washington; supply-side disappointment associated with abnormally low productivity growth; corporate conservatism; incredibly weak growth of real personal disposable income; and monetary stimulus that may have boosted the coffers of the low-spending wealthy but was not so helpful for the remaining 99 per cent of the income distribution.
Whatever the causes, however, it is clear that the US is not performing its traditional role as consumer of last resort. This has profound global implications. If the US current account deficit is not widening out in the usual way, it must follow that other countries are experiencing either smaller surpluses or bigger deficits. Put another way, the excess savings that used to flow into the US have gone elsewhere.
At first sight this might seem a good thing. After all, the widening of the US current account deficit in the years running up to the financial crisis was ultimately a reflection of excess inflows that drove down bond yields, encouraged a huge credit expansion, contributed to an unsustainable housing boom and, eventually, a partial meltdown of the global financial system. If excess savings are now going elsewhere, perhaps we should be cheering.
That assumes, however, that returns elsewhere are halfway decent. The evidence increasingly suggests they have not been. One offset to America’s smaller current account deficit has been a much smaller Chinese current account surplus reflecting Beijing’s attempt to boost domestic investment in response to flagging exports. Yet recent developments suggest that the marginal return on Chinese investment has plunged. Another offset has been the rapid widening of current account deficits in parts of the emerging world; again, there is scant evidence to suggest that the associated capital inflows did anything other than create an unsustainable credit boom. Now the UK finds itself in a similar position. Its current account deficit rose to more than 5 per cent of GDP in the third quarter of 2013 in only the first year of a recovery that is too heavily skewed towards housing and leverage.
Excess savings went elsewhere because the US no longer seemed to offer decent returns, a view reinforced by a Federal Reserve determined to keep monetary conditions as loose as possible. Those savings, in turn, pushed returns lower elsewhere leading in some cases to economic disappointment and financial upheaval.
We have a global savings glut but, unlike the early years of the century, those savings have no place to go. Unless the US is able to reprise its role as consumer of last resort or other nations are able to pick up the baton, we may now be facing a world of persistently low growth and much lower returns – which, given weak productivity gains, may, unfortunately, be our new economic reality. That combination, in turn, might explain why, despite the best efforts of central banks, inflation in the developed world is mostly too low, not too high.
The writer is chief global economist for HSBC Bank