Bernanke blogs 3 – revisiting ‘Savings glut’

I was and am reading ‘The revenge of the market on the rentiers’ by Jose Gabriel Palma, Faculty of Economics, Cambridge University. So far, so good. He had referred to the savings glut hypothesis that US policymakers were fond of peddling in the early years of the new millennium. The hypothesis has not been abandoned. Ben Bernanke (who else?) brought it up again in his blog post dated April 1, 2015. Palma’s mention of the Savings Glut hypothesis triggered this blog post.

Excess savings by Asians (and others) have been blamed variously for low interest rates in the US, for slower growth, etc. From 2003 and up to 2008, the world was not suffering from low growth but the opposite. There was overheating. The overheating did not manifest much (if at all) in conventional inflation measures because they had been rigged beyond recognition, through hedonic adjustments. It showed up in asset price bubbles around the world and in high commodity prices.

So, global savings glut really did not bring growth rates down, at least up to 2008. Post-2009, China’s current account surplus has shrunk quite considerably. Oil producing countries simply did not and do not have the capacity – in more ways than one – to do much with their surpluses. They recycled then in the 1970s and they are recycling now. Their surpluses will have shrunk big time in 2014-15. Only in Europe, are their huge current account surpluses. German austerity imposed on Southern Europe is now the villain, according to the U.S.

America – a society of instant gratification – has never really believed in the long-term when it comes to spending and saving. It probably wants to optimise consumption and savings over an election cycle. Other societies might wish to optimise them over a life cycle. In any case, as I had blogged here, German wage growth is faster than in the U.S and countries that had excess demand and debt leading up to their present predicament must, indeed, tighten their belt. It is reasonable.

Jean Claude Trichet who was in Singapore last month pointed out that salaries of civil servants rose cumulatively more than 100% (117%?) in Greece in the first decade of the single currency and that they rose a cumulative 20% in Germany in the same period. QED.

Savings glut is supposed to have led to lower interest rates in the US, encouraging all the leveraging that one saw there and, bingo, the crisis itself. Palma puts this in perspective brilliantly here:

The bottom line is that while Asia’s reserves grew by US$2.2 trillion between 1997 and 2007, the overall stock of financial assets grew by US$140 trillion (US$ at 2007 values). As a result, by 2007 the overall Asian ‘savings glut’ was equivalent to less than 1 per cent of the global stock of financial assets (at the time, equity, bonds and bank assets were worth US$241 trillion; see Figures 1 and 2). If this ‘glut’ were in fact the ‘smoking gun’ of the current crisis, never in the history of finance would anything have had such a multiplier effect…

As for the complaint that Asians (primarily China) engineered low interest rates, blunting the impact of American tightening, the answer is that Americans should have tightened more to offset the Asian purchases of US Treasury and Agency Securities. After all, their answer for the complaint that QE is not working is to recommend more QE. So, symmetrically, the answer should have been more tightening if monetary policy tightening was not being transmitted to interest rates at longer maturities.

The blame-game has prevented them from accepting the very real possibility that the Federal Reserve had interest rates too low for too long. Raised them too slowly and with far too much transparency as to encourage risk-taking. It practised regulatory forbearance to the hilt and allowed systemic leverage to build up to very dangerous proportions.

The American government, with the support and blessing of the Federal Reserve Board, had rigged the official measures of inflation so much that they did not see any problem with inflation. That gave them the fig-leaf cover to keep interest rates too low for too long. They consumed their own poison (the propaganda of low inflation).

Then, Bernanke sought to blame the Savings Glut for leveraged asset bubbles. Now, he blames the savings glut for slow growth. There is never any problem with monetary policy, with the Federal Reserve and with America.

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4 thoughts on “Bernanke blogs 3 – revisiting ‘Savings glut’

  1. Apologies if I came across in a bad way.

    I remain a bit befuddled that people reference ratios to bank assets – and to me it appears to make no sense. Permit me a bit more of an elaboration:

    In the above example, at inception, Bank A would have $100 cash at inception on assets side —> upon loan being made, it would translate to $100 of loan to be repaid by Yessar —> upon de-risking would become $100 of loan + $100 of cash received + $xx of P&L MTM on assets side and MTM going thru income statement as per P&L recognition. Out of $100 cash, financial intermediation has created an asset of $200 plus!

    The real risk that Bank A recirculates this capital and ends up with too little of a cushion for equity. But that is something else saved for another day. But see the scope for BS expansion …

    I would think that a way forward would be to create more BDCs (they have their problems too …). They are simpler in structure and restricted in mandate. Again for another discussion.

    Going back, derivatives (likes IRS, CCS, etc.) are stated at notional amounts but measured internally on PFE, VaR, etc. So in effect, this gets overstated as a denominator.

    My aggrievement was more with Martin Wolf (not Palma as such) who has referenced this ratio in a few articles as to how UK financial assets has exploded. Most of the booking for derivatives tends to be done out of London books for many banks (in my anecdotal view). So it is a pet peeve that we have to hear these pundits who brook no criticism. (I gave up reading FT after 15 years as I could no longer stand the evangelical preaching to the natives. It has changed in my view)

    Asian savings glut: When measured as a ratio against GDP and other assets it may be a misleading aspect. That is the limited point I wanted to make.

    The 83 pg memo seems a good read (good quick skim read and seems more like the style of IEA in the UK). I am reminded of Cento Veljanovski’s books on UK Privatization.

    The State will confiscate when time comes and deprivation will result in political changes. I fear that the elite trigger a bigger war to distract (the US population has been very naive in falling for puerile choices).

    Time will tell … the paper is a very good large canvas to see changes happening slowly away from the breathlessness of daily news.

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    1. I do not think you came across in a bad way. I just wanted to clarify that the broader issue that Palma’s paper was trying to tackle was different and that this was a side-note. Nonetheless, your point about measurement issues is well taken.

      Also, I note that the measurement of Asian Reserve assets as a % of GDP could understate the role it played. Frankly, I think that the Federal Reserve has overplayed its role in all the things that they and the sector they were supposed to regulate, did. Bernanke’s inability to reflect meaningfully and critically on their own acts of commission and omission is quite jarring and troubling too.

      Elsewhere, your point about US elites and what they could do, to distract are thoughtful. Many thanks for not only taking the time to read but also post your insightful comments.

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  2. Let us assume that Bank A originates a loan (Loan A). The Borrower is Yessar.

    It then finds another bank (Asian Bank ABC) to take up that loan. Unfortunately, this is not a true sale and it will be in the form of TRS as Asian Bank ABC has no credit appetite on Yessar. So Bank A sells the loan with a 90% insurance cover and stands in for the balance 10%. Bank A now acts as a collection agent for Asian Bank ABC. Yessar does not even know who the true lender is!

    What does the position look like on Bank A and Asian Bank ABC books?

    Do banks Balance Sheets state Gross or Net Positions?

    Do these guys Palma and others like Martin Wolf know what they are writing about? It is so easy to multiply balance sheet and loan books … Sorry if this seems harsh, but I don’t understand them. The ratio is nonsense in my view.

    To me, currency is a store of value, medium of exchange for many things including inter-generational … What the brave souls of the US Fed have done is that they have diluted this by creating USD out of thin air. In earlier days, fixed cost was smaller and variable costs larger for each good, now variable costs are perhaps higher and if not for low interest rates, asset prices would deflate in a major way (and especially when capital investment has been so misallocated globally led by China and Chinese demand).

    Don’t know what we are staring at, but we are staring at something which does not look good …

    In economics, the current status of the US led initiatives should be spurned. They remind of the Pentecostal missionaries completely unable to understand anything but their own point of view.

    I pray I am wrong, but I fear that unintended consequences will asphyxiate us all for decades to come.

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    1. dear SPV, you have a valid point. But, the argument there – if you read the whole paper – was that holding the Asian reserve accumulation responsible for the amount of leverage that the US financial system built up was completely missing the point. His paper is about 83 pages long. It is more a political economy paper as to how neo-liberalisation (aka financial globalisation or financialisation) came to the dominant paradigm. I have done only 33 pages.

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