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.
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 China:
1.
Here in China, 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.
2.
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 China 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.
3.
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. China 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.
4.
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.
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.
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.
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"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.
krazy kaju: 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.
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.....
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krazy kaju: 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.
"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?
To paraphrase Marc Faber: We're all doomed, but that doesn't mean that we can't make money in the process. Rabbi Lapin: "Let's make bricks!" Stephan Kinsella: "Say you and I both want to make a German chocolate cake."