World economy : Mr Everything-is-OK versus Mr We-are-dancing-on-the-volcano

Le Monde, Septembre 18th, 2005

It's been three years, now, that the world of economists is torn asunder in two camps : there are those who think that the current growing imbalances of the economy of the planet will lead to a tremendous krach, and those who estimate, on the contrary, that world growth is strengthening.

The heart of the dispute lies in the United States, the most powerful economy in the world, which grows at the remarkable, and envied, rate of 3 to 4% per year ; but it achieves this by pumping an ever growing part of world financial resources. This year, close to 70% of world savings will be invested in dollars.

These funds, which pour into America, have obvious positive effects : the american consumer feels rich, he is on a buying spree of goods, mostly imported from overseas. He is getting into debt for his sweet home : housing prices have inflated, like they never have in the past. The United States created 2 million jobs last year. The unemployement level is at a low point of 5%. Firms are investing and increasing their productivity. Profits represent 8% of GDP, a percentage unseen since... 1951.


Growth is riding these favorable winds, and is not really thwarted by the rise in oil prices : the expected 3,6% growth should be achieved for the year 2005.

Nonetheless, this machine, functionning at full speed, is running on other people money. American households reduced their savings to 1% of their income. Imports increase the trade deficit - not a new thing, but it will exceed, this year, $650 billion, i.e. 6,5% of the GDP. Furthermore, the federal government is also living above its means : last year's record public deficit of $412 billion will be broken again this year if we take into account the consequences of hurricane Katrina (the reconstruction costs are evaluated at $200 billion). How long can this imbalanced growth last ?

For the pessimistic, the scenario is already written. Since no corrective action whatsoever was taken in recent years and none appears to be planned, the risk of rather brutal crash landing is becoming more and more probable. There will soon come the day when financial markets leave the ballroom which is on top of the volcano of the huge american debt. The markets will become wary of the dollar, and this will spurr a spiraling movement of decline : the decreasing purchasing power of the dollar will feed inflation, interest rates will sky rocket, which in turn will lead to the "housing bubble" burst, and it will stifle growth. The krach and its aftermaths will be felt all over the world.

Thank god, this bleak scenario hasn't happened yet. Every small move of the american currency is closely monitored, the price index is peered over, we watch the "bubble" of housing assets, we shudder to think of the consequences of Katrina, we fret to distinguish the slightest sign of worry in the words of god Alan Greenspan, president of the Federal Reserve System, but no, nothing happens, everything stays still. Surge in oil prices or hurricane, the building remains sturdy, and "the imbalanced growth" keeps on. Next year, another leap of 3,3% in the GDP is foreseen.

Will the pessimistic end up being right, or are they wrong, and why ? There are two explanations to the absorption of past shocks. Firstly, if the oil price rise does not break the growth, like it did in the 1970's, it is because western economies are only half as dependent upon oil as they were then, thanks to energy savings and to alternative energy sources.

Secondly, if the Katrina effect is kept within bounds (0,5% less growth over the rest of the year), it is due to reconstruction expenditures which will have a positive multiplier effect. [Modern economic problems in western economies are not problems of production of goods and services, they are problems of distribution to everyone. So, when there is a disaster, since everybody must get to work, everybody will receive the means to buy goods and services for his living. It is one of the paradoxes of modern western economies. The same is true in France.] If the dollar maintains its value, it comes from an anticipation by the markets of a change in the budgetary policy of George Bush (he will relinquish his promise to lower taxes, in order to curb the deficit). If the housing bubble hasn't burst yet, it is because a movement of correction is smoothly beginning.


But, nowadays, a more profound explanation is offered by economists. We have entered, so they say, a new era with three major features : globalisation, the "end of inflation", and a surplus of world saving. These three features are linked together : it is the globalisation which, by exacerbating competition among firms and preventing them from jacking up their prices and salaries, is bringing inflation back, everywhere, around 2%.

The waning out of the dragon of the 70's [inflation] has created, worldwide, a new class of idle people living on the interest of their assets. At any rate, one can observe that in many countries income is higher than consumption. Whence, a saving surplus - which Lord Keynes denounced, at the scale of one country, in the 30's - would now be a feature of the whole planet, according to Ben Bernanke, one the Fed's economists, who also became an adviser to President Bush.

The reasons are numerous. Oil producing countries earn much more money than needed for their investments, and they "recycle" their excess income. Multinational corporations, too, earn much more money than they spend, so they buy back their own stocks, or they accumulate heaps of gold. China receives from its exports more than it invests. In Japan and in Germany, the demographic phenomenon of aging population entails an increase in savings. All these movements, of different nature, add up.


The saving surplus is huge : $11 000 billion, according the IMF, that is, the size of the american economy. It is a blessing for governements, many of whom live above their means, at low financial cost. This excess also explains the "bubbles" : the stockmarket bubble of 2000, the housing bubble today. Henceforth, it even enables developing countries to benefit from falling interest rates. As we see, it is not only the United States who profit from the situation, the windfall is shared by others. No losers : that's why the system keeps on, despite its imbalances.

A trend correction, no doubt, is necessary. But one understands better why, for the last three years, Mr Every-is-OK has had the upper hand over Mr We-are-dancing-on-the-volcano.

Eric Le Boucher

[The teacher belongs to the category "We-are-dancing-on-the-volcano". The present US economy is reminiscent of a war economy. The only situations, in history, when a country or several countries maintained a large deficit with other nations were when they were at war. During the war, inflation surged in these countries running a deficit, and after the war their currencies lost their prominence. This is what happened to England and the other european countries during WWI and during WWII. During these two wars, the United-States financed the european allies. In the end, the dollar became the most powerful currency in the world, just like the pound was the most powerful currency in the world during the two centuries before the outset of WWI. Now, the situation of the US is reversed : they are the country which is financed by other countries, mostly Japan and China. The housing bubble is only a first signal of inflation (either there will be a burst followed by a depression and deflation - like in England in 1925-1930 -, or inflation will explode - like in France in 1920-1925). Setting aside the specific situation of the yen, this leads us to believe that it will contribute, when the yuan is set free, to make it the most powerful currency in the world. And it will change the world financial, economic and social order.]