By Krishna Guha in Washington
Published: November 24 2009 18:22
All shopped out: the Old Navy store in Chicago declares it is ‘Time to Shop’ but US consumers have cut their spending
The economic crisis brought jarring shifts that have moderated some of the domestic and global imbalances that many believed helped foster the crisis in the first place.
It remains unclear, however, how far domestic adjustments in the US and elsewhere have to proceed – and whether external imbalances will be sustained at levels that do not generate risks for the global economy in the future.
A significant adjustment in US households has clearly taken place. US consumer spending turned negative for several quarters and the stock of consumer debt has fallen by about $150bn since early last year.
The household savings rate, which averaged only 1.7 per cent of disposable income in 2007, moved higher to peak at 5.9 per cent in May with an added boost from fiscal stimulus before easing back to 3.3 per cent in September. Yet economists are unsure how much longer this process has to run.
“The US consumer was overborrowing but one does not know exactly what that means,” says Martin Bailey, a fellow at Brookings and former senior economic adviser in the Clinton administration. There are two ways of thinking about indebtedness, and they tell different stories.
The ratio of household debt to income – which peaked at 136 per cent in the first quarter of last year – has barely declined and remains far above its historic average of about 100 per cent. This suggests US consumers have a long way to go in repairing their balance sheets, since saving makes only a gradual dent in the stock of debt.
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Yet ratios of net worth – which has recovered some way following the rebound in the stock market – to income tell a different story. While net worth has plummeted from about 625 per cent of income to a little under 500 per cent, it is only modestly below the 550 per cent average since 1993.
This suggests the US consumer may not need to make radical adjustments from here.
A recent research note from Bank of America Merrill Lynch showed that under plausible assumptions, if US households try to cut their debts to 100 per cent of income in 10 years, the savings rate would have to rise to 12 per cent.
But if they wanted to restore their net worth to its long-term average relative to income – and invested in assets rather than just paying down debt – the savings rate would need to edge up only to about 5 per cent.
“It is quite likely that as we recover, consumption in the US will rise at a rate that is close to growth in disposable income – though not faster as in the past,” says Mr Bailey.
For the time being, the decline in private sector borrowing in the US and UK (and to a lesser extent other industrialised economies) has been partly offset by an increase in public sector borrowing as governments have tried to maintain demand through fiscal stimulus.
But as US president Barack Obama tried to explain on his tour of Asia, the US and those nations with large budget deficits need others to boost demand so public spending can be pared back while recovery is sustained. This is the old thorny question of global imbalances.
Since the start of the crisis, these imbalances – reflected in huge current account and trade surpluses and deficits – have moderated. The International Monetary Fund predicts the US current account deficit will halve from 5.2 per cent of GDP in 2007 to 2.6 per cent this year, with the UK seeing a smaller decline from 2.7 per cent to 2 per cent.
The corresponding surplus in developing Asia is expected to decline from 7 per cent of GDP to 5 per cent over that period, with a sharp – but probably short-lived – drop in Middle East surpluses from 18.1 per cent of GDP to 2.6 per cent.
The question is whether this moderation is cyclical or structural. “It is difficult to parse, but one has the sneaking suspicion that a lot of it is cyclical,” says Ken Rogoff, a professor at Harvard and former IMF chief economist. “Absent forceful policy changes, the US current account deficit might crawl back to around 5 per cent.”
Raghuram Rajan, a professor at Chicago Booth business school and former IMF chief economist, says “the latest data suggests the US current account deficit is widening again” as the recovery takes hold.
Mr Rajan says surplus countries have learned the risks of being overdependent on US demand. But he adds that the adjustments needed to produce a long-term moderation in the global imbalances involved – not just politically explosive currency shifts but also structural reforms in both surplus and deficit nations.
Some economists do not worry too much about these imbalances relative to, for example, the design of the financial system. Mr Rogoff argues, however, that a return to large imbalances would be dangerous as capital inflows into the US – and other large deficit nations – would eventually fuel another bubble. “It would mean we will have another deep financial crisis in 10 to 15 years rather than 50 to 75,” he says.
Copyright The Financial Times Limited 2009.
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