Hi,
My question is related to this article -Chinese Savings Helped Inflate American Bubble.
I am not clear about the logic behind this argument. Does the term ‘savings’ here refer to the actual savings of Chinese households or the foreign reserves earned by China through its exports?
If the latter is correct, why foreign reserves are considered as savings?
Thanks,
MG.
Saving is defined as surplus of income over consumption. It will lead to accumulation of cash balance in some account. So, since china exported more than imported, it runs large trade surplus that led to accumulation of 1 trillion $ of central bank reservers. China produced more than it consumed which is savings. However, the reason for this high savings is actually CB intervention in the market, fixing the exchange rate of yuan against dollar. CB effectivly taxed it’s own citizens, creating disbalance between imports and exports that showed as savings. Since exchange rate is not the market clearing price, CB is forced to buy dollars in FX. It’s better to hold US securities that yield something instead of cash, CB invested back in the US. So this “saving” is not what we would see in the free market, but rather result of two CB interventions on two opposite sides of the world: FED inflating money supply and China trying to sterilize extra dollars. However, that is not the equilibrium, so it must break sooner or later.
Much of the China industry has been built by US capital, however not generated by savings of US citizens/companies, but rather inflationary monetary pumping. So this is another disbalance in the economies: have the real US savings been used to build China’s industry, China would owe US citizens. However, that money came from central bank printing press, US citizens were invisibly taxed through inflation which enabled users of bank credit to repay debt much sooner (debt lost lot of it’s real value and was issued at unnaturally low interest rates). So the end result is US in debt, carry traders/bankers with large profits and China industry out of balance (concentrated on US demand, not domestic demand).
The relative aggregate savings between two countries is meaningless and the article is an attempt to rationalize crazy Keynesian and Chicago School economic ideas and then have someone to blame, yellow money saving hordes, instead of the failed US government policies.
If you look at individuals then you see a different picture. In the US, individuals are having their property stolen from them through inflation. So to keep up the individuals buy stuff now with their earnings and future earnings instead of saving some of their earnings. In China, individuals have fewer choices on where and how to spend their wealth, consequently they defer consumption and pile up wealth.
This whole thing is one giant pyramid scheme where the government of the US has manipulated the government of China into using the savings accumulated by individuals to purchase US government debt. But the Chinese and others are getting tired of losing to inflation and the whole thing is unravelling.
One of the most frightening things about Keynesian economics, to me, is how it tends to demonize savings and villify the frugal and thrifty.
There are a lot of people found them confused with the theory that it was Chinese “saving glut” that helped produce the Financial Crisis, and also there are a few misconceptions about this argument. IMO, this argument is not wrong but to simply say things like “Chinese savings finance the American bubble” actually unconsciously ignores some important features of the system of “Chimerica” (aka Bretton Woods II). Here I want to sum up the monetary relationship between these two countries, let’s start with :
Here in , the elites set GDP as their primary concern, and to achieve the goal of maintaining a high rate of growth (we usually have 8 percent of increase in GDP per year), it is crucial to keep the exporting industry rolling, thus building up a large foreign reserve with it.
The process of building up a reserve is like this: The exporting industry always receives substantial revenues, and it has to be realized that these revenues are in Federal Reserve Notes, aka dollars, not RMB, because the money you Americans use to buy imported products from is dollar. Then, those exporters have to give all the revenues, which are dollars, to the People’s Bank of China, (PBC) aka the Chinese Central Bank, because it is mandatory to do so. This requirement imposed on the exporting industry is not unacceptable because the exporters can’t use US dollars in Chinese economy anyways. (A few years ago, this requirement is abandoned, meaning that the exporters are allowed to save their dollars in their bank accounts) Therefore, the foreign reserve is built, through collecting the dollars from the exporting industry. The crucial concept is that the PBC will offer the amount of RMB that is equal to the dollars an exporter handed in for the exporter. As an example, if a firm received 100000 dollars as revenue received from exporting goods for the Americans, it has to give 100000 dollars to the PBC, and then receive 700000 RMB from the PBC. (Let’s assume that one Federal Reserve Notes equals to seven RMB) Therefore, the very essence of this system of Chimerica is that in order to build up a super huge foreign reserve, the PBC must ensure its capacity to offer the same amount of currency, this time in RMB, back for the exporting industry.
The PBC decides to use those newly collected dollars do something, and they are used to purchase American bonds, a large proportion of which are Treasury Bills. There are two reasons why we do this: First, purchasing the Treasury Bills (and other bonds) is just like getting the dollars out of the international market, therefore exerting an appreciation pressure on the dollar, as well as a depreciation pressure on the RMB against dollar. It is known that country A with too much exporting to country B just makes its currency rise steeply against the currency of country B, and the appreciation will hurt country A’s exporters. wants to keep a very strong exporting industry, so PBC finds itself obligated to preventing the appreciation of RMB against the Dollar, and purchasing American Treasury Bills is certainly pretty helpful. And the purchasing of these bonds is probably what some Americans refer to when they blame us for “manipulating currency”. Second, Treasury Bills are seen by PBC as the safest and most stable type of purchasing foreign assets. PBC somehow purchases some sub mortgage assets, too, from Freddie Mac and Fannie Mac. The purchasing of the Treasury Bills and other assets is undoubtedly one major factor responsible for the low interest rate of Federal Reserve and low interest rate of other assets. (e.g. sub mortgage bonds) because quite obviously the more funds collected (through Treasury Bills) available for Federal Reserve, the more incentives for the Federal Reserve to lower the interest rate to lend the money out.
Thus, it has to be noted that it was our savings that create the POTENTIAL for PBC to offer the money for the exporters in order to collect the dollars for its reserves, and it was the use of the reserve of dollars to purchase Treasury Bills that generally ensure the interest rate low for the American investors to pop up the debt-bloated super economy.
Ps, about “exporting deflation” and “importing inflation”: by artificially maintain a weak RMB against Dollar, the PBC ensure that the exporters can keep making a lot of money in their business, meaning that large amount of dollars are taken out of American economy to our exporters. This feature is “exporting deflation”. In fact, I think the Fed must want this deflationary pressure, because it leaves more room for it to keep a very low interest rate. A large amount of dollars collected therefore is actually a source of inflation because the same amount of RMB has to be given to the exporters, thus increasing the money supply of Chinese economy.
Having explained all this, I have to say that yes, our savings are a key factor responsible for the economic crisis in an indirect way, but we are not the only one very guilty for it. If not for the Fed forever printing money out of thin air and the US Government unstoppably encouraging a debt-bloated structure of American economy, the American buyers would not have such a strong desire to buy, and therefore China would not be too induced to keeping her exporting industry rolling, thus eliminating of the vicious cycle of Chimerica at the very beginning.
Hope this explanation will help you out, but any mistakes in the above explanation pointed out will be greatly appreciated, I am a beginner.
The first time I heard the “housing boom was caused by Asian sevings” thing I was completely startled.
How can someone believe in this and the in “paradox of thirft” at the same time?
Remember the Red Queen, Ivan. She could believe six contradictory things before breakfast.
Asian savings could not have created a bubble here in the United States. First of all, the savings rates in Asian countries, including China have been falling for several decades now. Secondly, a “saving glut” cannot create a bubble. any increase in saving also causes a decresase in demand, which is contrary to the overconsumption that happens during a bubble.
“Savings glut” it’s a nice way to remove responsibility from centrals bankers towards most hated group by keynesians, and that’s people who work hard and are responsible with the money. [;)]
No, “saving glut” in other countries is not contrary to the overconsumption in America.
What I have explained in my answer is that the Chinese savings indirectly helped to build up the large foreign reserve for the Chinese Central Bank, and it was the foreign reserve used to purchase American bonds that helped to ensure a low interest rate in America. So this low interest rate in the American economy does reflect a large amount of savings availiable to lend. However, this amount of savings does not come from the AMERICAN consumer time preference, but from ASIAN consumer preference in a very indirect way.
No, “saving glut” in other countries is not contrary to the overconsumption in America.
What I have explained in my answer is that the Chinese savings indirectly helped to build up the large foreign reserve for the Chinese Central Bank, and it was the foreign reserve used to purchase American bonds that helped to ensure a low interest rate in America. So this low interest rate in the American economy does reflect a large amount of savings availiable to lend. However, this amount of savings does not come from the AMERICAN consumer time preference, but from ASIAN consumer preference in a very indirect way.
It does not matter that is was Asian time preference and not American time preference. A lower time preference in Asia means that consumption is lower overall. This means that overconsumption is not a possibility.
surely its improper to talk of asian consumer time preference when the chinese story as laid out simply states that the forced saving of accumulating dollars and purchings bonds with them is a bureaucratic decision made by china’s elite. presumably the chinese consumer could neither do more or less of this saving…
“consumption is lower overall”, but this does not make perfect sense. Asian consumption is lower but American consumption is higher, so overconsumption in AMERICA IS one primary reason for the AMERICAN economic crisis.
So if the Chinese would not have lent the money to the USA and, instead, spent it themselves, what difference would it have made to the global macro economy? If all we did was take water out of one side of the pool then spill it into the other of the pool, why did the water level collapse? Or, in this case, if all we did was take money from China and dump it into the USA, why the entire global economy collapse?
Also, the article states that some random economist thinks that the Fed should have raised interest rates in the middle of this decade. But if the Fed would have raise rates, wouldn’t that have created an even bigger incentive for the Chinese to buy US bonds?
It is not like what you just said. You can read my answer to this post. The very crucial point is that we Chinese can NOT spend the dollars ourselves, because in Chinese economy the money is RMB not Dollar. Therefore, to deal with the dollars, we spend them to purchase American bonds, thus helping to finance the Submortgage-housing bubble. A collapse of American economy is certainly a sign of global econmic slowdown. You Americans are the source of global economic growth (I m not saying this growth means real economic development) these decades, because you have SO strong a desire of spending spending and more importantly, spending!! Chinese economy, Japanese economy, other Asian countries’ economy and Russian economy have one essential but dangerous common feature, which is a strong emphasis on exporting industry, (I m not very sure about the Russian economy, but natural gas and oil are certainly a vital pillar of Putin’s oligarchical system) and what country we export our products to? Of course, the USA because as I just said, you guys so much like buying. But if there is a collapse of US economy, then you guys will not spend that much, and a econmic downdurn is always accompanied with a depreciation of Dollar. Dollar depreciation and a reduction of spending by American consumers can hurt Asian economy BIG TIME, because it make our exporting industry, which is the pillar of Asian economies, hard to make profit. To put it simply, if you guys do not spend, (which is a result of the economic crisis) we guys will be screwed.
I know. The Chinese spent/printed RMB to by dollars (US bonds and so on). But you can spend the dollars you do you have outside of China.
Are you saying:" Therefore, to deal with the dollars, we spend RMB to purchase American bonds, thus helping to finance the Submortgage-housing bubble."?
Wasn’t China growing a faster pace? Anyway, the American GDP number is useless. It is a very flawed indicator of the health on the USA economy.
Yes.
Yes, but Americans use Chinese money to buy Chinese products. What if, instead, the Chinese use Chinese money to buy Chinese products?
Why would the American economy collapse? Most of the American economy was based on spending.
So why did the dollar appreciate?
It only hurts exporters and anything that supports exports. However, the Chinese exporters could simply stop exporting to America; and, instead, sell domestically (within China).
In other words, the Chinese should stop giving Americans money to buy Chinese products. What they should is keep their money to buy the products they produce.
There is too much to quote what you just said, so I just want to sum up in the below:
Firstly I would like to point out that Chinese exporters can NOT sell the products within China because we do not have a strong desire of spending to buy so many goods. The reason that we save very much is that we do not like to spend. People outside China can never understand how sucky our welfare and healthcare system are, and how bad the investment prospects here are. All this amounted to the fact that we do not like spending, not to mention we have a tradition of 5000 years of living a “cautious” life.
Secondly, I think it is common that if an economy is generally not performing well, its currency will experience a depreciation pressure, because fewer global investors are willing to put their money into an economy with low investment prospects. (when foreign investors flow their money into a country, they have to exchange their money for that country’s own currency, thus making that country’s currency appreciate, so in this case because the American economy is experiencing a slowdown, fewer foreigners will flow their capitals into American economy, therefore eliminating the appreciation pressure, thus exerting depreciation pressure. Having said all that, I admit that there are many other factors for a country’s money to depreciate against other currency.)
Thirdly, it has to be mentioned that a economic slowdown is likely to result a decrease in spending. (maybe the word “collapse” I used is too extreme)
Forthly, the money we used to purchase American bonds is dollar, which is collected from the exporting industry, and the exporting industry have the dollars because they are revenues received through selling products to the American people, who use dollars to purchase the imported Chinese products. I believe it is a true Economics concept that foreigners using dollars to purchase American bonds will make dollars appreciate against other currency, but I do not know why exactly it works like this.
Additionally, yes, we do have other choices, such as using the dollars to purchase natural gas and oil, but I also believe that it is a true Economics concept that if we use dollars to purchase oil, there will be a pressure of depreciation on dollar, which is not what China wants. (And still I do not know exactly why it is true) Having said that, even we give the dollars to the natural gas and oil exporters in Russia or Middle East, they too have to deal with the dollars they received, and to do so they purchase American bonds, or invest in assets market, which is also a flow of dollar back to America, thus also helping to finance the bubble. This process is called “Petro-Dollar Recycling”
Erickk,
Thanks a lot for that detail reply.
MG.