Transcript Document

A bird’s eye view of
International Liquidity/Finance
in the Current World Economy
J.D. Han
Kings University College, UWO
1.Summary Version
Current Fundamentals of World Economy
(U.S.)
Investme
nt on High
Tech
(Asia, etc.)
Lack of
Investment
Growth
Consumption
Rises;
Privatge Savings
lags
Government Budget
Deficits rises;
Public Savings lags
Export
Promotions
National
Savings Glut
Capital Flows
ㅇ low interests
ㅇ Asians buying U.S.
finan/real Assets
9.11;
wars
Current
Account
Deficits
(offsetting)
External Liability
Position Imbalance
Current Account
Imbalance
Managed
FOREX
Current
Account
Surplus
2. Full Version
Sources of
International/Global Liquidity
 3 Major Sources of Global Liquidity
1) Accumulated Pension Funds of Developed
Countries
2) Oil Money of Oil Producing Countries
3) Trade Surplus of U.S.'s partner countries, mainly,
China (call it separately 'U.S. Trade-Dollar
Liquidity')
• The 3rd one or ‘U.S. Dollar Liquidity’ is the most
interesting as it is related to the domestic (U.S.)
economic and monetary conditions.
Regional Concentration
This is highly concentrated in terms of locality(East
Asia; particularly China).

Magnitude and Speed
It has been snow-balling nearly to the magnitude of
avalanche.

This is causing a lot of International Political Stirs.

• The U.S.-East Asia Supply
Chain explains flows of Goods
–Trade, and MoneyInternational Finance.
Current Account Trends of U.S.:
‘Ever Increasing’
100
(billion S)
(%)
1
0
0
-100
-1
-200
-2
-300
-3
-400
-4
-500
-5
-600
Current Account Balance
-6
-700
Current Accout Bal./GDP
-7
-800
-8
-900
-9
80
82
84
86
88
90
92
94
96
98
00
02
04
*There is a big decrease in CA deficits to $390 billions in 2009
due to recession.
U.S. has ‘concentrated’ Trade Deficits with
China and East Asia. (100 Million $)
1987
1997
2004
2014
-1,607
-1,409
-6,681
-7,272
EU 15
Countries
252
883
477
Japan
844
968
1,721
Asia 7
Countries1)
284
367
1,678
(China)
3
370
687
(Taiwan)
180
71
186
(Korean)
101
-84
276
Latin
America
-98
-668
173
Middle East
OPEC
-73
141
909

U.S.





4,790
combined
Note: 1) China, Taiwan, Korea, Singapore, Malaysia, Thailand, and Indonesia
Data : IFS, Bloomberg
U.S. and East Asia: Mirror Image of Macroeconomics
Variables:
Savings, Investment and Trade Deficits
(the mirror image of U.S.)
(not a mirror image of U.S.,
except for trade balance)
Observation:
1)In U.S., Current account Deficits(Up), Strong Investment(Up) and Under-Savings(Down):
Over Consumption.
2) In East Asia, Current account Surplus(Up), Weak Investment, Over-Savings:
Under-consumption.
‘Tales of Two Countries’: An
Increasing Resemblance in Mirror
Updated statistics can be found in
many places, such as
• http://www.epi.org/publications/entry/international_picture_20100211
• http://www.census.gov/indicator/www/ustrade.html
Once again, the major characteristics of
U.S. Dollar Liquidity:
1) U.S. has long-standing and increasing Trade Deficits
with the world.
2) U.S. trade deficits with China and East Asia are
growing fastest.
Let’s think about some Fundamental
Questions:
1. What will be the limit to the U.S. trade deficits? ; How come can U.S.
increase the trade deficits so much without any constraint?
2. Is there any interconnection between the External Imbalance X-M, and the
major Domestic Economic Conditions? ; What about the causation in the
above relationship? Which causes which?
3. How come this flow of funds and the shifting of production(=income
generation) from the U.S. to East Asia does not decrease the National
Income of the U.S.?
 Is the partnership by design or by chance?
 Why would the situation where the U.S. trade deficits are concentrated with
East Asia be better than the ‘hypothetical’ one where the U.S. trade deficits
are evenly distributed across countries in the world?
Relationship between ‘Persistent’ Trade Deficits
and Domestic Savings and Investment Imbalance
At equilibrium, C + S + T = C + I + G + X-M, or
S+ T = I + G + X-M.
Thus X-M = (S-I) + (T-G)
The first one is the private sector’s savings over investment;
The second one is the public sector’s savings.
Also X-M = ( S + T-G ) - I
Trade Surplus = Total National Savings - Investment
East Asian Countries’ GNP
S + T - G exceeds I, and thus it has to be that X – M>0 (Trade Surplus)
U.S.’s GNP
S + T –G falls short of I, and thus X – M<0 (Trade Deficits)
Comments:
• 1)Trade Deficits are dictated by Domestic Economic Conditions;
• 2)Trade Deficits or Im-Balance of international Payment (=BP
Disequilibrium) are derived from the National Income Equilibrium
Condition-> Trade Deficits can persist->They are perfectly
sustainable in the long-run under a certain set of conditions.
• 3) Trade Deficits and Surpluses are a Zero Sum Game for the world >Trade Deficits in one country must have matching Trade Surplus
somewhere else.
• 4) If two countries in a diametrically different domestic economic
conditions may agree to have Trade Deficits/Surplus or (Im)Balance
of Payment Game for a very long time under a certain set of
conditions.
U.S. and East Asia(China) have dovetaling or
Mirror-Images of domestic economic conditions
Domestically,
US Undersavings/Overinvestment
E.A. Oversavings/Underinvestment.
Internationally, this means
US will have trade deficits;
E.A. will have trade surplus.
Flows of Goods,
and Money in opposite directions
• U.S. is a voracious absorber of world products
particularly from the East Asia; Socio-political stability of
U.S. depends on mass consumption.
• U.S. Trade Deficits (Import in excess of Exports) has
been the largest and increasing rapidly while the East
Asian countries have been accumulating Trade Surplus
with U.S.
 International Currencies(monies) flow to the East Asia
 The East Asia is becoming the ‘Factory of the World’
Current Fundamentals of World Economy
(U.S.)
Strong Investment
on High Tech
Relative Lacking
Investment
Growth
War Expenses and
Government Budget
Deficits rises;
Public Savings falls
9.11;
wars
(Asia, etc.)
Current
Account
Deficits
Export
Promotions
National
Savings Glut
Consumption
Culture Rises;
Private Savings
Falls
Managed
FOREX
Current
Account
Surplus
External Liability
Position Imbalance
Current Account
Imbalance
21
1st Round Flows of U.S. Trade Liquidity(1)
(U.S.)
Strong Investment
on High Tech
Relative Lacking
Investment
Growth
War Expenses and
Government Budget
Deficits rises;
Public Savings falls
9.11;
wars
(Asia, etc.)
Export
Promotions
National
Savings Glut
Consumption
Culture Rises;
Private Savings
Falls
Managed
FOREX
Current
Account
Surplus
Current
Account
Deficits
Current Account
Imbalance
22
Trade Deficits could potentially have big
negative impacts on U.S. economy:
• Case 1: In U.S., trade deficits mean U.S. $ leaking to
China, reducing Money Supply and having deflationary
impacts on U.S. domestic economy.
• Case 2: To offset this ‘breeding out’ of money supply,
U.S. might have to print out more U.S. $: Then, U.S.
domestic money supply may recover, but the world
supply (quantity) of U.S. dollar rises, exerting downward
pressures on U.S. $’s external values.
Numerical Exposition
What actually has happened to
U.S. Dollar’s External Value?
• The absolute values have fallen substantially, but
the real weighted value against major countries
has not fallen very much.
• This may mean that there was not really much of
deficits of the ex-ante Balance of Payment of
U.S. ; Trade deficits + Private Sector’s Capital
Inflows = a moderate deficits of the ex-ante or
above-the line Balance of Payment.
Not-so-Correlated Movements of the U.S. Current
Accounts Deficits, and Currency Value FOREX
(1billion
(%
150
400
125
200
100
0
-200
75
50
25
Current Account
External Value of $
-400
-600
-800
0
1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004
• The U.S. Dollar has kept up its value pretty well in
light of the worsening Current Account. Why?
• If capital does not flow back from East Asia to U.S.,
the U.S. Dollar may have lost more values.
• This is related to the concept of “Above the Line”
External Equilibrium.
• Now the theory of the
Balance of Payment in
Chapter 13 of the
textbook comes handy:
 What ultimately affects FX rates and others in the
external sector is not overall ex-post Balance of
Payment on the official statistical table, but
‘Above-the-Line’ ex-ante Balance of Payment.*
 Above the line BP
= Trade Balance + ‘Private Sector’s’ Spontaneous
Net Capital Inflows
Note that in Chapter 13
•
•
•
•
•
Merchandise Account Balance
+ Service Account
=Trade Account Balance(Deficit/Surplus)
+ Transfers
=Current Account(Deficit/Surplus)…….(1)
•
•
•
•
•
•
Spontaneous Capital Inflows/Outflows
=Financial Account(old name; Capital Account or KA)..(2)
(1)+(2) = ex-ante Balance of Payment
----------------(Above the Line BP)-----------------Changes in Official Reserve….(3)
(1) +(2)+(3) = ex-post BP on table =0 at all times.
In the new statistical Compiling
method of BP,
This old/traditional Capital Account is now called ‘Financial Account’:
Financial Inflows and Financial Outflows
The new ‘Capital Account’ denotes wholly different but insignificant
things.
Financial Account as is in the table is a mixed bag of ex-ante and expost, private sector and government, spontaneous and correctional,
etc. It is not a useful concept for economics analysis.
Practitioners still use Current versus ex-ante Capital Accounts for
analysis.
Foreigners are buying U.S. Assets: Financial/Capital Inflows
into U.S.
U.S.: Net External Liabilities (Debts)
=Credit from the rest of the World
(as of GDP, %)
30
25
20
15
10
5
0
-5
-10
-15
1980
1984
1988
1992
1996
2000
2004
Who are buying U.S. Bonds?:
(100 mi. $)
1990~94
1995~99 (A)
Post 2000 (B)
Net (B – A)
2,710
5,890
18,280
9,690
Asian
Countires
1,200
3,010
9,500
6,490
European
Countries
1,150
4,280
4,880
600
 Latin
Americans
210
1,080
1,470
390
Total


East Asians are buying U.S. financial assets,
creating Capital Inflows into U.S.
Updated data is to be found in Morrison et al.(2013)
We note ‘Reverse’ Flows of
International Liquidity/Capital
• A large, if not the majority, amount of
International Liquidity does not stay invested in
the East Asia -Monies are flowing back to U.S.
• This fuels U.S. imports from Asia for
Consumption, Investment, and Government
Expenditures
• This gluts U.S. financial market, pushing Stock
Prices up and Interest Rates down
Flows of International Liquidity(2)
(U.S.)
Strong Investment
on High Tech
Relative Lacking
Investment
Growth
War Expenses and
Government Budget
Deficits rises;
Public Savings falls
9.11;
wars
(Asia, etc.)
Export
Promotions
National
Savings Glut
Consumption
Culture Rises;
Private Savings
Falls
Managed
FOREX
Current
Account
Surplus
Current
Account
Deficits
Current Account
Imbalance
38
Spontaneous Capital Flows
• You may over-consume (more consumption that
income) through imports of foreign goods.
• However, as long as the foreign countries give
you “Credit”(lending Money-back-to you), you
can continue the over-consumption.
• Behind it lie the confidence of foreign countries
and your self-confidence (in your future income
capability).
• Foreigners are ‘investing’ on your future.
Flows of International Liquidity(1)
(U.S.)
Strong Investment
on High Tech
Relative Lacking
Investment
Growth
War Expenses and
Government Budget
Deficits rises;
Public Savings falls
9.11;
wars
(Asia, etc.)
Export
Promotions
National
Savings Glut
Consumption
Culture Rises;
Private Savings
Falls
Managed
FOREX
Current
Account
Surplus
Current
Account
Deficits
Current Account
Imbalance
40
Numerical Exposition of Chinese
Trade Surplus flowing back to U.S.
Comparison of Two Possibilities: US Trade Deficits
not flowing back to US, and flowing back to U.S
1. Current Fundamentals of World Economy
(U.S.)
Investmen
t on High
Tech
(Asia, etc.)
Consumption
Rises;
Privatge Savings
lags
Government Budget
Deficits rises;
Public Savings lags
Managed
FOREX
Lack of
Investment
Growth
Export
Promotions
National
Savings Glut
Capital Flows
ㅇ low interests
9.11;
wars
ㅇ Asians buying U.S.
finan/real Assets
Current
Account
Deficits
(offsetting)
Current
Account
Surplus
External Liability
Position Imbalance
Current Account
Imbalance
43
Current Fundamentals of Global Liquidity Creation
(U.S.)
Investme
nt on
High Tech
(Asia, etc.)
Lack of
Investment
Managed
FOREX
Savings Glut
Export
Promotions
Growth
Government
Budget Deficits
rises
Consumption Rises;
Savings lags
9.11;
Wars
Current
Account
Deficits
Current Account
Imbalance
Current
Account
Surplus
Spontaneous
Capital Flows
External Liability
Position Imbalance
44
Spontaneous Capital Inflows reflect
confidence in U.S. economies
• Because China sends U.S. $ back to U.S.,
U.S. does not have to print out money by that
amount.
• To that extent, it creates jobs in U.S. in
finance of global investment management.
• By the amount of U.S. $ liquidity flow back,
U.S. does not have to print out that much of
money.
• This kind of ‘Division of Labor’ between U.S.
(managing finance) and China(producing goods) is
based on an implicit design between the two
parties.
 German News Reporter
 JD Han’s paper
• Without this circular U.S.-East Asian Financial
Flows,
U.S. would have
i)Deflation domestically;
and ii) Rapidly declining External Value of U.S.
Dollars.
Thus we can say that
• the current setting of ‘U.S. Dollar Liquidity’ is
serving good purposes for the U.S. part.
• Most of outcries about ‘trade deficits’ and
‘Chinese undervalued FX rates’ may be just
rhetoric (al).
• Real concerns of the U.S. government is the
liquidity, not coming back to U.S.
• Is there a possibility that this
International Division of Labor,
or the U.S.-China Symbiosis
can end?
And additionally, for both parties
• There could be ‘Political Risks’
 China’s perceived risk from U.S.:
what if U.S. does not honor/respect/protect the financial
assets owned by the Chinese?
What if U.S. fails to have quality control of U.S.dollars, and
Chinese investors decline any further financial
investment back to U.S.
 U.S.’s perceived risk from China:
what if China uses international liquidity (US $) for military
build-ups?
The first one is called China’s
‘Conflicted Virtue’
•McKinnon’s Concept of Conflicted Virtue
Chinese massive financial investment leads to a lower interest rate in
U.S. as well as China
Chinese investors may decline financial (backflow) investment in
U.S., and may not accept U.S. dollars -> Appreciation of Chinese
currency -> Chinese exports drops, exerting Deflationary pressures on
Chinese economy
However, U.S. Government does not perceive this as the major
credible threat: Morrison et al., “China’s Holdings of U.S. Securities:
Implications for the U.S. Economy”, Congressional Research Services
# 7-5700 (2013) https://www.fas.org/sgp/crs/row/RL34314.pdf
U.S. may still be the master of the future destiny of the
U.S.-China Liquidity Game as it is the designer.
1) U.S. Ambassador to China, U.S. Ambassador to China Mr. Gary Locke, before
the Senate Foreign Relations Committee in May 201:
“China’s holdings of U.S. Treasury securities did not “in any way influence U.S.
foreign policy.”
2)Chinese holdings of U.S. financial securities account for a significant but not the
major portion of U.S.’s total financial securities(refer to p.1 and p. 4 of the op. cit.
3) Andrew Peaple of WSJ:
“Some say China could switch holdings into gold—but that market's highly volatile,
and not large enough to absorb 50 Selling off U.S. dollar assets could cause the
RMB to appreciate against the dollar, which would lower the value of remaining U.S.
assets since the assets are dollar-denominated... It's not clear, meanwhile, that
euro, or yen denominated debt is any safer, more liquid, or profitable than U.S.
debt—key criteria for China's leadership.”
The second risk relates to U.S.-China
International Military Policies :
• U.S. monitors how China spends every
U.S. dollar from Trade Surplus,
particularly on Military Expenses
http://www.defense.gov/Portals/1/Docume
nts/pubs/2015_China_Military_Power_Re
port.pdf (U.S. Congressional Standing
Committee’s Annual Report)
• U.S. government perceives it to exceed its
tolerable military risk level, then it will
take actions: One of them is to stifle the
financial flows into the military industry
by attempting to switch to a new
international partner of U.S. Supply Chain