Prior to the financial crisis, “global imbalances” — primarily large American budget and trade deficits financed by foreigners — were considered a potential trigger for a coming global financial crisis.
But the nightmare scenario scenario of foreign investors’ shifting preference away from the dollar forcing devaluation or interest rate hikes didn’t happen.
In fact, U.S. debt securities were snapped up by international investors during the height of the crisis.
So, can we forget about scary “global imbalance” caused-crises?
Free market think tank AEI hosted an event on the the subject, “Global Imbalances: The Next Crisis?” featuring University of Virginia economist Frank Warnock’s assessment of the the continued threat.
“As it turns out we did have a crisis but not the global imbalances crisis,” said Warnock. Yet Warnock’s research on American debt says that imbalances remain important. Reserve accumulation and global investors’ preferences could more likely prolong, rather than end, financial imbalances, he says.
The substantial foreign accumulation of US securities helped finance (and maintain) the US current account deficit…
U.S. has gone through substantial shifts in the size and composition of financial inflows and outflows
Some striking changes in US BOP:
1. Sharp decrease in CAD as imports fall faster than exports.
2. Net fin ‟linflows held up in 2008 because US investors‟ flows abroad were zero. Sharp decline in net fin‟linflows in 2009H1.
3. Private flows into the US were near zero in '08 and negative in 09H1. FOI inflows held up, but foreigners no longer purchase agency or corpbonds.
Presentation by UVA Professor Frank Warnock, via AEI.
After any crisis there is a reassessment of the riskiness of asset classes. US won't look good in that reassessment. While imbalances are building up again, sharp changes in portfolio preferences are more likely than in the past.
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