The global econ­omy’s marsh­mal­low test

Financial Mirror (Cyprus) - - FRONT PAGE -

The world econ­omy is ex­pe­ri­enc­ing a tur­bu­lent start to 2016. Stock mar­kets are plum­met­ing; emerg­ing economies are reel­ing in re­sponse to the sharp de­cline in com­modi­ties prices; refugee in­flows are fur­ther desta­bil­is­ing Europe; China’s growth has slowed markedly in re­sponse to a cap­i­talflow re­ver­sal and an over­val­ued cur­rency; and the US is in political paral­y­sis. A few cen­tral bankers strug­gle to keep the world econ­omy upright.

To es­cape this mess, four prin­ci­ples should guide the way. First, global eco­nomic progress de­pends on high global sav­ing and in­vest­ment. Se­cond, sav­ing and in­vest­ment flows should be viewed as global, not na­tional. Third, full em­ploy­ment de­pends on high in­vest­ment rates that match high sav­ing rates. Fourth, high pri­vate in­vest­ments by busi­ness de­pend on high pub­lic in­vest­ments in in­fra­struc­ture and hu­man cap­i­tal. Let’s con­sider each.

First, our global goal should be eco­nomic progress, mean­ing bet­ter liv­ing con­di­tions world­wide. In­deed, that goal has been en­shrined in the new Sus­tain­able De­vel­op­ment Goals adopted last Septem­ber by all 193 mem­bers of the United Na­tions. Progress de­pends on a high rate of global in­vest­ment: build­ing the skills, tech­nol­ogy, and phys­i­cal cap­i­tal stock to pro­pel stan­dards of liv­ing higher. In eco­nomic de­vel­op­ment, as in life, there’s no free lunch: With­out high rates of in­vest­ment in know-how, skills, ma­chin­ery, and sus­tain­able in­fra­struc­ture, pro­duc­tiv­ity tends to de­cline (mainly through de­pre­ci­a­tion), drag­ging down liv­ing stan­dards.

High in­vest­ment rates in turn de­pend on high sav­ing rates. A fa­mous psy­cho­log­i­cal ex­per­i­ment found that young chil­dren who could re­sist the im­me­di­ate temp­ta­tion to eat a marsh­mal­low, and thereby gain two marsh­mal­lows in the fu­ture, were like­lier to thrive as adults than those who couldn’t. Like­wise, so­ci­eties that de­fer in­stant con­sump­tion in or­der to save and in­vest for the fu­ture will en­joy higher fu­ture in­comes and greater re­tire­ment se­cu­rity. (When Amer­i­can econ­o­mists ad­vise China to boost con­sump­tion and cut sav­ing, they are merely ped­dling the bad habits of Amer­i­can cul­ture, which saves and in­vests far too lit­tle for Amer­ica’s fu­ture.)

Se­cond, sav­ing and in­vest­ment flows are global. A coun­try such as China, with a high sav­ing rate that ex­ceeds lo­cal in­vest­ment needs, can sup­port in­vest­ment in other parts of the world that save less, no­tably low-in­come Africa and Asia. China’s pop­u­la­tion is ag­ing rapidly, and Chi­nese house­holds are sav­ing for re­tire­ment. The Chi­nese know that their house­hold fi­nan­cial as­sets, rather than nu­mer­ous chil­dren or govern­ment so­cial se­cu­rity, will be the main source of their fi­nan­cial se­cu­rity. Low-in­come Africa and Asia, on the other hand, are both cap­i­tal-poor and very young. They can bor­row from China’s high savers to fi­nance a mas­sive and rapid build-up of education, skills, and in­fra­struc­ture to un­der­pin their own fu­ture eco­nomic pros­per­ity.

Third, a high global sav­ing rate does not au­to­mat­i­cally trans­late into a high in­vest­ment rate; un­less prop­erly di­rected, it can cause un­der­spend­ing and un­em­ploy­ment in­stead. Money put into banks and other fi­nan­cial in­ter­me­di­aries (such as pen­sion and in­sur­ance funds) can fi­nance pro­duc­tive ac­tiv­i­ties or short-term spec­u­la­tion (for ex­am­ple, con­sumer loans and real es­tate). Great bankers of the past like J.P. Mor­gan built in­dus­tries like rail and steel. To­day’s money man­agers, by con­trast, tend to re­sem­ble gam­blers or even fraud­sters like Charles Ponzi.

Fourth, to­day’s in­vest­ments with high so­cial re­turns – such as low-car­bon en­ergy, smart power grids for cities, and in­for­ma­tion-based health sys­tems – de­pend on pub­lic-pri­vate part­ner­ships, in which pub­lic in­vest­ment and pub­lic poli­cies help to spur pri­vate in­vest­ment. This has long been the case: Rail­road net­works, avi­a­tion, au­to­mo­biles, semi­con­duc­tors, satel­lites, GPS, hy­draulic frac­tur­ing, nu­clear power, ge­nomics, and the In­ter­net would not ex­ist but for such part­ner­ships (typ­i­cally, but not only, start­ing with the mil­i­tary).

Our global prob­lem to­day is in­ter­me­di­aries are not prop­erly that the world’s fi­nan­cial steer­ing long-term sav­ing into long-term in­vest­ments. The prob­lem is com­pounded by the fact that most gov­ern­ments (the US is a stark case) are chron­i­cally un­der­in­vest­ing in long-term education, skill train­ing, and in­fra­struc­ture. Pri­vate in­vest­ment is fall­ing short mainly be­cause of the short­fall of com­ple­men­tary pub­lic in­vest­ment. Short­sighted macroe­conomists say the world is un­der-con­sum­ing; in fact, it is un­der­in­vest­ing.

The main­stream macroe­co­nomic ad­vice to China – boost do­mes­tic con­sump­tion and over­value the ren­minbi to cut ex­ports – fails the marsh­mal­low test. It en­cour­ages over­con­sump­tion, un­der­in­vest­ment, and ris­ing un­em­ploy­ment in a rapidly ag­ing so­ci­ety, and in a world that can make tremen­dous use of China’s high sav­ing and in­dus­trial ca­pac­ity. The right pol­icy is to chan­nel China’s high sav­ing to in­vest­ments in in­fra­struc­ture and skills in low-in­come Africa and Asia. China’s new Asian In­fra­struc­ture In­vest­ment Bank (AIIB) and its One Belt, One Road ini­tia­tive to es­tab­lish mod­ern trans­port and com­mu­ni­ca­tions links through­out the re­gion are steps in the right di­rec­tion. Th­ese pro­grams will keep China’s fac­to­ries op­er­at­ing at high ca­pac­ity to pro­duce the in­vest­ment goods needed for rapid growth in to­day’s low-in­come coun­tries. China’s cur­rency should be al­lowed to de­pre­ci­ate so that China’s cap­i­tal-goods ex­ports to Africa and Asia are more af­ford­able.

More gen­er­ally, gov­ern­ments should ex­pand the role of na­tional and mul­ti­lat­eral de­vel­op­ment banks (in­clud­ing the re­gional de­vel­op­ment banks for Asia, Africa, the Amer­i­cas, and the Is­lamic coun­tries) to chan­nel long-term sav­ing from pen­sion funds, in­sur­ance funds, and com­mer­cial banks into long-term pub­lic and pri­vate in­vest­ments in twenty-first­cen­tury in­dus­tries and in­fra­struc­ture. Cen­tral banks and hedge funds can­not pro­duce long-term eco­nomic growth and fi­nan­cial sta­bil­ity. Only long-term in­vest­ments, both pub­lic and pri­vate, can lift the world econ­omy out of its cur­rent in­sta­bil­ity and slow growth.

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