The Allied Social Sciences Association (incorporating the AEA, the Econometric Society, the International Economics and Finance Society and many other groups) meetings took place in Chicago this last weekend. I wasn’t able to go to that many sessions, but I did attend a few related to international issues.
One theme that ran through several was questions surrounding the origins of the current pattern of global imbalances. In the National Association of Business Economics (NABE) panel on international capital flows, Emanuel Farhi presented a paper (with R. Caballero and P.-O. Gourinchas) arguing that the underdevelopment of financial markets — essentially the inability to produce assets — in East Asia combined with rapid growth in the region is driving the pattern of lending to the developed regions. In one sense, this is an argument based on comparative advantage. The US and Europe are relatively good producing financial assets while East Asia is relatively good at producing goods. The model results are driven by a parameter (delta) that defines how well financial systems are at making assets; as long as East Asia’s “delta” is smaller than that of the developed economies, the current patterns will persist. In my view, the model is a very simple way of formalizing the Bernanke saving glut hypothesis. But the timing (the model is flexible enough to encompass many interpretations of delta) is a little mysterious, given that the imbalances have ballooned post 1998, and this asymmetry in delta has presumably been in place all along. (Another paper, by Enrique Mendoza et al., recently presented at the IMF Annual Research Conference tackled this same issue.)
Brad Setser, characterized by his discussant as “the master of reserves tracking, argued that U.S. data is becoming ever less useful for tracking the accumulation of dollar assets by central banks. In his presentation (firewalled version here), he argues that U.S. BEA estimates now understate foreign official accumulation by about $200 billion, a not inconsequential figure. This point is highlighted by the difference between the blue line (official BEA estimate) and the black line (Setser’s estimate).
Figure 1: Estimates of official dollar asset holdings. Source: Setser (2006).
Setser’s presentation sparked a spirited discussion of whether the global saving glut view of the world — where private agents are undertaking the asset trades — really explains the current pattern of imbalances, since so much of the capital flows are being driven by the official sector.
In an AEA panel on current account imbalances, a paper by Phillip Lane and Gian Maria Milesi-Ferretti demonstrated that, even though Europe is running a small current account deficit (see Figure 2), its role in the global adjustment process could be potentially quite large.
Figure 2: Source: Lane and Milesi-Ferretti (2006).
The reason is quite simple: because the U.S. holds a large amount of its foreign assets in the euro area, while its liabilities are in dollars, this means that how the U.S. current account imbalance is adjusted (by exchange rate versus growth differentials changes) in response to differing shocks has big implications for wealth and portfolio adjustments. The less flexibility in East Asian exchange rates against the dollar, the bigger the impact on Europe. Although there has been lots of informal discussion to this effect, this is one of the first to try to systematically model the issue. (My discussion of this paper at the IMF conference is here).
In the same panel, Pierre-Olivier Gourinchas made a presentation entitled (World Bankers, with H. Rey and C. Lopez) which traced out the path of assets and liabilities of the UK from 1950 onward, and contrasts it with that of the United States. The reason for doing this is to shed light on the question of how durable the “exorbitant privilege” the US enjoys is. The “exorbitant privilege” is, in the Gourinchas-Rey lexicon, the phenomenon wherein the rate of return foreigners receive on their assets in the U.S. is systematically less than that received by U.S. investors on their assets abroad, across asset classes (bonds, stocks, direct investment, bank loans). He concludes:
- 100 years ago, the U.K. was in the position of the U.S. now. It
supplied liquidity to the rest of the world, and probably enjoyed
the associated intermediation rents.
- These rents are now disappearing. The large positive valuation
effects in the U.K. come from the leverage of relatively small
return differences through extremely large gross asset and
- These findings provide a window on a future where the U.S.
dollar would lose its status as international currency.
Self-promotion moment: here is a paper which discusses the determinants of reserve currency status.
On a different (trade-related) note, former IMF Deputy Managing Director Anne Krueger gave the Society of Government Economists Presidential Address. Her presentation, entitled “Multilateral Organizations and the International Economy”, was a wide ranging survey of the past and prospects for multilateralism. Since there’s no online version of the paper, and my transcribing abilities are limited, I’ll just mention the main points I gathered, with the caveat that I may have missed some subtleties.
She observed that the multilateral system faces some serious challenges because, in some sense it has been taken for granted. Three major problems are identified.
- The reliance on preferential trading arrangements (PTAs), which might possibly cause more trade diversion than creation, but more importantly may be diverting attention and resources from the more important task of implementing multilateral trade barrier reduction.
- Capital flows do not fall under any system of nondiscrimination with regard to source and destination. Combined with the proliferation of PTAs, this may lead to discrimination in the treatment of capital flows.
- Countries are favoring their short term self interest over their longer term interest in a well-working multilateral system. The concrete example she has in mind (I think) is the realignment of voting rights within the IMF.
I discussed the potentially anti-trade aspects of so-called “free trade agreements” in this post.