Haim:
Reading between the lines, Morgan Stanley chief economist Steve Roach seems to share some of your concerns.
Global: On Global Imbalances
Stephen Roach (New York)
As the global economy booms, talk of the coming bust is already in the air. Concerns on the downside focus mainly on the
perils of mounting imbalances around the world. Such imbalances have long been at the top of my personal worry list. In
its just-released World Economic Outlook, the IMF also underscores its concerns in this regard. How serious are these
risks?
Imbalances, of course, are nothing new in a now $32 trillion global economy. They come in all shapes and sizes. Such
imbalances can be manifested in the form of current-account and saving disparities, lopsided (asynchronous) growth
outcomes, sharp swings in inflation, currency fluctuations, income disparities across nations, balance sheet strains, and
excesses in financial markets. For those of us in the global macro business, the task at hand is to prioritize these risks and
assess their potential impact on the world economy and financial markets.
Today?s world economy is hardly lacking in imbalances. That said, I continue to be less concerned about risk of
imbalances on the real side of the global economy than I am about the potential for destabilizing repercussions from
financial markets. By our reckoning, world economic growth is more synchronous than it has been at any point since
1994; all the major regions of the world are in the midst of an acceleration of growth in 2000 relative to the performance of
1999. To be sure, a magnifying glass is needed to see the acceleration in the Japanese economy -- from +0.3% in 1999 to
an estimated +0.6% in 2000 -- but the improvement elsewhere around the world is quite impressive. As a result, the global
growth dynamic is far less lopsided today than it was in the depths of the crisis-induced recession of 1998.
Yet there is a dark side to synchronous global recovery. Historical experience underscores the linkage between
synchronous growth and inflation risk. While those risks have yet to materialize, signs are pointing to a global inflation
cycle that has now moved off its bottom. In addition, synchronous growth usually absorbs excess liquidity, typically
boosting the cost of financial capital. Financial markets are grappling with this very possibility at the moment. Moreover,
synchronous growth in the global economy is not without its leaders and laggards. The divergent growth outcomes in the
major regions of the world have contributed to the capital- and current-account imbalances that could well pose the most
serious threat to global recovery. At the one end of the spectrum is the United States, with its record current account deficit
totaling close to 4.5% of GDP in 2000. Japan is at the other end of the spectrum, with its current-account surplus
exceeding 2% of GDP. In dollars, America?s current account shortfall could hit $425 billion this year, essentially double
the combined surpluses of Japan, Euroland, and developed Asia.
These current account disparities are symptomatic of yet another set of imbalances in the world -- those pertaining to
saving and spending propensities. A saving-short US economy continues to need foreign capital to finance its massive
investment needs. A saving-rich Japanese economy continues to export its surplus capital in order to make that happen.
This connectedness becomes a source of global instability, only if the capital flows are interrupted or repriced. So far, that
has not been the case. But that could always change -- an outcome which would have profound implications for the relative
prices of currencies, bonds, and/or stocks.
Therein lies the weakest link in the global economy. The imbalances that worry me the most continue to lie in the financial
arena -- underscoring the possibility of destabilizing feedback from world financial markets to the real side of the global
economy. The wealth effect from an over-valued US equity market is especially worrisome in this regard. It has led to a
suppression of income-based saving and a concomitant reliance on foreign capital as a substitute source of financing. To
attract the capital inflows, the United States runs a massive current account deficit -- underscoring the insidious nature of
the web of global imbalances. Should one domino fall, the others could easily be at risk.
The wealth effect has also played an important role in driving aggregate economic growth; by Federal Reserve estimates, it
has accounted for one percentage point of annual GDP growth over the past five years -- sufficient to have generated fully
25% of the US economy?s cumulative growth since 1994. A sustained correction in the US stock market would obviously
trigger a negative wealth effect. However, given the breadth and depth of America?s new equity culture, there is a
significant risk of an asymmetry to such a negative wealth effect -- whereby a down market would hurt the US economy
by more than an up market helped it. Were that to occur, all bets would be off on the US growth miracle. The risk of
collateral damage elsewhere in the world -- both to global asset markets and to the real economy -- can not be minimized
under such circumstances.
On the surface, the world economy has made an extraordinary transition from crisis to recovery in the past 17 months. But
beneath that same surface, some worrisome imbalances linger. Globalization and the increased integration of world capital
markets means that the destabilizing repercussions of such imbalances can travel swiftly from one country to another --
and from one asset class to another. Such contagion was, in my opinion, the most lethal characteristic of the global
currency crisis of 1997-98. And it could well remain the biggest peril in the years ahead. The new connectedness of the
world economy and financial markets means that imbalances can wreak greater havoc than ever. |
