There is usually a substantial difference between what I write in my newsletter and what I cover in this blog, with the newsletter generally more technical and focused on Chinese and global financial markets. In this post, however, I wanted to excerpt an older newsletter on why the United States runs a trade deficit when it should normally run a surplus. This is a companion piece to my February 7, 2019, blog post, “Why U.S. Debt Must Continue to Rise.”
This essay arose originally from a conversation I had several months ago with Barron’s Matt Klein during his visit to Beijing. Klein is one of the few analysts who understand the ways that changes in trade dynamics in recent decades have made much of the current debate on trade at least partly obsolete. In a discussion with some of my Peking University students, he pointed out that, under standard trade theory, the United States would normally be expected to run trade surpluses, and yet the country instead has run large deficits for nearly five decades. This should be surprising, he argued, and at the very least it strongly suggests the existence of distortions in the global trading system.
He is right, of course, and it occurred to me that working through the reasons might be an interesting way of understanding trade imbalances and their sources. In several recent blog posts, I have addressed this approach to trade from different angles (for example here, here, and here), and there will be overlap between this post with earlier ones. I apologize to my regular readers for this repetition, but the reason for discussing the topic from many different angles is because mainstream economists seem generally to misunderstand current trade dynamics.
For example, as I discussed in a May 2017 post, it is almost an article of faith among economists that the U.S. fiscal deficit contributes substantially to the U.S. trade deficit,1 and perhaps even causes it. But this claim is only true under certain conditions, which unfortunately most economists rarely bother to specify. If they did, they would probably see that these conditions no longer hold; and once we understand that the United States has little control over its domestic savings rate, we will see that the U.S. fiscal deficit is not a cause of the U.S. trade deficit as much as it is a consequence.
This flies so strongly in the face of conventional thinking among mainstream economists that it has to be repeated many times before they will consider it. So with apologies to regular readers for so much repetition, in this post, I want to approach the topic by arguing that the fact that the United States has run large trade deficits for several decades is surprising enough to require some explanation.
The United States Should be a Surplus Economy
Why did Klein think that the United States would run trade surpluses in an open global system in which trade and capital flows are driven mainly by fundamentals? The reason is because investment should normally flow from advanced economies with high levels of capital, technology, and managerial know-how to less developed economies that need these resources, and in fact this has been the case for much of modern history.
Advanced economies—that is to say, mature, capital-abundant, and slow-growing economies—should have many decades of investment in high-quality capital stock behind them, so their current investment needs are relatively low. What is more, with their high income levels and sophisticated financial systems, their savings should be relatively high. For these reasons, savings should normally be pulled from these advanced economies into faster-growing developing countries, where capital is relatively scarce, investment more profitable, and institutional and technological resources lacking.
As the largest and most advanced economy in the world, and with by far the most sophisticated financial markets, the United States would normally be a net exporter of capital and technology to less developed economies: it should run on average a capital account deficit and its obverse, a current account surplus. This is just what the UK did in the late nineteenth century, perhaps the closest analog to the United States today. What is more, this tendency to run surpluses should be further exacerbated by the high level of income inequality from which the United States currently suffers—the highest since the late 1920s, when the United States, not coincidentally, ran the largest trade surpluses in history.
Why? Because income inequality at its simplest can be thought of as a distribution of income from low savers to high savers. It causes ordinary and poorer households, who are the high-consuming sectors of the economy, to have a disproportionately low share of total income relative to the rich, who on average consume a lower share of their income. Income inequality, in other words, forces up what economists call the country’s ex-ante savings (the savings that households plan to set aside at the beginning of a period of time) and, as part of the same process, reduces the consumption share.
Savings Are a Function of Income Distribution
This isn’t just true about income inequality. Any condition or policy that causes a transfer of income from one sector of an economy to another can affect the economy’s savings and consumption shares. Consider the table below, which divides an economy into six sectors, and describes each sector in terms of what share of its income is saved or consumed (all income is, by definition, either saved or consumed). As income is shifted from one sector to another, the differing tendencies of the two sectors to save or consume their incomes will change the overall savings rate of the economy.
| Sector | Savings Tendency |
| Rich households | Consume a small share of their income and save a large share |
| Ordinary households (older) | Consume a large share of their income and save a small share |
| Ordinary households (younger) | Probably consume a larger share of their income than older people and save a smaller share |
| Businesses | Do not consume, but save, all of their income, which is either invested or distributed to their owners |
| Local governments | Consume a small share on behalf of local citizens and save a large share |
| Central government | Probably consume a smaller share on behalf of citizens and save a larger share |
The economy could be further subdivided into additional sectors with different saving propensities, but the above division should be enough to make the point clear: a country’s saving mainly reflects the way in which income is distributed. Notice the implication. Savings in a country usually don’t rise because the citizens of that country decide suddenly to become thriftier, nor do savings decline because citizens suddenly become more profligate. Savings rise and fall mainly as income is shifted among groups and sectors with different saving tendencies.
An example of how this occurs would be helpful in explaining the overall process. Among recent examples was the 2003–2005 Hartz reforms in Germany, after which German wage growth slowed sharply relative to GDP growth while business profits exploded. This is the equivalent of a transfer of income from workers and ordinary households, who consume a large share of their income and save a low share, to businesses, who effectively save all of it. As this transfer occurred, German savings soared. The press responded by expressing admiration for the ways in which German culture worships thrift, but the rise in German savings actually had almost nothing to do with a cultural inclination toward thrift.
It had to do with the shift in income from workers to businesses. In any country, whenever the business-profit share of GDP rises at the expense of the household share, the ex-ante national savings rate will automatically rise. It is this transfer that ultimately powered the huge subsequent increase in the German trade surplus. Contrary to popular opinion, in other words, Germany’s trade surplus does not reflect the fact that German workers are hard-working and thrifty (though they probably are, as indeed most workers everywhere are). Nor does the German trade surplus indicate that Americans, as EU budget-commissioner Günther Oettinger foolishly explained, love German cars more than Germans love American cars. It is mainly the result of a reform that allowed German businesses to profit at the expense of German workers.
From the table above, it is easy to see why income inequality also forces up ex-ante savings, and does so in the same way. It effectively represents a transfer of income from a low-savings sector to a high-savings sector—that is from ordinary households to the rich.
How Income Shifts Drive Trade Imbalances
These kinds of wealth transfers within an economy are among the major determinants of a country’s balance of payments—its current and capital accounts. This is not just because of how such transfers affect ex-ante savings but also because of how they might affect investment (which, along with the capital account, determines how such transfers affect ex-post savings—the actual amount of savings).
A country that saves more than it invests must export that balance. This is shown in the following accounting identities:
- GDP = Consumption + Savings, and also
- GDP = Consumption + Investment + Capital Account Surplus, therefore
- Consumption + Savings = Consumption + Investment + Capital Account Surplus, and because
- Capital Account Surplus = Current Account Deficit, therefore
- Current Account Deficit = Investment - Savings, or, which is the same thing,
- Current Account Surplus = Savings - Investment
This is why the effect of income transfers is more complicated than we might first assume. Most economists assume that the lower consumption created by income inequality is matched by higher investment, or they think it is at least partially matched by higher investment; this is because they assume that higher investment is the result of an increased availability of savings at lower costs.2
But the impact of additional savings on investment varies greatly from economy to economy. In an economy whose substantial investment needs have been unmet because of scarce capital at high interest rates—mainly developing economies—the increase in savings is likely to be met dollar-for-dollar with an increase in investment or, put differently, the reduction in consumption is likely to be met dollar-for-dollar with an increase in investment. In such cases, income inequality would have little or no net impact on the current or capital accounts.
The United States, of course, is not a developing country. Today, American investors can easily access capital at among the lowest rates in history, and yet few seem interested in raising money to invest in the economy. Investment in the United States doesn’t seem to be constrained by scarce savings at all. Still, most economists would assume that the increased availability of capital at lower costs would cause at least some increase in domestic investment, although not as much as the increase in savings (or, to relate this again to consumption, the reduction in consumption is likely to be met with a smaller increase in investment).
In such cases, when income inequality in the United States increases the gap between savings and investment—that is to say, if it causes savings to rise more than investment rises—the capital account deficit and the trade (or current account) surplus must automatically rise. As an advanced economy, the United States should normally run a trade surplus, in other words, and this surplus should be expanded by its high levels of income inequality.
Does Wealth Trickle Down?
And yet the country runs a trade deficit. Before explaining why, I want to digress again to discuss in this and the next section what I think is another important but misunderstood consequence of income inequality in advanced economies like the United States. What determines the full impact of rising income inequality on the trade balance is not just how it affects savings but also how it affects investment.
The standard argument is that forcing up ex-ante savings is positive for investment because, even in economies in which savings are already abundant and where interest rates are low, it lowers the cost of funding, however marginally. If businesses can borrow at a lower rate than before, the argument goes, there is always some productive investment opportunity that only becomes profitable at this new, lower borrowing cost, and so this must (the thinking goes) lead to more investment. More investment, of course, should lead to more growth over the long run.
This is the basic argument behind supply-side economics, and it is the implicit justification for President Donald Trump’s 2017 tax cuts. Most economists agree that investment levels in the United States are low and that the country would grow faster over the long term if businesses could be encouraged to invest more. Given that one of the most efficient ways to boost investment is presumably to make more capital available to businesses at lower costs, proponents of this viewpoint claim that tax cuts for the rich will eventually benefit the rest of the country as the additional wealth generated by higher investment trickles down.
Can supply-side policies that result in greater income inequality nonetheless leave a country better off? It turns out that the answer, again, depends on the relative availability of savings in the economy. In an environment of capital scarcity, typically the case for developing economies, policies that force up the domestic savings rate can result in a substantial (even one-for-one) increase in domestic investment for every unit reduction in consumption. In such cases, total spending is unchanged (lower consumption is matched by higher investment); the economy grows as quickly as ever in the short run while also getting wealthier in the long run.
This isn’t necessarily the case, however, in an environment of capital abundance, a condition that applies to most advanced economies today. In those cases, most economists would agree that every unit reduction in consumption is likely to be matched by a smaller increase in investment, meaning that, in the short run, total demand declines.
This means that while supply-side policies can reduce growth in the United States in the short term because they cause a drop in total demand (as lower consumption is only partially matched by higher investment), as long as at least part of the reduction in consumption is matched by an increase in productive investment, it is still possible to argue that the country is better off in the long run because investment increases productive capacity. In such scenarios, the rich benefit immediately from tax cuts for the rich, while the rest of society benefits eventually. That is how wealth is supposed to trickle down.
How Does U.S. Income Inequality Affect Its Balance of Payments?
But—and this is what may seem counterintuitive to most economists—it might be a mistake to assume that conditions that force up the ex-ante savings rate must always lead to some additional investment. There are conditions in which such conditions may actually lead to less investment; this is especially likely to be true today in most advanced economies.
All it requires, broadly speaking, is that all or most investment falls into one of two categories. The first category consists of projects whose value is not sensitive to marginal changes in demand, perhaps because they bring about very evident and significant increases in productivity, or because the economy suffers from significant underinvestment. The second category consists of projects whose value varies as a function of future expected changes in demand. I discuss this topic further in the “Where Might This Argument Be Wrong?” section of a previous blog post. I show in that post that in economies like the United States, in which the profitability of most investments is a function of changes in demand (the second category) rather than in the cost of borrowing (the first category), rising income inequality and higher ex-ante savings can actually result in less investment rather than more.
The point is that U.S. income inequality could increase the gap between savings and investment by even more than we might otherwise assume. Not only does it cause the savings of the rich to rise faster than investment, but it might actually cause investment to decline. This isn’t just theory. The increase in the savings share of German GDP after the Hartz reforms was matched by a reduction in the investment share, not the expected increase. And while it is too early to make the same claim about the Trump tax cuts of December 2017, which were supposed to boost investment by boosting savings, so far they seem to have done nothing of the sort.
Be that as it may, whether investment actually declines or merely grows more slowly than the decline in consumption, in a closed system like the global economy, savings and investment are by definition equal. This implies that in any country if a policy causes savings in one part of the economy to rise and investment to rise more slowly, or even decline, the domestic imbalance between savings and investment can be resolved in one (or some combination) of only two ways:
- The excess savings can be exported, in the form of capital account deficits along with the corresponding trade and current account surpluses.
- Something else must happen to cause savings in another part of the economy to drop, so in the aggregate there is no net increase in savings.
It is clear that the first of these two conditions does not apply to the United States. The country has no control over its ability to import or export savings. Its capital account is largely determined abroad.
Why? Because the United States has deep, completely open, and highly flexible capital markets and very strong governance, so the country ultimately absorbs a large part of the excess savings of the rest of the world—roughly 40–50 percent of the sum of foreign capital account deficits in recent years—the extent of which is only partially determined by domestic U.S. conditions or policies. As long as the United States runs a capital account surplus, and as long as this surplus is determined by foreign conditions and policies the country largely cannot control, the United States cannot be a net exporter of any excess savings accumulated through its high level of income inequality.
This means the second condition must apply. This is not a theoretical proposal but rather an accounting identity that cannot be broken: if the United States cannot export the excess of savings over investment, it cannot have these excess savings.
That being the case, something else must happen to cause savings in another part of the U.S. economy to drop by enough to absorb the sum of excess U.S. savings caused by income inequality and excess foreign savings imported into the United States. This has been the hardest part for even trade experts to understand, but there are many ways in which conditions that drive up savings in one part of the U.S. economy can drive them down elsewhere. I discuss some of these ways in the “What Drives Down Savings” section of my previous blog post.
Global Imbalances Can Drive American Imbalances
What this all means is that, in one way or another, distortions (either in the U.S. economy or abroad), have transformed the United States from what should have been a reasonably persistent surplus economy into the world’s largest deficit economy. As I have explained before (including here, here, here, and here), ultimately the United States must respond to the distortions created by net capital inflows, and the consequent current account deficit, with either more unemployment or more debt. This explains the real relationship between the fiscal deficit and the current account deficit: if the United States is to avoid higher unemployment, either the U.S. government must run a fiscal deficit or U.S. authorities, including the Federal Reserve, must create conditions under which private American (mainly households) run deficits and raise debt levels.
The extent of the distortion can be enormous. Assuming that the United States should normally run a current account surplus of roughly 2–3 percent of GDP, in line with that of other rich, capital-exporting countries and substantially lower than the UK’s surplus at the end of the nineteenth century, the American current account deficit of roughly 3 percent of GDP implies a distortion equal to 5–6 percent of U.S. GDP, or a very high 1 to 1.5 percent of global GDP. This suggests that, while the United States currently absorbs 40–50 percent of the world’s current account deficits, it may be absorbing up to two-thirds of all the world’s excess savings.
So the answer to the original question of why the United States isn’t a trade surplus country is that it should be, but because of its deep, flexible, well-governed, and completely open capital markets, in a world of excess savings and insufficient demand, the United States absorbs a substantial share of excess savings from abroad. These savings, in turn, create distortions in the domestic economy, which in turn force down U.S. savings and cause the United States to run the largest trade deficits in the world.
The United States isn’t completely impotent on this issue. U.S. policies and conditions can have some effect on the amount of foreign excess savings, and a somewhat greater effect on the extent to which these savings are exported to the United States, but these effects can be counterintuitive. For example, if Washington were to reduce the U.S. fiscal deficit, and if a lower fiscal deficit increased the attractiveness of the United States as an investment destination, net foreign inflows into the country might actually increase. This would mean that a lower fiscal deficit could paradoxically result in a higher current account deficit, directly contradicting the view of the many economists for whom it is an article of faith that lower fiscal deficits must result in lower current account deficits.
Under current conditions, however, the United States’ ability to control the amount of foreign excess savings that is invested in the country is very limited. As long as it has a completely open capital account, the U.S. current account deficit is likely to be a residual, mainly reflecting factors abroad. To the extent that the amount of excess savings in the rest of the world is determined partially or mainly by conditions and policies abroad, the United States cannot control or manage its current account deficit as long as it does not manage its capital account.
Capital Account Distortions
This, by the way, is not just a problem for the United States. It is also a problem for the UK and the other Anglo-Saxon economies with broadly similar and equally open capital markets, all of which have tended to run persistent deficits since the 1970s, contrary to basic trade theory. This was also a problem for countries, like Spain and other “peripheral” European countries in the years leading up to the 2008–2009 crisis, whose monetary conditions left them open to capital exports from large surplus countries in Europe, mainly Germany. Finally, it may also be a problem for developing countries during periods of major global liquidity expansion, especially to the extent that they cannot control the enormous liquidity inflows that typically afflict developing countries during these periods.
The United States has been running trade deficits for so long that we have forgotten how strange this is, and if we think about it at all we tend simply to dismiss the problem as a consequence of American profligacy. But even if profligacy were truly a problem, in a well-functioning world of global trade, if a country like the United States were to run deficits, after a fairly short time these deficits would force changes (mostly monetary but also structural) in the U.S. economy that would eliminate the deficits. Persistent U.S. trade deficits are unnatural, and there has to be a reason they exist.
What is more, these U.S. trade deficits force the United States into accepting either higher unemployment or a more rapid increase in debt. If the country wants to escape this condition, the United States must reduce its trade deficit with the world, but not by addressing the trade deficit directly through import tariffs or quotas. Instead, the United States must address foreign capital inflows directly, perhaps by taxing them.
For what it’s worth, in September 2019, Yale University Press will publish a book in which my co-author and I argue that these distortions should not be seen as representing conflicts between countries so much as conflicts between economic classes. Trade war, in other words, is really a disguised form of class war, but more on that in September.
Aside from this blog, I write a monthly newsletter that covers some of the same topics. Those who are interested in receiving the newsletter should write to me at chinfinpettis@yahoo.com, stating affiliation.
Notes
1 Technically, throughout this post, I should refer to the current account rather than the trade account, but the latter is usually the main component of the former and absorbs most, if not all, of the variation. Although it is technically incorrect, I will generally treat the trade account as interchangeable with the current account.
2 I was told by a reader a year ago that some of his friends, academic economists, dismissed this approach to savings and investment on the grounds that it is based on the dreadfully unfashionable loanable funds approach to money creation, rather than endogenous money or MMT.
This only indicates how confused many economists are about the meaning and implications of MMT, and about money creation more generally. Savings, or rather deposits, according to MMT, are not exogenous to the banking system and distributed by banks in the form of loans, as is commonly thought (although no one actually thinks this), but rather they are endogenous because they are created by bank lending.
But this is a completely different meaning of savings. It is monetary savings (that is, bank deposits) and not real savings. In the savings-investment framework used here, savings are simply the amount of goods and services produced by the economy that are not consumed. Investment is necessarily constrained, by definition, by the amount of available savings. The savings-investment framework has nothing to do with loanable funds, endogenous money, or indeed any other theory of money creation. It is about the classification of real goods and services. In the case of an economy that produces three widgets, if it consumes two widgets, it cannot then invest two more widgets, whether or not money is created by banks or merely distributed by them.
Comments(26)
Hi Professor Pettit, In addition to taxing foreign capital inflows directly, would a more forgiving personal bankruptcy law work? Which is a crazy idea but I’m just putting it out there to increase the space for better ideas.
Or, use the capital inflows To support a system that guarantees a minimum income in the U.S.?
A minimum income would increase U.S. consumption. I also think more forgiving personal bankruptcy laws would support consumption. Encouraging more U.S. consumption would more upward pressure on the trade deficit. The trade problem isn't a lack of consumption in the U.S. but rather overcapacity and overinvestment in large economies like China and Germany.
While it may be necessary for countries to have imlort cover, the extent to which this has been used, along with state interventionism, along with an obtuse financial narrative that imagones the US requirojs of foreign funding of itseconomy, rather than high net worth and financial I stitutions desirous of income opportunities that correlate to US debt levlels, has been exasperating. not least, as with low consumption, high growth models, or export dependent economic structures of some advanced, emerging, economies, we find much wasted time and deepening excess. Still convinced the only thing that could have been done, to right expectations, trends and sentiments was for East Asia to raise currency values in concert in 2008-2009, missed opportunity. Now, only waiting for the next shoe to drop, had only global financial efforts to have been geared to this, consumers globally would have benefited, reversed wage compression, of reversion of trade diversion, resource economies supported of higher demand of increased purchasing power, switchin of production to serve more internal demand, etc... thanks, again for putting your work out there, wish you were presenting more often on video but I suspect your schedule is tiring. Thanks
I understand that over the long term, US savings rate will go down, but what exactly caused the savings rate in the US to increase from 2008-2016 though? I haven't seen this properly explained yet.
It is because the share of national income that goes to workers has declined, entailing that the share of national income that goes to CEO's and profit has increased.
Hi Michael, Thanks for your very salient post. You mention in your list of relative savers and spenders that you would class local and central governments as entities that save a large share of their incomes. How can this be since both entities are charged with spending all their income to provide the services their communities need?
As I said in my response to Karen, Simon, you have to look at the two different sides of the GDP equation. This is often confusing, but it is necessary.
Glad to hear about the book. Sounds like a subject I'll enjoy. And agree with.
Hello, I have been following your posts for some time, and what you say makes so much sense to me. But I share Simon's confusion about why you say local and central governments consume only a small share on behalf of citizens and save a large share. Could it be that this is true in China, perhaps because Chinese governments own many businesses, but not true in many other countries, such as the U.S.? What resources does the U.S. Federal government save, and how does it do that? It seems to me that the U.S. Federal government spends very large amounts (Social Security, Medicare, Veterans’ benefits, other similar payments, defense spending, etc.) and saves nothing, once you figure in that it borrows from the Social Security Trust Fund for other government operations. I have less of a clear understanding of the extent to which local governments in the U.S. contribute to savings (e.g. pension fund contributions) versus incurring debts (e.g. selling construction bonds). Thank you very much.
From the revenue side all income is consumed or saved, Karen, while it is either consumed or invested on the spending side. Governments consume a small part of their revenues on behalf of households, but whatever they don't consume by definition they save. a
I have read these this series of excellent interconnected posts with great interest and have a number of thoughts that could fill several pages. I confine current comments to portions of last two posts concerning “what can be done” about the US trade and budget deficits. The posts mention reduction of income inequality (in the US), limiting foreign capital inflows, and forcing up investment as potential ways to address these problems. While I agree that these can be beneficial, I believe additional approaches can be equally or more beneficial, including: 1. Implement actions that strongly encourage countries with persistent trade surpluses to take actions to reduce their surpluses, i.e. deal with their own excess savings rather than forcing them into the other countries. Typical actions surplus countries could take include reduction of income inequality, transfer of income from state sector to household sector (China), increase internal investment (e.g. Germany], increase minimum wages, fiscal stimulus (tax reduction/spending increase), reduce subsidies for exports (e.g. VAT rebates etc.), reduce nontariff barriers to imports, etc. Past experience suggests these countries will not willingly do this on their own without pressure. For example, at the G20 meeting in 2010 Tim Geithner made a modest proposal for countries to limit their current account surplus to 4% of GDP. His proposal was summarily rejected (shouted down by angry representatives from China, Germany, and Japan) and he quickly gave up and did not purse it further. The MP proposal to tax foreign capital inflows could be one action in this category. The posts do not propose an approach for implementing this. I suggest one place to start is to stiffen up the withholding tax on dividends, interest, and capital gains, including eliminating any preference rates or exemptions on withholding for assets held by governments, central banks, sovereign wealth funds, pension funds, etc. 2. Implement actions for US based production of goods and services that compete with imports to effectively increase net realizable selling prices in the market, reduce production costs, reduce risk, and reduce investment costs for US based production. Specific examples include: border adjustment tax (as proposed in US congress but not implemented); replace some current taxes and other costs with value added taxes that are applied to both domestic production and imports and are rebated on exports (as practiced in most other developed countries), reduce regulatory costs, and make other changes to tax structure that encourage US based production. Tariffs and nontariff barriers to imports could arguably be included in these actions. However, as currently being practiced by the US administration they appear to be largely ineffective and/or counterproductive with a significant amount of collateral damage. Discussion The actions suggested above are primarily designed to increase US based production. To the extent they are successful in reducing the trade deficit, they would also be helpful for reducing the fiscal deficit. In discussing this I find it useful to replace “savings” with “production – consumption” in the accounting identity in order to give more visibility to the importance of production: Current Account Surplus/Deficit = Production – Consumption – Investment. This equation suggests the US trade deficit results from either consumption being too high or production too low, if one assumes investment is not too high. Measures that increase production by more than consumption or measures that reduce consumption by more than production could reduce the trade deficit. If one concludes that US production is too low an obvious question is why is it too low? In a market economy like the US, production and investment by companies are primarily determined by profitability. Profitability is determined in part by net realizable selling prices in the market and also by cost of production, including what is typically called cost of capital or return on investment. Therefore, one way to increase production in the US is to increase the profitability of production. Total demand, mentioned in the MP posts, is an important driver, but is not the only important driver of profitability. If one assumes that total US demand is satisfied by both US based and foreign based production the fraction satisfied by US production can be expected to increase if the profitability of such production increases. A full discussion these topics requires more space than allowed for blog comments.
I'm wondering whether generalizations about the impact on national savings of what amount to pass-through entities - businesses and governments - can really be made. Wouldn't such an entity's influence be pretty much a function of how many resources that entity channels to poorer households versus richer ones? Currently U.S. businesses (on average) are channeling a lot of money towards richer households by squeezing the pay of ordinary workers, paying top management extremely well, and buying shares back from shareholders (most of whom are wealthy). But in an earlier era they were paying ordinary workers more generously, paying top management well but not as well as they do today, and not buying back shares.
Hi Michael, I'm really looking forward to your new book as a non-economist. My question is related to your proposed foreign capital tax. One of my colleagues mentioned a while ago that the reason the world's savings get exported to the USA is that they are holding dollars that have to go into a dollar asset since if they were converted back to their own currency, the value would rise and this would be a transfer from the tradable goods sector to households in that country. So my question is, how does the tax on capital from abroad actually manifest itself? There would have to be a limit to foreign ownership of dollars, but that sort of resembles a tariff to me since all imports are paid for in dollars.
Thanks Michael for addressing in note 2 the objection I had earlier brought to your attention. Your response is well argumented and totally exhaustive.
There was a problem with the comments section, so that all comments posted in the past week or two have been lost. Sorry for that, but presumably everything is fine now.
Great piece of reading, Michael. I'm from Argentina and have read your book The Volatility Machine. I'm curious about your views of Argentina's situation, if you have any. It amazes me that after so many crisis Macri made all the possible mistakes in a really short period of time, as if nobody ever wrote economic literature of Argentinia. I find that your book really stands the pass of time, at least in my country. The recently wealth transfer from households to a very top 1% is really criminal and, not surprisingly, the proposed solutions are labor, social welfare and tax reforms, but not to tackle the debt problem created by Macri's policies. The government really thinks it can make some king of political and economic space to impulse the reforms, as long as it can rollover the debt. But they can`t rollover because the current acount red has exploded (now artificially mitigated with a 100% devaluation year to year ¡and ultra high rates!) and the policies exacerbates the fly of dollars to other countries or to the safe boxes. For anyone out there, Macri's government is really a leading case of demential policies! You have to daily watch the guy and his ministers to really see what I`m talking about.
Thanks, Nicolas. I haven't been following Argentina as much as I used to, but I have recently started following it more closely.
Do you know why China able to print more than 3 trillion Yuan a year for the past 5 years, without much inflation ? China has been printing more than 1 trillion Yuan every year since 2005, to stimulate the economy. China able to print such huge trillions of Yuan yearly, with minimum inflation, is because China have US$300-400 billion trade surplus with USA every year. In addition from 2000-2014, China have accumulated more than US$3.5 trillion in forex holdings overseas. This included US$1.3 trillion in US Treasury bonds making China the largest owner. Therefore trillions Yuan China printed yearly are actually supported by China trillions in forex holdings and billions in yearly trade surplus. This trillion Yuan printed every year, allow China to pay for all the expensive infrastructure, such as high speed railway network system, big dams, huge wind turbine farms, country wide telecom infrastructure, vast road network, south to north water transfer canal project,etc. Also China was using the trillion Yuan printed to subsidise exporters such as Huawei, ZTE, etc. China able to invest and build such giant infrastructure projects WITH NO NEED to depend on IMF, World Bank and foreigners investment. Don't you think this is very amazing ? I have discuss this with very brilliant and knowledgeable economists in the internet forum, and they all did not believe my analysis and observation. But these so called brilliant academic also unable to explain why and where China get all the billions of Yuan or USD to build such advanced infrastructure for the past 10-15 years. So there are no secrets of China economic success. It is all due to trade surplus earned from USA, and printed trillions Yuan to invest in their huge infrastructure projects, and subsidise exporters, to ensure can continue to earn trade surplus with US. Americans consumers are the real suckers all along. None of them benefit from trade with China. Therefore Argentina need to have trade surplus with America, if Argentina need to get out of external debt without need to rely on IMF/World Bank. ( yewtaipan@yahoo.com )
Yewtaipan, While the line of your thinking isn't apparent to me, I follow the conclusion you have reached: "Therefore Argentina needs to have a trade surplus with America, if Argentina wants to get out of foreign debt without the need to rely on the World Bank/IMF." Keep following Mike. Most economic thought is corrupted by the need to serve wealth and power, and ends up little more than propaganda
Hi Michael, this is the first blog of yours that I have read and really loved the insights. However, I feel there are (possibly) a couple of errors. Firstly, you mentioned “GDP = Consumption + Investment + Capital Account Surplus”. I think it should be “GDP = Consumption + Investment - Capital Account Surplus”. Also, in another place, you mentioned “This suggests that, while the United States currently absorbs 40–50 percent of the world’s current account deficits, it may be absorbing up to two-thirds of all the world’s excess savings.” I think it should be “This suggests that, while the United States currently absorbs 40–50 percent of the world’s current account surpluses, it may be absorbing up to two-thirds of all the world’s excess savings”. I would appreciate if you could please clarify.
You are right, Piran, it should have been Current Account Surplus" in the equation (which is of course the same as Capital Account Deficit"). In the second sentence it doesn't matter if you call it the world's current account surplus or the world's current account deficits as they must add to each other.
david goldman argues that china's debt is not a problem, because it is all backed by solid collateral (basically infrastructure). I wonder how you respond to that.
When will we have more information about this new book of yours? I am very anxious to read it and learn more about it. Website? Yale University Press webapge???
Dear Professor Pettis, I think you miss the misallocation of capital, both human and physical, in the United States and its effects: The percentage of employees in the U.S. -private sector compared to the working age population (18-64) was 44.2% in 2007 and 42.6% in 2016, and a significant number of employees in the U.S. private sector produced weapons for the government. The public sector in the US is large, also due to the big army and the 17 (!) intelligence agencies. In Germany, for instance, approximately 50% of the working-age population is employed in the private sector, and its so-called military-industrial complex is also smaller, which - I think - explains why the U.S. runs a trade deficit and Germany a trade surplus.
I don't understand why Current Account Deficit (=Captical Account Surplus) = Investment - Savings. Is the equation supposed to be Savings - Investment?
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