Jeffry Frieden, Professor of Government at Harvard, has a new Council of Foreign Relations working paper “Global Imbalances, National Rebalancing, and the Political Economy of Recovery” :
Global macroeconomic imbalances — massive borrowing by some countries and massive lending by others — drove the financial boom and bubble that eventually burst into the current crisis. There is now nearly universal agreement that such imbalances cannot be sustained, and that the former deficit and surplus nations need to move toward macroeconomic balance.
However, rebalancing requires a fundamental reorientation of some of the world’s major economies, a reorientation that will lead to major economic, social, and political tensions. Foreign borrowing by the deficit countries fed an orgy of consumption that was wildly popular so long as it continued; but the accumulated foreign debt that has resulted will now begin to impose sacrifices that will be just as wildly unpopular. Nations that have relied on foreign borrowing to fuel government and household spending will have to cut back drastically. They face a reduction in real wages, in consumption, in the standard of living. At the same time, nations that have relied on exports as the engine of economic growth will have to figure out how to power their economies without relying on foreign
markets. These political economies dominated by powerful export interests face fundamental challenges to those interests, as their export orientation may no longer be sustainable.
In deficit and surplus nations alike, the attempt to adjust to a new international economic reality will almost certainly lead to major conflicts within nations and among nations. What are these conflicts likely to be, and what do they say about prospects for the future? For guidance, one turns to history and theory. First, this paper reviews some of the extensive historical record on how the world
economy, and the countries within it, has attempted to redress macroeconomic imbalances. Then it explores what theory says about the adjustments necessary to rebalance, and how this is likely to play out in national and international political economies.