The End of Savings Glut?

By Ichiro Suzuki

One of the distinct developments in the global economy in the early years of the 21st century was a surge in savings among East Asia and the crude oil producing countries in the Middle East. It was a response from these regions to the ordeal they suffered at the end of the 20th century, which was the 1997-98 Asian Financial Crisis. Toward the end of the last century, it was found out that the Far East and Southeast Asian countries were running huge assets-liabilities mismatches on their balance sheets. Such mismatches caused a rapid exodus of capital by the developed West and Japan that had been till then enchanted with Asia’s growth stories and poured capital into the region. Asia suffered acutely, having been thrown into a depression with a double digit contraction of the economies and their currencies‘ free fall, and their foreign exchange reserves were depleted. After the crisis, rubbing salt Into wounds, these counties were required to repay every penny to the IMF at a time when sub-Sahara Africa was granted a debt relief by the creditors of the developed West, the Paris Club. East Asia was taught a lesson in a severe fashion. After the ordeal, they vowed to themselves that they would never beg money to anyone else. Oil producing Gulf states suffered a collateral damage from the AFC that brought crude oil prices sharply down. As the 21st century began, these Asian countries got themselves on a relentless export drive, essentially to the United States. The Asian crisis had bought their currencies down to very competitive levels. At the outset of the new century, China was admitted to the World Trade Organization (WTO), and got onto a path of roaring export-driven growth, too. Asian countries thrived exporting not only to the U.S. but also to China, selling a variety of intermediate goods to the People’s Republic that would turn them into finished goods to be exported to the U.S. and elsewhere in the developed world. With vivid and painful memories of the AFC, Asian countries drove themselves relentlessly to earn foreign exchange, the U.S. dollar essentially. Asia duly succeeded in this effort. Early years of the 21st century was characterized by expansion of U.S. current account deficits grew on American consumers’ voracious appetite for goods, backed by rising house prices as well as wages. In addition to those crisis-torn Asian countries, China went through a meteoric rise. Exports made a great contribution to the Chinese economy that registered double-digit growth rates year after year back then. In the years between the 2001 recession and the global financial crisis in 2007-09, the bulk of the global economy’s growth was attributed to China and the U.S. By the end of the first decade, China’s current account surplus jumped to 10% of the economy. In the process of overtaking Japan as the second largest economy by the time of the Olympics in Beijing, China drove commodity prices up immensely, beginning with crude oil followed by copper, iron ore and other industrial metals or soy beans. Higher prices in crude oil, minerals and agricultural products dramatically boosted external accounts of producers of these primary goods, especially those in the developing world, in the Middle East & Africa and Latin America. Even Brazil, chronically known for its weak external accounts, had a moment of current account surplus. Oil exporting countries had experienced a sudden rise in wealth. These countries have been running sovereign wealth funds (SWF) since crude oil’s last boom in the 1970s-80s. They grew exponentially in the early 21st century. These SWFs and wealthy private citizens in those countries made aggressive investments in quality assets in the developed world. Real Estate prices in London, Paris, New York, and every major cities in the developed countries rose markedly. Not only commodity producers’ SWFs but also Chinese investors rushed to offices and houses in premier locations. These funds also bought a huge amount of U.S. Treasury securities, willingly financing growing debt of the Federal government. Often, a talk of weaponizing Treasury bonds and notes was heard from market commentators. In theory these countries can threaten Washington to stop purchasing Treasury securities, if they don’t like the way the U.S. is behaving against them. This is an empty threat in reality since no other financial assets offer them a place to park their huge amount of surpluses. Government debt securities of Australia or Singapore are higher rated than T-notes, but their size is simply far too small to absorb a kind of savings they would like to park safely. As the third decade of the century began, coronavirus is bringing immense changes on a variety of fronts, turning things upside down in some cases. Economic activities are brought to a halt by lockdowns. The global economy has entered the deepest recession since the Depression, far deeper than the Great Recession of 2007-09 that was until a few months ago the worst since the 1930s. The Bank of England predicts this recession could be the worst in England since 1706. The U.S. unemployment rate for April came better than expected but still was 14.7%, far higher than the peak number during the Great Recession that barely touched double digits. Worse, it is going to climb further. A sudden halt in economic activities drove commodity prices downn sharply, except for gold. While crude oil prices have rebounded from an April plunge, they are still only a half of what they were before the virus began to hit the U.S. Prior to the Great Recession crude oil exporters in the Persian Gulf have enjoyed enormous windfalls. Windfalls became smaller in the 2010s but still buoyed those economies, and they have evaporated now. At the current level of crude, these Gulf states, even Saudi Arabia, are unable to make both ends meet. Savings are shifting from commodity producers to consumers in the developed world. Consumers in oil importing countries would not save such windfalls at a time when their jobs are gone or at risk or at least when their salaries and bonuses are facing deep cuts. Savings from lower gasoline prices are most likely be spent on necessities to compensate for lost income. While a sharp fall of economic activities is expected to reach bottom by the middle of the year, it is highly unlikely that the economy bounces back in a meaningful fashion. The economy is more likely to creep at low levels and makes a comeback ever so slowly. Those who have lost a job would find it hard to have a new one, as corporations struggle to adjust to the new reality. In addition to these Gulf states and other commodity producers, China’s current account surplus has already diminished well before the pandemic. Since the middle of the last decade, Chinese middle class people traveled abroad en masse displaying their purchasing power in every city they visited. Their shopping spree made a considerable dent on China’s current account. China’s foreign exchange reserve is stuck at around $3 trillion for several years. Coronavirus has made overseas trips considerably more difficult than before at least for the immediate future. Chinese people’s staying at home are likely to reduce the negative effects of their spending binge overseas. It is not yet certain how much coronavirus-related lockdown has affected the household sector in China. On the other hand, consumers in the developed world are definitely suffering from this deep recession, and are likely to spend less on goods made in China or elsewhere. It remains to be seen how these factors play out. China in the 2020s grows much more slowly than it has been. Slower growth in China affects the rest of the world, be they China’s trading partners within Asia or commodity producers that sell China crude oil, iron ore, copper or soy beans. Slower activities end up in fewer profits and hence smaller savings on their part. There is no longer savings glut that keeps buying Treasury securities or real estate in New York or London. Thanks to the Fed and other central banks around the world, interest rates remain ultra low, lower than ever. Major central banks are committed to buying not only public debt but also higher risk securities, preventing interest rates from rising. SWFs’ potential cashflow problem could make them net seller of these assets but their prices would still hold up for the foreseeable future. The financial markets may do all right, but the age of savings glut is behind us. The world has changed. About the author: Mr. Suzuki is a retired senior banking executive based in Tokyo, Japan.