Entrepreneur and Business Resources
Integral Methods and Technology
Governance and Investor Responsibility
 |
|
World Undergoing Globalization-Related Shift
Greenspan Says
(Continued trend likely to help adjust global financial imbalances) (4140)
The world is probably undergoing a “one-time” shift due to
unprecedented
globalization and innovation that in recent years has allowed the U.S.
economy to hit record external and budget deficits without experiencing
financial disruptions, says Alan Greenspan, the chairman of the Federal
Reserve, the U.S. central bank.
In March 10 remarks to a research group in New York, Greenspan said
that
innovation and globalization, defined by him as the extension of the
division of labor and specialization beyond national borders, has changed
the economic structure of developed and developing countries in ways that
are difficult to comprehend.
He said that the current rapid pace of those structural changes
could
nota continue indefinitely. Full globalization, characterized by
production, trade, and finance being driven solely by risk-adjusted rates
of return and by risk indifferent to distance and national borders, will
likely never be achieved because of the risk aversion of people and the
home bias of savers and investors, he said.
Greenspan said, however, that discussing prospects for the world
economy
beyond the next few years is difficult because it is uncertain whether
the
globalization shift is in its final or early stage.
He said that globalization as it manifested itself in increased
inflows
of foreign capital has enabled the United States to finance large current
account deficits.
The current account balance is the broadest measure of a country’s
transactions with the outside world.
Greenspan said that rising import prices and the reduction of
dollar-denominated assets in foreign investors’ portfolios are likely
to
induce the reduction of the U.S. current account deficit and the related
contraction of current account surpluses in other countries. In addition,
aging populations in Europe and Japan will limit the amount of savings
available for investment in foreign assets, he added.
Greenspan said, however, that so far those changes either have not
materialized or have been only modest and that economists may not be able
to determine when they occur with full force.
Nevertheless, he said that the greater the degree of international
economic and financial flexibility, the less risk of a crisis.
“Should globalization continue unfettered and thereby create
an ever-more
flexible international financial system, history suggests that current
account imbalances will be defused with modest risk of disruption," he
said citing recent Federal Reserve studies. One study suggested that a
substantial fall in the value of the U.S. dollar is likely to boost
economic growth rather than cause an economic crisis feared by some
economists.
Another Federal Reserve official, Ben Bernanke, in a speech delivered
on
the same day said that the U.S. current account deficit is due in large
measure to huge savings by other countries and the flow of those savings
into U.S. markets. He echoed Greenspan’s contention that the situation
will eventually begin to improve, but said that it may take some time
before it starts happening.
Greenspan cautioned, however, that, even with the increased flexibility
of the U.S. economy brought by globalization and innovation, the
combination of exceptionally low savings rates and historically high
household indebtedness could be a concern if incomes unexpectedly fall.
He said that the shift in globalization does not mean that the
“time-tested criteria for assessing when economic imbalances become
worrisome can be disregarded”.
Nevertheless, he said he is more worried by the U.S. budget deficit
than
by the current account deficit or household debt levels. He said that
the
retirement of numerous members of the post-World War II generation will
place “enormous” pressures on the budget and the U.S. economy.
In
addition, he said, the U.S. ability to attract savings from abroad may
mask the full effect of low domestic savings on investment and thus on
economic growth.
Following is the text of Greenspan’s remarks as prepared for
delivery:
(begin text)
The Federal Reserve Board
Remarks by Chairman Alan Greenspan
Globalization
At the Council on Foreign Relations, New York, New York
March 10, 2005
The U.S. economy appears to have been pressing a number of historic
limits in recent years without experiencing the types of financial
disruption that almost surely would have arisen in decades past. This
observation raises some key questions about the longer-term stability
of
the U.S. and global economies that bear significantly on future economic
developments.
Among the limits that we have been pressing against are those in
our
external and budget balances. In the United States, we have been incurring
ever-larger trade deficits, with the broader current account measure
moving into the neighborhood of 6 percent of our gross domestic product.
Yet the dollar's real exchange value, despite its recent decline, remains
above its 1995 low. Meanwhile, we have moved from a budget surplus in
2000
to a deficit that is projected by the Congressional Budget Office to be
around 3-1/4 percent of GDP [gross domestic product] this year. In
addition, we have enacted commitments to our senior citizens that, given
the impending retirement of our huge baby-boom generation, will create
significant fiscal challenges in the years ahead. Yet the yields on
Treasury notes maturing a decade from now remain at low levels. Nor are
households experiencing inordinate financial pressures as a consequence
of
record-high levels of household debt relative to income.
--
Has something fundamental happened to the U.S. economy that enables
us
to disregard all the time-tested criteria for assessing when economic
imbalances become worrisome? Regrettably, the answer is no; the free lunch
has still to be invented. We do, however, seem to be undergoing what is
likely, in the end, to be a one-time shift in the degree of globalization
and innovation that has temporarily altered the specific calibrations
of
those criteria.
Globalization has altered the economic frameworks of both advanced
and
developing nations in ways that are difficult to fully comprehend.
Nonetheless, the largely unregulated global markets, with some notable
exceptions, appear to move smoothly from one state of equilibrium to
another. Adam Smith's "invisible hand" remains at work on a global scale.
Because of deregulation, increased innovation, and lower barriers
to
trade and investment, cross-border trade in recent decades has been
expanding at a far faster pace than GDP. As a result, many economies are
increasingly exposed to the rigors of international competition and
comparative advantage. In the process, lower prices for some goods and
services produced by our trading partners have competitively suppressed
domestic price pressures.
Production of traded goods and services has expanded rapidly in
economies with large, low-wage labor forces. Most prominent are China
and
India, which over the past decade have partly opened up to market forces,
and the economies of central and eastern Europe, which were freed from
central planning by the fall of the Soviet empire. The consequent
significant additions to world production and trade have clearly put
downward pressure on prices in the United States and in the economies
of
our trading partners.
Over the past two decades, inflation has fallen notably, virtually
worldwide, as has economic volatility. Although a complete understanding
of the reasons remains elusive, globalization and innovation would appear
to be essential elements of any paradigm capable of explaining the events
of the past ten years. If this is indeed the case, because the extent
of
globalization and the speed of innovation are limited, the current
apparent rapid pace of structural shift cannot continue indefinitely.
While the outlook for the next year or two seems reasonably bright, the
outlook for the latter part of this decade remains opaque because it is
uncertain whether this transitional paradigm, if that is what it is, is
already far advanced and about to slow, or whether it remains in an early,
still-vibrant stage of evolution.
--
Globalization -- the extension of the division of labor and
specialization beyond national borders -- is patently a key to
understanding much of our recent economic history. With a deepening of
specialization and a growing capacity to conduct transactions and take
risks throughout the world, production has become increasingly
international.
The pronounced structural shift over the past decade to a far more
vigorous and competitive world economy than that which existed in earlier
post-World War II decades apparently has been adding significant stimulus
to world economic activity. This stimulus, like that which resulted from
similar structural changes in the past, is likely a function of the rate
of increase of globalization and not its level. If so, such impetus would
tend to peter out as we approach the practical limits of globalization.
Full globalization, in which production, trade, and finance are
driven
solely by risk-adjusted rates of return and in which risk is indifferent
to distance and national borders, will likely never be achieved. The
inherent risk aversion of people, and the home bias that is one
manifestation of that aversion, will limit how far globalization can
proceed. But because so much of our recent experience has little
precedent, as I noted earlier, we cannot fully determine how long the
current globalization dynamic will take to play out. And even then we
have
to be careful not to fall into the trap of equating the achievement of
full globalization with the exhaustion of opportunities for new
investment. The closing of our frontier at the end of the nineteenth
century, for example, did not signal the onset of a new era of economic
stagnation.
--
The increasing globalization of the post-World War II era was fostered
at its beginnings by the judgment that burgeoning prewar protectionism
was
among the primary causes of the depth of the Great Depression of the
1930s. As a consequence, trade barriers began to fall after the war.
Globalization was enhanced further when the inflation-ridden 1970s
provoked a rethinking of the philosophy of economic policy, the roots
of
which were still planted in the Depression era. In the United States,
that
rethinking led to a wave of bipartisan deregulation of transportation,
energy, and finance. With respect to macropolicies, there was a growing
recognition that inflation impaired economic performance. Moreover, a
tightening of monetary policy, and not increased regulation, came to be
seen by the end of that decade as the only viable solution to taming
inflation. Of course, the startling recovery of war-ravaged West Germany
following Ludwig Erhard's postwar reforms, and Japan's embrace of global
trade, were early examples of the policy reevaluation process.
It has taken several decades of experience with markets and competition
to achieve an unwinding of regulatory rigidities. Today, privatization
and
deregulation have become almost synonymous with "reform."
--
By any number of measures, globalization has expanded markedly
in recent
decades. Not only has the ratio of international trade in goods and
services to world GDP risen steadily over the past half-century, but a
related measure -- the extent to which savers reach beyond their national
borders to invest in foreign assets -- has also risen.
Through much of the post-World War II years, domestic saving for
each
country was invested predominantly in its domestic capital assets, even
when there existed the potential for superior risk-adjusted returns from
abroad. Because a country's domestic saving less its domestic investment
is essentially equal to its current account balance, such balances,
positive or negative, were therefore generally modest, with the exception
of the mid-1980s. But in the early 1990s, "home bias" began to diminish
appreciably, and, hence, the dispersion of current account balances among
countries has increased markedly. The widening current account deficit
in
the United States has come to dominate the tail of the distribution of
external balances across countries. Nonetheless, the worldwide dispersion
of current account balances has risen since the early 1990s, even
excluding the United States.
Thus, the decline in home bias, or its equivalent, expanding
globalization, has apparently enabled the United States to finance and,
hence, incur so large a current account deficit. As a result of these
capital inflows, the ratio of foreign net claims against U.S. residents
to
our annual GDP has risen to approximately one-fourth. While some other
countries are far more in debt to foreigners, at least relative to their
GDPs, they do not face the scale of international financing that we
require.
A U.S. current account deficit of 6 percent of GDP would probably
not
have been readily fundable a half-century ago or perhaps even a couple
of
decades ago.5 The ability to move that much of world saving to the United
States in response to relative rates of return almost surely would have
been hindered by the far-lesser degree of both globalization and
international financial flexibility that existed at the time. Such large
transfers would presumably have induced changes in the prices of assets
that would have proved inhibiting.
Nonetheless, we have little evidence that the economic forces that
are
fostering international specialization, and hence cross-border trade and
increasing dispersion of current account balances, are as yet diminishing.
To be sure, as I pointed out earlier this year, we may be approaching
a
point, if we are not already there, at which exporters to the United
States, should the dollar decline further, would no longer choose to
absorb a further reduction in profit margins. An acceleration of U.S.
import prices, of course, would impede imports and give traction to the
process of adjustment in our trade balance. Moreover, international
investors, private and official, faced with an increasing concentration
of
dollar assets in their portfolios, will at some point choose greater
balance in their asset accumulation. That shift, over time, would likely
induce contractions in both the U.S. current account deficit and the
corresponding current account surpluses of other nations. To date the
proportional shift out of dollars from the total of official and private
sector foreign currency accounts has been modest, when adjusted for
exchange rate changes. Of course, the shift has been larger on an
unadjusted dollar equivalent basis. However, the market has absorbed this
change in an orderly manner.
The more-rapid aging of European and Japanese populations relative
to
the aging of the U.S. population should slow the flow of foreign saving
available to the United States. Although those population dynamics are
already in train, little evidence as yet of slowed savings transfers has
surfaced.
--
Can market forces incrementally defuse a buildup in a nation's
current
account deficit and net external debt before a crisis more abruptly does
so? The answer seems to lie with the degree of market flexibility. In
a
world economy that is sufficiently flexible, as debt projections rise,
product and equity prices, interest rates, and exchange rates presumably
would change to reestablish global balance.
We may not be able to usefully determine at what point foreign
accumulation of net claims on the United States will slow or even reverse,
but it is evident that the greater the degree of international
flexibility, the less the risk of a crisis.
Should globalization continue unfettered and thereby create an
ever-more
flexible international financial system, history suggests that current
account imbalances will be defused with modest risk of disruption. Two
Federal Reserve studies of large current account adjustments in developed
countries, the results of which are presumably applicable to the United
States, suggest that market forces are likely to restore a more long-term
sustainable current account balance here without substantial disruption.
Indeed, this was the case in the second half of the 1980s.
I say this with one major caveat. Protectionism, some signs of
which
have emerged in recent years, could significantly erode global flexibility
and, hence, undermine the global adjustment process. We are already
experiencing pressure to slow down the expansion of trade. The current
Doha Round of trade negotiations has faced difficulties largely because
the low-hanging fruit available through negotiation has already been
picked in the trade liberalizations that have occurred since the Kennedy
Round. On a more encouraging note, some recent indications of progress
may
be pointing to a heightened probability of completion of the Doha Round.
--
The remarkable technological advances of recent decades have doubtless
augmented and fostered the dramatic effect of increased globalization
on
economic growth. In particular, information and communication technologies
have propelled the processing and transmission of data and ideas to a
level far beyond our capabilities a decade or two ago. The advent of
real-time information systems has enabled managers to organize a workforce
without the redundancy required in earlier decades to ensure against the
type of human error that technology has now made far less prevalent.
Real-time information, by eliminating much human intervention, has
markedly reduced scrappage rates on production lines, lead times on
purchases, and errors in many forms of recordkeeping. Much data transfer
is now electronic and far more accurate than possible in earlier times.
The long-term path of technology and growth is difficult to discern.
Indeed, innovation, by definition, is not forecastable. In the United
States, we have always employed technologies at, or close to, the cutting
edge, and we have created many innovative technologies ourselves. The
opportunities of many developing economies to borrow innovation is not
readily available to us. Thus, even though the longer-term prospects for
innovation and respectable U.S. productivity growth are encouraging, our
productivity growth has rarely exceeded an average rate of 3 percent
annually for any protracted period.
--
We have, I believe, a reasonably good understanding of why Americans
have been able to reach farther into global markets, incur significant
increases in debt, and yet not suffer the disruptions so often observed
as
a consequence. However, a widely held alternative view of the past decade
cannot readily be dismissed. That view holds that the postwar paradigm
is
still largely in place, and key financial ratios, rather than suggesting
an evolving economic structure, reflect extreme values that have
materialized within an unchanged structure and must eventually adjust,
perhaps abruptly.
To be sure, even with the increased flexibility implied in a paradigm
of
expanding globalization and innovation, the combination of exceptionally
low saving rates and historically high ratios of household debt to income
can be a concern if incomes unexpectedly fall. Indeed, virtually any debt
burden doubtless will become oppressive if incomes fall significantly.
But rising debt-to-income ratios can be somewhat misleading as
an
indicator of stress. Indeed the ratio of household debt to income has
been
rising sporadically for more than a half-century, a trend that partly
reflects the increased capacity of ever-wealthier households to service
debt. Moreover, a significant part of the recent rise in the
debt-to-income ratio reflects the remarkable gain in homeownership. Over
the past decade, for example, the share of households that own homes has
risen from 64 percent to 69 percent. During the decade, a significant
number of renters bought homes, thus increasing the asset side of their
balance sheets as well as increasing their debt. It can scarcely be argued
that the substitutions of debt service for rent materially impaired the
financial state of the new homeowner. Yet the process over the past decade
added more than 10 percent to outstanding mortgage debt and accounted
for
more than one-seventh of the increase in total household debt over that
period.
Thus, short of a period of appreciable overall economic weakness,
households, with the exception of some highly leveraged subprime
borrowers, do not appear to be faced with significant financial strain.
With interest rates low, debt service costs for households have been
essentially stable for the past few years. Accounting for other fixed
charges such as rent, utilities, and auto-leasing costs does not
materially alter this assessment of stability.
Even should interest rates rise materially further, the effect
on
household expenses will be stretched out because four-fifths of debt is
at
fixed rates and varying maturities, and it will take time for debt to
mature and reflect the higher rates. Despite the almost 2-percentage-point
rise in mortgage rates on new originations from mid-1999 to mid-2000,
the
average interest rate on outstanding mortgage debt rose only slightly,
as
did debt service.
In a related concern, a number of analysts have conjectured that
the
extended period of low interest rates is spawning a bubble in housing
prices in the United States that will, at some point, implode. Their
concern is that, if this were to occur, highly leveraged homeowners would
be forced to sharply curtail their spending. To be sure, indexes of house
prices based on repeat sales of existing homes have significantly
outstripped increases in rents, suggesting at least the possibility of
price misalignment in some housing markets.
But a destabilizing contraction in nationwide house prices does
not seem
the most probable outcome. To be sure, the recent marked increase in the
investor share of home purchases suggests rising speculation in homes.
(Owner occupants are rarely home speculators because to sell, they must
move.) However, nominal house prices in the aggregate have rarely fallen
and certainly not by very much. And even should more-than-average price
weakness occur, the increase in home equity as a consequence of the recent
sharp rise in prices should buffer the vast majority of homeowners.
House prices, however, like those of many other assets, are difficult
to
predict, and movements in those prices can be of macroeconomic
significance. There appears, at the moment, to be little concern about
corporate financial imbalances. Debt-to-equity ratios are well within
historical ranges, and the recent prolonged period of low long-term
interest rates has enabled corporations to refinance liabilities and
stretch out bond maturities.
--
The resolution of our current account deficit and household debt
burdens
does not strike me as overly worrisome, but that is certainly not the
case
for our fiscal deficit, which, according to the Congressional Budget
Office, will rise significantly as the baby boomers start to retire in
2008. Our fiscal prospects are, in my judgment, a significant obstacle
to
long-term stability because the budget deficit is not readily subject
to
correction by market forces that stabilize other imbalances.
One issue that concerns most analysts, especially in the context
of a
widening structural federal deficit, is inadequate national saving.
Fortunately, our meager domestic savings, and those attracted from abroad,
are being very effectively invested in domestic capital assets. The
efficiency of our capital stock thus has been an important offset to what,
by any standard, has been an exceptionally low domestic saving rate in
the
United States.
Although saving is a necessary condition for financing the capital
investment required to engender productivity, it is not a sufficient
condition. The very high saving rates of the Soviet Union, of China, and
of India in earlier decades often did not foster significant productivity
growth in those countries. Saving squandered in financing inefficient
technologies does not advance living standards. In light of the uncertain
link between saving and productivity growth, it is difficult to measure
the exact extent to which our relatively low gross national saving rate
will limit the future growth of an efficient capital stock. What we know
for sure, however, is that the 30 million baby boomers who will reach
65
years of age over the next quarter-century are going to place enormous
pressures on the ability of our economy to supply the real benefits
promised to retirees under current law, and our success in attracting
savings from abroad may be masking the full effect on investment of
deficient domestic saving.
--
Our day-by-day experiences with the effectiveness of flexible markets
as
they adjust to, and correct, imbalances can readily lead us to the
mistaken conclusion that once markets are purged of rigidities,
macroeconomic disturbances will become a historical relic. However, the
penchant of humans for quirky, often irrational behavior gets in the way
of this conclusion. A discontinuity in valuation judgments, often the
cause or consequence of the building and bursting of a bubble, can
occasionally destabilize even the most liquid and flexible of markets.
I
do not have much to add on this issue except to reiterate our need to
better understand it.
--
The last three decades have witnessed a significant coalescing
of
economic policy philosophies. Central planning has been judged as
ineffective and is now generally avoided. Market flexibility has become
the focus, albeit often hesitant focus, of reform in most countries. All
policymakers are struggling to understand global and technological changes
that appear to have profoundly altered world economic developments. For
most economic participants, these changes appear to have had positive
effects on their economic well-being. But a significant minority, trapped
on the adverse side of the market's process of creative destruction, are
suffering. This is an issue that needs to be more fully addressed if
globalization is to sustain the public support it requires to make further
progress.
(end text)