Sunday, April 10, 2011: 4:45 PM EDT
Moderator: Paul Blustein - Nonresident Fellow, Global Economy and Development, The Brookings Institution
- Charles Dallara - Directory, Institute of International Finance
- Yasheng Huang - Professor of Political Economy, MIT Sloan School of Management
- Y.V. Reddy - Former Governor, The Reserve Bank of India, currently University of Hyderabad
- Joseph Stiglitz - University Professor, Columbia University, Nobel Laureate
- Brad Delong - Professor of Economics, University of California
- Yu Yongding - Director, Chinese Academy of Social Sciences
The Architecture of Asis: Comment
Let me pick up some threads that I think have been implicit in most of what has been said in this session. It has, however, been said politely. I will be less polite—as befits a Dismal Scientist. I will make the four points that I think need to be made about the architecture of Asian economies
Asia, both East Asia and South Asia, have been more expansionary in their policy mixes in the aftermath financial crisis than have the developed economies of the North Atlantic. Asian policies—both expansionary Keynesian and expansionary monetarist—have worked. They have been remarkably successful in cushioning the crisis and restarting growth. North Atlantic policy makers and academics should take note. To my dismay and somewhat to my horror, by and large they have not. The fact that the Asian countries' recipes for dealing with the crisis have been more successful than those of the North Atlantic—and perhaps deserve some imitation—is not part of the North Atlantic debate. Why not? The reasons escape me.
I have just complimented Asia. Now let me warn it. Asia is now riding high. Among not so much us Dismal Scientists but among others elsewhere in the great wide world we hear others—policymakers, public intellectuals, politicians—saying that it has now been revealed that the economic policy doctrines of the North Atlantic were simply the emperor's new clothes. North Atlantic economists, I hear people say, may indeed have forgotten a great deal and may indeed have been distracted by a great deal in the runup to the financial crisis—but most of all North Atlantic economists were simply wrong. Thus I hear that Asia does not have much to learn from the accumulated human capital of economists. I hear that Asia does not have much to learn from the experience of the North Atlantic. This is, I think, a big mistake. Economists did know a great deal about financial crises and how to deal with them. It is embarrassing when Larry Summers, asked for an example of useful economics, names a book published in 1873: Walter Bagehot's Lombard Street. The cutting-edge economics of macroeconomics of 1873 is indeed our new and relevant economic thinking. That this is so means that we economists are in significant trouble. Nevertheless, we do know something—or at least those of us who know our Bagehot know something.
Asia should listen to what we know. Ignorance by Asia of the context and history of financial crises may well lead to hubris, which is then followed by nemesis. Nemesis can arrive for one or both of two reasons. First, Asian growth is now rapid. Asian expectations are now extrapolative. Everybody buying assets in Asia expects the current growth pattern to continue, perhaps for 20 years, perhaps for 10 years, perhaps only for 5, but they all expect it to continue. Thus they all price that continuance of rapid growth into asset prices. To the extent that there are bears who have been cautious their cautious portfolios have been outperformed by and will be outperformed by others. And, according to Charlie Kindleberger's precept that nothing so deranges your mind as to watch your friends become rich, the bears are shifting to extrapolative expectations as well. And there will be a slowdown in Asian growth at some point. At the moment it is catch-up growth; easy transfer of well-established technologies, relatively easy boosting of savings rates, relatively straightforward acquisition of human capital. Catch-up growth inevitably slows when it reaches the limits of physical capital accumulation, expands to more difficult and sophisticated levels of education, reaches for technologies that are harder to transfer. The slowdown may be 5 years away, it may be 10, it may be 20. It is unlikely to be more. When it comes, whenever it comes, it will hit Asian economies that will be expecting and pricing further rapid growth. And when the slowdown comes, asset prices will then fall far and fall fast.
Remember global imbalances? Not so very many years from now Beijing alone will have 40 trillion yuan invested in dollar-denominated assets. Some day exchange rates will move. When they do, those 40 trillion will be worth 30 trillion or 25 trillion or 20 trillion Renminbi. Those 40 trillion have been borrowed from the good burghers of Shanghai. The good burghers of Shanghai will want them back. When the slowdown comes and they want their money back, 20 or 15 or 10 trillion renminbi of it simply will not be there. Asset prices will then move far and move fast. Asset prices that move far and fast are recipes for financial crisis.
Well before Walter Bagehot there was Jean-Baptiste Say. Say did not really want to be an academic economist. He wanted to be a policymaker. He wanted to be a finance minister. In fact, Jean-Baptiste Say was special assistant to French Secretary of the Treasury Étienne Clavier during the First French Republic. But then his boss was purged, arrested, imprisoned, tortured, sentenced to death, and cheated the guillotine by suiciding in his cell the night before his planned execution. Somehow, Say escaped with not only his life but also his freedom and even his property. Say decided it was a good idea to retire to the countryside and write books of economics. Say decided not to play the high-stakes game of French politics and government any more.
Back in 1829 Say wrote one of the very first analyses of the very first industrial depression, the bust of the British canal boom of the early 1820s. The lesson Say drew was that a financial crisis was the only time in which Say's Law was false: when supply did not create its demand. In the aftermath of a financial crisis, you see, the private sector could not by itself create the safe and liquid financial assets of appropriate duration that the economy wanted to hold. At other times it could—and as long as the private sector was happy holding the existing stock of financial assets income for one would become demand for the products made by another which would become income for a third, and supply would indeed create its own demand. But in the aftermath of a financial crisis what the classical economists called a "general glut" of idle factories and high unemployment was indeed possible.
It turned out that Say was right. Ever since whenever depressions have become deep the odds are that it has been because of a financial crisis. That financial crisis deranged the private sector's ability to settle its own kind of internal financial arrangements via the creation of credit.
Thus whenever these asset prices in Asia move far and fast—either because the dollar has collapsed, or because East Asian growth has slowed markedly, or because of both—these movements of asset prices are the things that generate financial crises and shake the foundations of trust needed for the private sector to do the financial intermediation to make Say's Law true in practice (even thought it is not true in theory).
Back in 2005 we economists were discussing where the next financial crisis might emerge. Back then such discussions settled on the conclusion that the next big financial crisis to appear was likely to be the result of global imbalances in savings and investment. You could call that a "dollar crisis" if you focused on the deficit country. You could call it a "reorientation of Asian development crisis" if you focused on the surplus countries. Whatever you called it, it was the same thing.
That crisis is still out there.
That crisis is still possible.
The success of Asia in surmounting this last crisis says little about its ability to surmount the next one.
And that potential next crisis—in its potential at least a larger crisis than the one we have just been through—is now six years closer.