The Benign View of Global Imbalances
RBA Governor Macfarlane has long taken a benign view of global ‘imbalances.’ Fortunately, it would seem that this perspective is shared by his Deputy, Glenn Stevens, widely tipped to take over from Macfarlane when his current term expires in September:
it is common for observers to warn against the risk that the ‘imbalances’ may unwind in a disruptive fashion. Often this is not spelled out. What is sometimes meant, I think, is that those currently accumulating dollar-denominated claims suddenly change their minds, precipitating abrupt movements in exchange rates and interest rates. Such developments might, in this view, lead to a pronounced weakening of domestic demand in countries like the US if long-term interest rates rose abruptly, while a big decline in the dollar might affect the ability of areas like Europe to export.
One can never rule out the possibility that financial markets will suffer a sudden and dramatic loss of confidence. But it is not as though markets are unaware of the various ‘imbalances’ or the associated risks – they read about them on a daily basis. Yet the actual pricing for risk in markets apparently suggests an assessment that risks in general are of relatively little concern at present.
In the event that there is some market discontinuity, I suspect that it is more likely to be sparked by some sort of credit event that prompts a change in appetite for risk in general, than by reactions to current account positions per se. It is not obvious that US interest rates would rise, or the dollar fall, in the face of such an event.
posted on 22 February 2006 by skirchner
in Economics
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What do you make of this comment by Kenneth Davidson in today’s Age:
“Even if the Chinese can be persuaded to shift gear from export to consumer-led growth and run a current account balance without insisting on debt repayment, the arithmetic suggests that Australia and the US will have to cut living standards by cutting imports and switching production for domestic consumption into export and import-competing industries. Given the interest on the debt accumulated thus far, the adjustment would have to be greater than 5-6 per cent of GDP, involving recession, higher unemployment and higher interest rates to offset the inflation caused by currency depreciation.”
Link: Current account home to roost
http://www.theage.com.au/news/business/current-account-home-to-roost/2006/02/22/1140563861589.html
Posted by .(JavaScript must be enabled to view this email address) on 02/23 at 07:44 AM
Today’s post addresses this.
Posted by skirchner on 02/23 at 02:11 PM
Did you hear what “respected Asia watcher” had to say on AM this morning?
China boom headed for meltdown
http://www.abc.net.au/am/content/2006/s1579999.htm
TONY EASTLEY: China’s booming economy has created huge demand for iron and coal which has in turn helped underpin Australia’s economic success.
But a respected Asia watcher is now warning that China’s boom might be over. Dr Jim Walker is Chief Economist at Credit Lyonnais Securities Asia.
A decade ago, he sounded an early warning about the Asian financial meltdown. Dr Walker is now predicting that China’s growth rate could halve this year and fall even lower in early 2007. As well, he says China isn’t the only big economy about to suffer.
Dr Walker, who’s speaking at a series of conferences in Australia this week, outlined his views to Economics Correspondent Stephen Long.
JIM WALKER: It’s hard to put numbers on Chinese economic data just because they tend to be fairly well managed, but we expect that the growth rate will fall from where it was last year, which was 9.9 per cent to something in the region of five to seven this year and then probably a bit lower in 2007.
STEPHEN LONG: What is driving this slow down in growth in China?
JIM WALKER: Well, it’s the thing that actually drives slow downs in all industrialised and market-based economies and that’s where it’s interesting in China, because it’s the first time that profits will be at the heart of the slow down.
It’s profits that drive and have driven this investment cycle in China. It’s profits that will drive the slow down this time.
And of course part of the reason that those profits are disappearing is the extremely good commodity prices that you quite rightly say Australian producers and Australian manufacturers have been riding in the crest of a wave.
STEPHEN LONG: What do you think the likely implications will be for the Australian economy?
JIM WALKER: It’s much harder for us to judge that just because we really don’t focus that much on Australia. Obviously we know that there’s been a lot of Australian commodity sales into China.
The biggest danger for me would be that there would be a much more significant worsening in the current account deficit in Australia that would force the Central Bank to raise interest rates, because the currency started to weaken.
And at a point in Australia where probably the economy doesn’t want to see very much more in the way of interest rate rises, that could be quite dangerous.
STEPHEN LONG: And that would be because of softness in our commodity exports to China?
JIM WALKER: Yeah. Temporary softness. And that’s the whole point here, that this story in China is not going away, but what we have to realise is that China just like everywhere else will have cycles and it’s had a very long expansion. At the moment there’s a four or five year cycle on the upswing.
It would be very natural, and it is natural for that economy to slow down at least for 12 to 18 months.
STEPHEN LONG: Now, you also say the outlook isn’t very good in the US. How tough is it going to be in the United States?
JIM WALKER: Yeah, that comes more in 2007 and really our judgement there is determined very much by the shape of the yield.
The difference between longer dated maturities in the bond market and short-dated ones in terms of the interest rate that those yield, well the yield curve has inverted only seven times in the last 45 years, this is the seventh time.
The previous six have been followed within 18 months by recession. We see no reason to change the view that that’s what it’s signalling this time
Posted by .(JavaScript must be enabled to view this email address) on 02/28 at 12:05 PM
“The biggest danger for me would be that there would be a much more significant worsening in the current account deficit in Australia that would force the Central Bank to raise interest rates, because the currency started to weaken.”
I would give the same near zero probability of this happening in Australia as I would for the US.
Walker is as an Austrian School economist. He is much better than the fever swamp crowd, but still very wedded to the idea of credit-driven cycles.
Posted by skirchner on 02/28 at 01:00 PM
Well, I did find myself saying out loud (while listening to the radio this morning) “What’s wrong with just letting the currency weaken?”.
Doesn’t a weaker currency help correct the CAD by making imports more expensive and exports more competitive overseas?
Posted by .(JavaScript must be enabled to view this email address) on 02/28 at 01:06 PM