Global imbalances: current accounts and international asset positions

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1 Global imbalances: current accounts and international asset positions Stephen G Cecchetti Economic Adviser and Head of the Monetary and Economic Department Bank for International Settlements Amsterdam, March 18, 2013 The views expressed in these slides are those of the presenter and do not necessarily reflect those of the Bank for International Settlements. Restricted

2 Restricted 2

3 Global imbalances: current accounts and international asset positions Stephen G Cecchetti Economic Adviser and Head of the Monetary and Economic Department Bank for International Settlements Amsterdam, March 18, 2013 The views expressed in these slides are those of the presenter and do not necessarily reflect those of the Bank for International Settlements. Restricted

4 Motivation Global imbalances and currency wars Current account imbalances increased before the crisis And these imbalances risk disorderly adjustment But they are correcting slowly (and currencies are helping) Missing from this traditional view: international balance sheets Gross financial flows exploded before the crisis Risks accumulate on balance sheets And these gross positions are not declining Conclusion: we need to include gross flows in the policy debate Restricted 4

5 The traditional view Global current account balances As a percentage of world GDP; shaded area indicates projections Restricted 5

6 What are global imbalances? Large and persistent current account surpluses & deficits Export-led growth model in emerging markets Leverage led growth in advanced economies Consequences: - High debt in advanced economies - Large FX reserves in emerging economies Caution: Deficits and surpluses are often temporary or justified Fast growing countries (like 19 th century US) often run deficits Australia ran current account deficits for 100 years Restricted 6

7 Need for adjustment What is the problem with current account imbalances? Capital flow reversals Large and abrupt currency adjustment Competitive devaluations Protectionism What is the solution? Nominal adjustment (exchange rates) Real adjustment (domestic demand) Restricted 7

8 Current account adjustment Nominal adjustment CA=X-M Changing relative prices (REER) affect X and M Real adjustment CA=S-I Domestic policy affects S and I - Structural policies (taxes, social safety net) - cyclical policies (budget deficit) all work Restricted 8

9 Regional imbalances Current account balances As a percentage of GDP United States and East Asia 1 Euro area Rest of the world Restricted 9

10 Nominal adjustment: United States and China Real exchange rate adjustment: inflation and nominal exchange rates Real effective exchange rates = 100 Nominal exchange rate and inflation Cumulative m-o-m percentage changes Restricted 10

11 Real adjustment: euro area Real adjustment in the euro area, Contribution of changes in savings and investment to current account balance adjustment Percentage of GDP Restricted 11

12 What is missing? International balance sheets The problem with current accounts: net measure In and outflows are netted against one another But you cannot net the risks these flows crate Risk comes from gross exposure You could not net Lehman and AIG assets and liabilities Our example: the pension fund and the bank Balance sheets risks: maturity, currency, credit risk etc And these gross exposures dwarf current account balances Restricted 12

13 The missing view: international balance sheets International investment positions of all countries As a percentage of world GDP Global GDP ~US$75 trillion Restricted 13

14 National balance sheet positions and current accounts Gross flows for selected countries As a percentage of GDP Brazil China United States Restricted 14

15 International investment positions How large should international positions be? Theory: perfect cross-country risk sharing - Everybody owns the same global portfolio - Value of global capital stock around 400 percent of global GDP - Implies around 300 percent of global GDP balance sheets Practically it will be much lower due to home bias Practical approach: analyze costs and benefits Advantages: risk sharing, efficient capital allocation Disadvantages: contagion, large balance sheets, credit booms Restricted 15

16 Too much finance can be bad Productivity growth and financial sector share 16 OECD countries, Employment share of finance Growth in the financial sector Restricted 16

17 and gross flows can lead to too much finance directly Bank credit to non-banks At constant end-q exchange rate Ireland Latvia Restricted 17

18 and even more so indirectly International credit and credit expansion in emerging markets (Q Q2 2008) 1 In per cent Direct cross-border credit 2 Direct + indirect cross-border credit 3 Restricted 18

19 and even more so indirectly International credit and credit expansion in emerging markets (Q Q2 2008) 1 In per cent Direct cross-border credit 2 Direct + indirect cross-border credit 3 Restricted 19

20 Conclusion Current account imbalances are a problem and need attention The traditional view misses gross flows and gross positions Investment positions have grown enormously They carry large risks We need to refocus the policy debate from current accounts and currency wars to gross flows and international balance sheets Restricted 20

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