They thought Asia would save the world economy. They were wrong.
- By Stephen S. Roach<p> Stephen S. Roach, a faculty member at Yale University and former chairman of Morgan Stanley Asia, is the author of The Next Asia. His forthcoming book, Unbalanced: The Codependency of America and China, will be published Jan. 2014. </p>
Global rebalancing has not gone according to script. It was 10 years ago this summer when, as chief economist for the investment bank Morgan Stanley, I first argued that an unbalanced world was in need of major realignment. Back then, America was the New Economy that others could only dream of. Japan was about to enter its second lost decade. Developing Asia was reeling after a devastating crisis. And the lingering symptoms of Euro-sclerosis were painfully evident.
Sure, the United States had hit a bump in the road. The dot-com bubble had burst and the U.S. economy had entered a mild post-bubble recession. But that was widely shrugged off as a minor detail. There was a strong sense that the world was aspiring to be more like the United States — harnessing new information technologies, boosting productivity, and taking bold business risks. Moreover, most thought other countries would swing America’s way — ushering in the powerful convergence of a new globalization.
If it came, I argued, that convergence would occur just in the nick of time. For there was an important chink in the armor in the Great American Dream of a decade ago — a U.S. economy that was living well beyond its means. America’s then record 4.5 percent current account deficit (as a share of GDP) was symptomatic of an unsustainable shortfall of saving. And it was mirrored by equally unsustainable saving surpluses in Asia (Japan, not China, back then) and Europe (mainly Germany).
The crux of my global rebalancing thesis in the summer of 2000 was the coming realignment in the mix of world saving. I felt that America would lead the way, taking its cue from downward pressures on the dollar and the risk of higher long-term interest rates. A shift in the mix of international saving flows would be the only effective way to neutralize these fears. The United States would need to boost saving, investment, and exports, whereas Europe and Asia would have to draw new sustenance from saving-fueled consumption. Presto — unsustainable current account gaps would narrow and global rebalancing would commence.
If it were only that easy. The critics countered that I was early — that imbalances were not at the turning point I surmised. Some went so far as to maintain that global saving disparities were symptomatic of a new and permanent symbiosis between the world’s ultimate consumer, the United States, and vibrant new producers in developing Asia. For a while, this critique turned out to be more right than wrong. Steeped in denial, the world figured out a way to finesse its imbalances. But in doing so, it nearly plunged into the abyss.
The Great Crisis of 2008-2009 was a very visible manifestation of a reckless decade of increasingly unbalanced global growth. Excess consumption soared to new highs in the United States — hitting a record 71 percent of GDP — whereas the country’s net domestic saving (the sum total of depreciation-adjusted saving of households, businesses, and the government sector) fell into negative territory in 2008 for the first time ever and plunged deeper into the red in 2009. As a result, an already gaping U.S. current account deficit widened further to 6 percent. At the same time, Asia remade itself in the aftermath of its own crisis of the late 1990s, as China became the new leader of pan-regional growth and also replaced Japan as the world’s biggest saver.
The global economy is now paying an exceedingly steep price for having tipped the scales on already dangerous imbalances. Post-crisis aftershocks are likely to hobble demand growth in the major developed economies for years to come. The lost decade is no longer exclusively a Japan story. Thanks to a profusion of asset and debt bubbles, Japanese-like outcomes are now prevalent throughout the developed world. That’s especially true of the United States and its culture of excess consumption. Overly indebted, saving-short, job-deficient, and, yes, bubble-dependent U.S. households are now facing a multi year retrenchment. And debt-ridden Europe must now come to grips with a fiscal consolidation that should restrain economic growth for many years.
Yet the hopes and dreams of a new global rebalancing are once again evident. This time, they are all about the seamless transition from the West to the East, spurred on by the powerful dynamism of a China-centric Asia. After all, goes the argument, Asia came through the Great Crisis relatively unscathed — poised, as a result, to compensate for a lasting post-crisis stagnation in the major economies of the developed world.
Don’t hold your breath. Having just returned from a three-year stint in Asia, I am full of optimism over this dynamic region. There is energy, focus, and determination that are all sorely missing in the West. But that doesn’t mean Asia is prepared to take over where the United States and Europe have left off.
Yes, Asia has changed dramatically in the past decade. It helps to frame that transition in the context of two crises — its own pan-regional conflagration of 1997-1998 and the global crisis of 2008-2009. Over this time span, the region has moved aggressively to insulate itself from global financial shocks — specifically, taking its reservoir of foreign-exchange reserves from less than $1 trillion in the late 1990s to some $5 trillion in 2008. Tactically, the strategy was brilliant. It provided Asia with a new backstop financing facility — in essence, a self-insurance fund that came in very handy in successfully cushioning the blows of an unprecedented global shock.
But developing Asia hasn’t done enough. Most importantly, it has failed to wean itself from the export-led growth model that has long defined its economic character. It actually increased its dependence on external demand, boosting the export share of pan-regional GDP from 35 percent in 1997 to 45 percent by early 2007. That leaves the region in a very uncomfortable place in this post-crisis era — more dependent on external demand than ever before. And, unfortunately, this dependence comes at precisely the time when the crisis-battered economies of the developed world are least equipped to deliver the external demand that export-led Asia needs as fuel for its growth machine.
As tempting as it is to herald the demise of the West and the ascendancy of the East in this post-crisis era, that verdict — like my global rebalancing call of a decade ago — is probably premature. Until, or unless, developing Asia is able to shift its reliance from exports and external demand to private consumption and internal demand, it is not in a position to take the baton of global leadership from the developed world.
In fact, Asia needs to guard against a new and worrisome complacency. It should not presume that its resilience during and after the Great Crisis has unlocked the key to a uniquely successful strain of economic growth. Post-crisis aftershocks — coming first in the United States and now Europe — are a wake-up call that any externally dependent economy needs to take very seriously. Asia cannot afford to bask in the warm glow of today’s buoyancy — a rebound that was due more to temporary policy stimulus than internal dynamics and that was funded largely from saving rather than being sparked by innovation.
Nowhere is this challenge more evident than in China. As the dominant economy in the East, China will make or break Asia’s rebalancing gambit. With private consumption at only 36 percent of its GDP (literally half the 71 percent share consumption represents in the United States), China has the most to gain from a consumer-led transformation. If, however, it fails to make the necessary changes, it also has much to lose from a post-crisis stagnation in external demand from the developed world.
As I leave Asia, I am quite confident that China is about to embark on just such a powerful shift — framing its upcoming 12th Five-Year Plan (2011-2016) around the pro-consumption policy initiatives of a well-funded social safety net, rural income support, and a services-led impetus to new sources of job creation. As such, I wouldn’t be surprised to see the consumption share of the Chinese economy rise toward 45 percent over the next five years.
But that is a forecast of the future, always a problematic exercise. Meanwhile, as things stand today, the long-awaited global rebalancing is still nothing more than a dream. The West is down — and most likely to be so for years to come. But until Asia draws greater support from its 3.5 billion consumers, there are no guarantees that the region will provide a new source of global growth to fill the void.
All this underscores a potential time warp for global rebalancing — a painful and protracted pause in the global growth dynamic. At the same time, it points to risky and worrisome trade tensions between the West and the East, as the former takes actions to protect hard-pressed workers while the latter stays fixated on export-led growth as the antidote to poverty and a massive overhang of surplus labor.
The failure of the world to face up to its rebalancing imperatives of a decade ago only makes the challenges all the more urgent today. The Great Crisis shows what happens when imbalances are ignored and compounded. The biggest worry of all is that an unbalanced world may not get another chance.