Do imbalances matter?
I’ve noticed that intellectuals like to talk about “imbalances,” especially pundits interested in international issues. I don’t see how it’s a useful concept, although I’m willing to be enlightened.
I do understand the concept of market failure, or bad public policy. But I don’t see how a term like ‘imbalances’ adds anything to the statement that “policy X reduces aggregate welfare.”
When I lived in Queensland back in 1991, the Australians I met were very worried about their chronic current account deficits surpluses. And they’ve run huge CA deficits every year since.
On the other hand Japan has run current account surpluses year after year, decade after decade.
In a deeper sense there is no such thing as exchange imbalances, all international transactions merely involve the swapping one type of product (goods and services) for a difference type of product (assets.) Why should we care?
Once counterargument is that CA imbalances are often the symptom of a deeper problem, say excessive indebtedness. For instance, the Greek CA deficit reflected excessive government borrowing, and the Spanish CA deficit reflected excessive real estate speculation. Fine, but then why talk about “imbalances?” Why not talk of excessive government borrowing, or a dysfunctional banking system?
Oddly Japan is almost universally viewed as a country with a bleak future, despite its CA surpluses. Its population is aging fast, and beginning to decline. Its nominal GDP is trending downward as its public debt keeps increasing. On the other hand Australia is a relatively fast growing country, with a high level of immigration and a trivial public debt.
So what do the persistent CA deficits tell us about Australia, and what do the persistent CA surpluses tell us about Japan?
All countries have “imbalances.” All countries have problems. I simply don’t understand what the former tells us about the latter.
Income, inflation, interest rates, imbalances. I hate i-words. Replace them with consumption, NGDP growth, asset prices, and bad public policies. Those are what really matter.
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26. February 2013 at 10:42
Agree completely. Before I turned about 45, I was a net borrower. From the age of 47 I have been a net saver. I’ve been contributing to imbalances all my life, except for one year. If nobody borrowed or saved, we would have no imbalances. What, then, do we have financial markets for?
26. February 2013 at 11:01
“In a deeper sense there is no such thing as exchange imbalances, all international transactions merely involve the swapping one type of product (goods and services) for a difference type of product (assets.) Why should we care?”
Because if those goods and services are being put towards consumption (as opposed to infrastructure, assets or other investments), then country A is not balancing its future with the present.
Balance is a relevant conversation because excessive government borrowing is not an absolute, but something that is relative. If our economy hadn’t tanked, the debt would not have gone up so much under Obama. If we export more, importing more is not so much of a concern.
26. February 2013 at 11:07
I think “imbalance” is just used to refer to situations in which there should be, or supposed to be, for health and safety and other reasons, a particular larger (or smaller) ratio of some sort between the factors considered as imbalanced.
It’s lingo carried over from other fields, like most non-classical concepts in contemporary economics.
Years ago one of my econ profs used the phrase “particle filter” to describe a statistical methodology he was discussing. I burst into laughing, and then had to embarrassingly excuse myself by saying I was thinking of a joke from before.
Also, lots of pundits get hooked on Zen-like phrases and new age eastern philosophy mumbo-jumbo. A world of “balance”. A world of “imbalance.” This is carried over from mythical stories of Gods whose times of conflicts and peace created periods of Earthly imbalance and balance.
If you want to rid economics of this gobbledygook, then we have to get to the source: the hermeneutic influx into economics, which has turned economics into an “interpretive” literary doctrine, and, to the 1950s, when economics, at the behest of Milton Friedman, hero to many, really became a positivist, “scientific” field of inquiry, where “verbal economics” that was more philosophical was jettisoned by most as outdated.
You’re going to have to abolish this trend, and get economists to stop pretending they’re physicists and literary interpreters.
If not, it’s only going to get worse, as hoards of revisionists keep entering the field, and as physics advances more and more and economists with physics envy have to keep adopting more and more lingo from that field.
26. February 2013 at 11:18
Tyler, I don’t follow, can you be more specific? It almost seems like you agree with me.
Perhaps there’s a typo–how can services be put toward infrastructure?
Geoff, I don’t recall Friedman ever worrying about imbalances–don’t blame him.
26. February 2013 at 11:28
Imbalances are only important for a country like China that is using imbalances to affect exchange rates or a country like Argentina where capital flows in foreign currencies could induce a crises. I can’t imagine a situation where an “imbalance” in the current account would cause good or harm.
26. February 2013 at 11:35
You hate intelligence, intimacy, and ideas.
Scott – to say such a thing!
26. February 2013 at 11:40
When a country is in a fixed-exchange-rates regime (gold standard, currency board, currency union etc.), “imbalances” tend to be a reflection of excess NGDP growth. They are a concern because they usually lead to a very disruptive “rebalancings” (i.e. balance of payments crisis and/or economic contraction), unless pre-emptive action is taken to avert the excess nominal growth in the first place (by running a contractionary fiscal/macro-prudential policy). (BTW, perhaps this is one way to make sense of the Austrian literature on business cycles.)
26. February 2013 at 11:49
I worry about mental imbalances of our political and economic leaders.
Sen Shelby asked Bernanke if the securities on the Fed’s balance sheet are performing.
26. February 2013 at 11:57
If the economy goes downhill again, the next G7 meeting is going to consist of Jon Stewart, Ricky Gervais, and Beppe Grillo.
26. February 2013 at 11:57
When I was a student my Econ Prof said taht a current account deficit was a wonderful thing. The Japanese send us a car, we send them a peice a paper.
Larry Kudlow said something similar when I met him about 10 years ago — although couched in more ‘patriotic’ terms. In Kudlow’s model a current accound deficit suggested greater opportunities than are available in other countries which brings foreign investment dollars to us.
26. February 2013 at 12:02
I’m saying that using a “balance” framework in economic conversations is just a rhetorical tool to emphasize that things like current accounts or excessive indebtedness are subjective judgments made not on the basis of absolute numbers, but on what seems like a sustainable status quo.
Excessive government spending is only excessive if the spending is not justifiable and/or sustainable. So you might choose not to use the word imbalance, but the implication is still there.
To address the question you pose at the end of your post: “All countries have “imbalances.” All countries have problems. I simply don’t understand what the former tells us about the latter.”
An imbalance tells us that a potentially harmful status quo exists today. Unless you believe that a nation can continually consume more than they produce, a CA deficit is inherently unsustainable. If Austrialia is running a CA deficit consistently over the years, that begs a question: As a society, are they are living above their means? Or are they borrowing now to make an investment in greater future production?
26. February 2013 at 12:04
Scott
The “imbalances” argument, especially when applied to the international economy is quite off the mark. The US and Australia are good examples. The US has ‘progressed’ from being a ‘mature creditor’ 40 or so years ago, to being a ‘young debtor’ in the late 1990s. Australia has remained a ‘young debtor’ for most of its lifetime. For the last 150 years it has had CA deficits but the foreign capital inflow is still bigger than the interest cost on its stock of debt, implying trade deficits and a (still) growing net foreign liability.
Maybe people are jealous of the ‘young’!
26. February 2013 at 12:22
I don’t like that people conflate a CA deficit with borrowing. If there are more investment opportunities in the US than Americans are interested in/better opportunities in the US than elsewhere, then the US does not have to borrow to run a CA deficit. Yes, in a sense the US is racking up future bills because Americans will have to pay some future returns to foreign investors. However, those returns might not exist at all had it not been for the CA deficit in the first place.
One can view a CA deficit as opposed to a balanced CA as allowing foreigners to make the good investments so that Americans can ‘needlessly’ consume more. Another view is that a CA deficit as opposed to a balanced CA is allowing foreigners to contribute to the domestic economy in exchange for some future returns. The former makes a CA deficit seem immoral. The latter makes it seem like the optimal result of rational decision making.
26. February 2013 at 12:32
I don’t think that current account imbalances or trade imbalances are bad; they are just signals that something else is wrong. For example, high current account deficits are, many times, the sign of a massive inflow of capital that causes a growing debt(whether in the private sector or the public sector). Usually, current account imbalances tell a tale of something else being wrong; they themselves are not “bad”.
26. February 2013 at 12:48
Dr. Sumner:
“Geoff, I don’t recall Friedman ever worrying about imbalances-don’t blame him.”
I didn’t blame him for “imblance” per se. I blamed him for the influx of non-economic concepts shoehorned into economic thinking such as “imbalance.” That’s why I said “less so” for him, and why I said we should go to the source.
Even if time travel were possible, I don’t think finding the guy who would have first said “imbalance” in economics, and diverting his attention such that he doesn’t get the chance, would work. The influx of such phrases was already on its way.
I don’t blame my former prof for using the phrase “particle filter”, even though he did use it. I blame the intellectual environment created by others before him that welcomed him into borrowing such phrases from the natural sciences…which Friedman is in large part responsible for.
26. February 2013 at 13:26
anon, You said;
“When a country is in a fixed-exchange-rates regime (gold standard, currency board, currency union etc.), “imbalances” tend to be a reflection of excess NGDP growth.”
I don’t agree, regardless of how you define “imbalance.” And without a specific definition (current account, overall balance of payments, etc) the statement is literally meaningless. If you mean a CA deficit, it merely means domestic S doesn’t equal domestic I. Which is almost always appropriate.
Doug, You said;
“When I was a student my Econ Prof said taht a current account deficit was a wonderful thing. The Japanese send us a car, we send them a peice a paper.”
Well I suppose if you consider car loan “a wonderful thing”–it’s all a matter of taste.
Suvy, I don’t agree that they signal something else is wrong. If something else is wrong, then why not focus on something else? Why focus on CA imbalances?
Tyler, You said;
“An imbalance tells us that a potentially harmful status quo exists today. Unless you believe that a nation can continually consume more than they produce, a CA deficit is inherently unsustainable.”
Sorry, but a current account deficit does not mean a country is consuming more than it produces. I’m pretty sure Australia produces more than it consumes. But you are giving me ideas for future posts.
26. February 2013 at 14:32
“When I lived in Queensland back in 1991, the Australians I met were very worried about their chronic current account surpluses.” The last word should be ‘deficits’.
26. February 2013 at 15:35
“I don’t agree that they signal something else is wrong. If something else is wrong, then why not focus on something else? Why focus on CA imbalances?”
There really shouldn’t be a focus on current account balances. My point was that it may tell you something about what’s going on in the country itself. I don’t think that we shouldn’t pay attention to it at all; I think that it’s just an indicator.
I’d also like to add that I think a current account balance is a bad indicator to tell whether or not a country’s living beyond its means.
26. February 2013 at 19:05
Tyler J was spot-on. If Tyler was wrong, then so was Volcker.
People who use the term “imbalances” and see that CA deficits/surpluses are unsustainable, are the people who saw the Great Recession coming a mile away.
The former Chairmen saw the storm coming as early as 2005:
http://www.washingtonpost.com/wp-dyn/articles/A38725-2005Apr8.html
A couple of quotes from that article by Volcker from Apr 2005:
“… under the placid surface, there are disturbing trends: huge imbalances, disequilibria, risks — call them what you will.” …
“this seemingly comfortable pattern can’t go on indefinitely. I don’t know of any country that has managed to consume and invest 6 percent more than it produces for long.”
26. February 2013 at 23:02
[…] Source […]
27. February 2013 at 06:56
Thanks Philo, I corrected it.
Ricardo, He’s been proved wrong. The Aussies have the worst CA situation of any country in the developed world, and they had no recession at all. Japan had a recession, and runs CA surpluses. In any case, if you have a CA problem, the solution is to produce MORE, not less.
27. February 2013 at 14:58
I agree, though I guess such talk is usually fairly harmless; it becomes pernicious when attempts are made to pin the blame for the global financial collapse on CA imbalances and China’s “excess savings”. Analysis confined to national account concepts like savings and investment throws no light on the cross-border flows that actually finance credit booms. Indeed, it diverts attention away from the key monetary and financial factors involved; please see http://www.themoneytrap.com/2013/02/why-excess-savings-do-not-cause-financial-crises/
28. February 2013 at 07:52
Scott,
You said: “Sorry, but a current account deficit does not mean a country is consuming more than it produces. I’m pretty sure Australia produces more than it consumes. But you are giving me ideas for future posts.”
I find it odd that you take out of context a statement I made so that you can say nearly the same thing the context said. In the second half of that same paragraph you quoted I said:
“If Australia is running a CA deficit consistently over the years, that begs a question: As a society, are they are living above their means? Or are they borrowing now to make an investment in greater future production?”
One possible explanation for a CA deficit is that consumption of imported goods is greater than production of goods to be exported, which would tilt the balance of trade. The balance of trade is not the only factor in CA. If foreigners are acquiring more Australian assets than Australians are acquiring foreign assets, that also would lead to a CA deficit. Likewise if Australians’ domestic investment is higher than savings, that would also affect the CAD.
You also said: “Ricardo, He’s been proved wrong. The Aussies have the worst CA situation of any country in the developed world, and they had no recession at all. Japan had a recession, and runs CA surpluses. In any case, if you have a CA problem, the solution is to produce MORE, not less.”
I did not assert that CAD = recession in 2008, so if you think my argument demands it, I’d like to hear an explanation. Otherwise it’s a straw man, similar to your earlier response.
28. February 2013 at 16:51
Robert, I agree.
Tyler, Ricardo said;
“People who use the term “imbalances” and see that CA deficits/surpluses are unsustainable, are the people who saw the Great Recession coming a mile away.”
The Great Recession occurred in 2008. That’s what I was responding to. CA balances are a very poor way of predicting recessions, almost useless.