Photo: Charolette Speaks via Flickr
There’s not much separating the U.S. and U.K. economies—perhaps even the global economy—from a slump right now, writes respected economic commentator Martin Wolf writes in the FT today.Contrary to analysts clamoring for austerity and more fiscal tightening, he believes that massive fiscal deficits might actually be the only thing keeping the economy afloat right now:
The massive fiscal deficits being run by the UK and US are not, on this evidence, crowding anybody out of the market. It is far more plausible that these deficits stand between these economies – possibly even the world economy – and a slump. They are the least bad way available to offset the massive excess savings of the private and foreign sectors in these economies. The only alternative would be strongly negative long-term real interest rates.
The subject of his somber column is ultra-low interest rates:
We can then clearly see that the last 27 years breaks down into three clear sub-periods: from January 1985 to January 1998, the real interest rate averaged 3.7 per cent; from January 1998 to August 2007, it averaged 2.1 per cent; and then since August 2007, when the financial crisis began, it has fallen steadily, to below zero, with a brief interruption during the period of high panic from October to December 2008.
Wolf argues that ultra-low rates, over time, fostered massive investments in property as opposed to “safe assets” in the wake of the Asian financial crisis. That, in turn, led to investments in risk assets with property-backed leverage.
This chart shows that relationship clearly in the U.K.:
Photo: Financial Times
Meanwhile, foreign exchange intervention from developing markets—particularly China—exacerbated current account imbalances that allowed developed markets to continue to be net importers of goods.
In Wolf’s opinion, a return to a healthier global economy with higher interest rates on “safe assets” will only occur once these imbalances are righted:
The most important contribution would be a move to a world economy in which the countries with the best investment opportunities –the emerging countries – became very large net capital importers, as the emerging countries of that time (the US, for example) were in the late 19th century. A huge investment boom in the high-income countries would also help a great deal. But I cannot see that happening in current circumstances.
The advanced countries, as a group, need to become large net capital exporters. Will that happen? I strongly suspect not.