To get itself out of the global economic crisis, the world can no longer rely on the United States to be the “borrower and spender of last resort,” said Martin Wolf, associate editor of the Financial Times and author of the book Fixing Global Finance.
Instead, emerging countries must play a bigger role. A larger International Monetary Fund safety net is needed to encourage those countries to take bigger spending risks in their own currencies, Wolf said. China in particular has been saving way too much, with the Chinese government saving between 55 percent and 65 percent of gross domestic product.
“The emergence of extraordinary global imbalances” contributed to the current economic crisis, he said, as did the credit boom and financial innovation. Wolf spoke March 3 at Gleacher Center at a Myron Scholes Forum presented by the Chicago Council on Global Affairs and the Initiative on Global Markets.
The Asian economic crisis of 1997 to 1998 marked “a turning point for the policy making of emerging countries,” Wolf said. Countries concluded that running huge deficits to support investments was “sensationally dangerous,” particularly if financed with foreign currency. Consequently, these countries, for the most part, decided against floating currency freely. They built up currency reserves. “This was an astonishingly successful policy regime,” Wolf said.
Foreign currency reserves grew from $1.5 trillion in 1999 to a peak of $7 trillion last year. “This amounted to a massive flow of capital from the poorest countries to the richest countries,” Wolf said, with the United States absorbing a majority of it. Asset bubbles started emerging around the world, he said, including housing bubbles in wealthy countries like the United States, the United Kingdom, Spain, and Australia.
At the same time, credit boomed. In the United States the household sector has been consistently spending more than it makes, Wolf said. In the past decade the ratio of household debt to GDP roughly doubled in the United States and more than doubled in the United Kingdom, he said.
Over the last 30 years, the U.S. financial sector’s balance sheet expanded six times faster than GDP, he said. At its peak, the U.S. financial sector “supposedly generated” 45 percent of corporate profits, Wolf said “If you can believe that, you can believe anything,” he said.
Now a period has begun of de-leveraging the household and financial sectors, Wolf said, which likely means inflation. Global rebalancing is needed, he said.
“It doesn’t make much sense to spend so much of our effort opening up the global capital as we have done…in order that developing countries should send hundreds of billions of dollars a year to the world’s richest countries to build buildings that it turns out nobody wants,” Wolf said. “This is not a sensible process, and therefore we have to think of something slightly more intelligent.”
Hari Vijayarajan, first-year student in the Full-Time MBA Program, said students had been learning a lot about causes of the economic crisis. Wolf offered a fresh perspective by discussing solutions that “kind of surprised me,” he said, particularly regarding the role of emerging markets.
— Mary Sue Penn