A PLAN TO LIVE WITH IMBALANCES / THE FINANCIAL TIMES COMMENTARY & ANALYSIS ( VERY HIGHLY RECOMMENDED READING )

A plan to live with ‘imbalances'

By Samuel Brittan

Published: Last updated: June 3 2010 22:13

Some of my older readers may remember national savings drives. These were prominent in the second world war as part of the “civilian effort”. But they lingered for many decades; and within living memory every UK Budget speech contained a sentence of thanks to the chairman of the National Savings Movement. Now the citizens of some countries, especially China and Germany, are being subjected to the opposite kind of propaganda: to spend more for the sake of the world economy. My own belief is that individuals and families should make up their own minds about how much to save. Official efforts should not go beyond school lessons in personal finance.

The reason why some experts suppose otherwise can be summed up in the words “international imbalances”. This simply refers to current balance of payments surpluses and deficits. Total world imbalances grew, according to International Monetary Fund estimates, from negligible amounts at the end of the last century to 2½ per cent of world gross domestic product in 2006-08. By 2009 this total had shrunk dramatically to about 1½ per cent. This was largely due to the recession. A worldwide excess of attempted saving over desired investment was brought into line by a drop in output and income, which reduced the desire to save in the surplus countries and the desire to invest in the deficit ones. The IMF fears that economic recovery may lead to a return to larger imbalances, which will put that recovery at risk.

There are basically two views about imbalances. The goody-goody view is that “excess” surpluses and deficits need to be reduced by appropriate policies, preferably co-ordinated internationally. The alternative view is that so-called imbalances are the natural outcome of international borrowing and lending. A German surplus or a US deficit is no more pathological than a payments imbalance between Yorkshire and Sussex – as David Hume pointed out two and a half centuries ago. The remedy for slumps and booms should be monetary and fiscal policies to expand or contract demand without attempting to play God with the pattern of inter-country payments.

There is, however, not an economic but a political case for doing something about imbalances. The Chinese government is not going to launch an anti-savings drive to please the IMF. But it is getting restive about holding its huge and ever increasing reserves in short-term dollar securities of minimal yield and uncertain value. The natural course would be to diversify into tangible real investments with better likely returns. But there is a limit to how far the US and Europe would want key strategic facilities to be held by China. The alternative would be for Asian surplus countries to put savings into other emerging countries, which to some extent they are doing. But this is a slow process.

Governor Zhou Xiaochuan of the Chinese central bank put forward in April 2009 the case for a “super-sovereign reserve currency”. Such a currency already exists in embryonic form in the IMF Special Drawing Rights. Total SDRs in existence are now worth $300bn or 3 to 4 per cent of world reserves. At the moment they are only a quasi-money. The best attempt I have seen to explain their status is in Goldman Sachs’ Global Economic Paper No. 196. The main point is that they only come into existence if a member country borrows from the Fund. That is why it was so easy for the G20 to agree in 2009 to a potential “tripling of IMF resources”. Unless and until this is taken up it is a costless operation.

Why not, however, gradually give the SDR more of the characteristics of a genuine money and allocate new issues to emerging countries? This was originally proposed in a now long-forgotten plan by the late Maxwell Stamp. The purpose of a revival would not be to add permanently to emerging country reserves but to provide these countries with the wherewithal to increase investment. Surplus nations such as China would then receive payments in non-depreciating currency guaranteed against default and SDR users would have much less reason to fear undue Chinese political influence. Moreover, instead of the uphill task of persuading the western political and financial establishments that budget deficits are permissible and desirable in the face of a potential world savings surplus, the offset to that surplus would be provided by development expenditure, which would be doubly blessed as “investment” and as part of an attack on world poverty – all this would attract bien-pensant lobbies in a way that the more abstract Keynesian arguments on their own evidently cannot.

I can already hear German leaders denouncing the plan as inflationary; and an honest answer to their objections would require giving the IMF the power not to issue, or even withdraw, SDRs if it judged that the main danger was of excessive rather than deficient world demand. If we went along this route the IMF would acquire some of the characteristics of a world central bank. But at least this approach is more promising than droning on and on about “imbalances”.

Copyright The Financial Times Limited 2010.