Things That Are Useful to Remember
- Posted by ryan on December 7th, 2008 filed in Economics
And you, blog, are my memory bank. From a good Brad Setser post:
Remember, the big if — a rise in the fiscal deficit only leads to a rise in the external deficit if private savings and investment do not change, so the extra call on savings from the deficit has to be met by the world. And right now private savings and investment patterns are changing — particularly in the US. Goldman forecasts private sector in the US will go from rough balance in q2 2008 to a large (10% of GDP) financial surplus by the end of next year. That means private savers in the US will be in a position to lend to the US government. Some money that say would have been spent on a Toyota instead will be lent to the US Treasury. In this case, the rise in the fiscal deficit will offset a rise in private savings and fall in private investment, allowing the US current account balance to improve even as the fiscal deficit expands.
More here.
December 7th, 2008 at 2:51 pm
I clicked on “here” above and was sent back to Brad Setser’s website.
You are discussing the interrelations between government savings (or dis-savings), private sector savings and investment. I am familiar with the first two combined with government savings to get National Savings. How does investment deal with the fact that business savings is different from investment. Undistributed profits is not invested until it is invested.
Maybe you are not dealing with National Savings. What am I missing? How does what you are discussing relate, if at all, to National Savings?
A larger question, a much more important question, is the relation of the trade deficit to National Savings. Causation is usually assumed to go from national Savings to the trade deficit. But the elements of the national account cannot be logically manipulated to produce that result. If one assume that endogenous variables cannot control the level of the other variables in a system, and if the level of GDP and National Savings are calculated from the levels of the other variables in the equation, the level of national savings cannot control the level of the trade deficit.
No one has yet been able to see any flaw in my logic. Want to try?
December 7th, 2008 at 3:16 pm
This follows in special models that assume an automatic tendency to full employment. Under full employment, a decision to refrain from consumption frees resources for use in investment.
If that premise is relaxed, so there is no tendency to full employment built into the model, savings is a residual … a consequence rather than a cause.
December 8th, 2008 at 12:16 am
BruceMcF - Thanks for your clarification.
It is nice to know that the assumption that I have encountered so frequently is only valid in the context of a special model.
Unfortunately, most analysts dealing with trade do not have your level of understanding. I have encountered people who claim that causation runs from savings to the trade deficit generally. For example, in the Republican version of the U.S. Trade Deficit Review Commission Final Reports issued in 2000, they claim that the gap between savings and investment requires a trade deficit. That requirement would not exist unless savings were a causal variable. If the trade deficit and Investment together cause or control the level of national savings, the gap is merely the reality created by the formula that controls the level of Savings.
Much of the reasoning I encounter in the literature must be recast if causation does run from the Trade Deficit and Investment to National Savings.
If Consumption (both [public and private) is subtracted from GDP the result is National Savings. National Savings is also equal to Investment plus the Trade Balance. Moving Consumption to the left side of the equation leaves Investment plus the Trade Balance on the right side.
In both calculations, National Savings is derived or calcualated from other variables in the equation for GDP. Such a contructed variable cannot control the behavior of any of the other variables in the equation.
These arguments are cast as representation of reality.
December 8th, 2008 at 12:24 am
Ben Bernanke’s famous speech postulating the existence of a “global savings glut” as the reason for the trade deficit assumes that the trade deficit is produced by the financial sector which is consistent with the notion that savings controls the level of the trade deficit.
A different perspective on the trade balance is produced when one assumes that the trade balance is, in the first instance, a product of purchase decisions and production decisions made all over the world. As it appears in the equaiton for calculating GDP, it is an independent and exogenous variable.