Global and Euro Imbalances: China and Germany

• Author: Guonan Ma,Robert N. McCauley
• DOI: http://doi.org/10.1111/j.1749-124X.2014.12050.x
• Published date: 01 January 2014
• Date: 01 January 2014

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China & World Economy / 1–29, Vol. 22, No. 1, 2014

©2014 Institute of World Economics and Politics, Chinese Academy of Social Sciences

Global and Euro Imbalances: China and Germany

Guonan Ma, Robert N. McCauley*

Abstract

We analyze global and euro area imbalances by focusing on China and Germany as large

surplus and creditor countries. In the 2000s, domestic reforms expanded the effective labor

force, restrained wages, shifted income toward profits and increased corporate saving. As

a result, the Chinese and German current account surpluses widened, and that of Germany

has proven more persistent, with subdued domestic investment. China is an early-stage

creditor, holding a short equity position and a long position in safe debt. Germany ’s balanced

net debt and equity claims mark it as a mature creditor that provides insurance to the rest

of the world. China pays to lay off equity risk, while Germany, by contrast, harvests a

moderate yield on its net claims. In both economies, the shortfall of the net international

investment position from cumulated current account surpluses arises from exchange rate

changes, asymmetric valuation gains, and, in Germany’s case, credit losses.

Key words: current account, distribution of income, global imbalances, international

investment, saving and investment

JEL codes: E2, F15, F32

I. Introduction

Fifty years ago, when cars were growing rear fins, Triffin (1960) flagged a source of instability

in the international monetary system. Since Bretton Woods used the US dollar as

*Guonan Ma, Senior Economist, Bank for International Settlements Representative Office for Asia and

the Pacific, Hong Kong SAR. Email: guonan.ma@bis.org; Robert McCauley, Senior Adviser, Monetary

and Economic Department, Bank for International Settlements, Basel, Switzerland. Email: robert.

mccauley@bis.org. The authors thank Bat-el Berger, Lillie Lam, Marjorie Santos and Jimmy Shek for

their excellent research assistance, and Morten Balling, Stephen Cecchetti, Blaise Gadanecz, Hans Genberg,

Ernest Gnan, Ulrich Grosch, Dong He, Liam Maxwell, Roberto Tedeschi and Haiwen Zhou for discussion.

This paper is partly based on Chapter 2 in Morten Balling and Ernest Gnan, editors, 50 Years of Money

and Finance: Lessons and Challenges , Vienna and Brussels, Larcier for SUERF (www.suerf.org). The

views expressed are those of the authors and not necessarily those of the Bank for International

Settlements. The Bank for International Settlements retains the copyright to previous and future versions

of this work, including the right to publish the paper in translation.

2Guonan Ma, Robert N. McCauley / 1–29, Vol. 22, No. 1, 2014

©2014 Institute of World Economics and Politics, Chinese Academy of Social Sciences

international money, US short-term liabilities to the rest of the world needed to grow to

finance global trade. Such growing liabilities would eventually exceed the US gold stock,

undermining confidence in the dollar’s peg to gold and setting off a run. 1

Kindleberger (1965) countered that the USA was just serving as banker to the world,

exchanging short-term liabilities for long-term assets. That left open the question of how a

run on this bank could be handled: the international lender of last resort. In Manias, Panics

and Crashes, Kindleberger cites central bank cooperation as allowing the Bank of England to

meet such a run, given London’s similar maturity mismatch (Kindleberger and Aliber, 2005).

Despite their different interpretations, Triffin and Kindleberger both focused on gross

international assets and liabilities. Much current discussion of global imbalances focuses

on net capital flows; that is, current accounts. Events have proven that international

imbalances cannot be understood in net terms (Borio and Disyatat, 2011; Shin, 2012).

This argument with Triffin became moot in the 1980s when the USA began to run

current account deficits. Kindleberger interpreted these as a bank eating its own capital (its

net foreign assets), undermining confidence in the bank ’s liabilities.

Then, a neo-Triffin argument arose. Aliber saw the USA as the nth economy, providing

global consistency. If the N-1 economies ran current account surpluses, the US would run

the corresponding deficit. If the N-1 economies sought current account surpluses that

were too large, US manufacturing would suffer. An unsustainable rise in US international

indebtedness would undermine the value of its external liabilities.2

In the event, although the US net international liability position has reached 28 percent

of GDP, the USA has not made net investment payments. This observation has led to a

revival of the Gaullist phrase “exorbitant privilege,” which was coined when the US current

account was in surplus and originally referred to the capacity of the USA to buy European

companies and factories with Treasury bills. That the US international assets yield more

than its liabilities is often ascribed to the role of the US dollar. In fact, the difference

nowadays arises from differences in the rate of return on direct investment into and out of

the USA. The stock of direct investment in the USA is of more recent vintage than US direct

investment abroad and grows with acquisitions that pay up for underperforming companies.

As a result, we live in a world in which the largest economy accommodates the current

account swings of the rest of the world, consistent with Aliber’s reinterpretation of Triffin.

For instance, after the Latin American crisis of the 1980s or the Asian financial crisis of the

1Salant and Henderson (1978) turned this into a speculative attack model.

2More recently, a fiscal neo-Triffin argument has gained adherents. The world accumulates US government

(and agency) securities as safe assets. However, in a world growing faster than the USA, if the US

government meets the demand for safe assets, it would raise its debt unsustainably, undermining its safety.

The flaws in this argument are not pursued here.