This is the third of a series of Macro & Market themes in which a team of lead economist discuss cyclical and structural dynamics that will drive markets next year
3: Savings Glut/Investment Slump
A variety of factors are leading to rising current account balances in various regions, on a combination of higher savings and lower investment. This is certainly the case in the eurozone and Japan, with both undergoing quantitative easing (QE).
Improved Current Account Balances
Easy monetary policy leads to a fall in the value of the currency, which tends to increase exports (and savings) and reduce imports (and investment). Although lower real rates should in principle reduce savings and increase investment, the impact of QE on the exchange rate in a zero interest-rate policy (ZIRP) world is larger than the impact of changes in real rates on savings and investment.
Europe’s periphery and some EMs, such as Central and Eastern European economies, India, Indonesia and South Korea, are also seeing improved current account balances, as a result of depreciating currencies and/or due to the lingering effects of deleveraging after the debt binge that ended with the Great Recession or, more recently, with the income shock of lower terms of trade after a debt binge spurred by both optimism about Chinese GDP growth and the search for yield sparked by QE in the G3.
This desired current account adjustment has not been met with much expansion in demand by surplus countries, such as Germany and, more recently, China. The overall impact of this environment should be increasing desired global savings relative to desired investment and a declining global risk-free rate.
The fall in oil and commodity prices has reduced external surpluses in commodity-exporting economies and improved the external balances of commodity-importing economies. Global demand should rise as income is redistributed from economies with a high marginal propensity to save—commodity exporters—to economies with a higher marginal propensity to spend—commodity importers.
Increase in Consumer Spending Following Fall in Oil Prices More Modest than Expected
This would tend to increase the equilibrium global “risk-free rate” (such as U.S. Treasurys). However, the increase in consumer spending following the 2014-15 fall in oil prices has been more modest than expected, for reasons that remain open to debate. Consequently, upward pressure on the global risk-free rate has not materialized.
Thus, although oil exporters have run down their foreign-exchange reserves, this does not impact risk-free rates, as the current account balances of oil importers have improved and their need for petrodollars to finance such balances has declined in tandem.
Also, the fall in oil, energy and commodity prices has led to a sharp decline in capital expenditure in the resource sectors of resource exporters, and even in the resource sectors of net energy importers that are also large energy producers. Moreover, non-energy investment in many resource-rich countries has either fallen or decelerated. The persistence of the high savings/low investment pattern has and will depress real rates.
In the Future, Consumers Will Likely View the Resource Shock as Permanent
Over time, consumers will likely view the resource shock as permanent, leading to an increase in global consumption demand and a reduction in savings, with the downshift in investment a one-time adjustment. But these shifts may take a number of years to play out.
…But in the Meantime, Energy and Commodity Prices May Be Further Depressed
In the meantime, energy and commodity prices may be further depressed by a negative demand shock stemming from China and other emerging markets.
Positive supply shocks could also trigger more declines in commodity prices, further reducing investment in affected sectors and failing to boost consumption in the short term. Thus, savings could continue to dwarf investment for many years, keeping equilibrium real rates lower.
The deleveraging of private- and public-sector balance sheets also implies rising savings and falling investment. There have been three waves of deleveraging since the outbreak of the global financial crisis. First, in the U.S. following the bursting of credit and real-estate bubbles. Then, in Europe and the Eurozone, following the blowup of private (Iceland, Ireland, Spain and the UK) and public (Cyprus, Greece, Italy and Portugal) debt and deficits. And, now, in emerging markets, where the past decade’s build-up of debt may have set the stage for painful deleveraging in certain countries.
Population Aging and Rising Inequality Contributing to Savings Glut
Apart from the headwinds generated by cyclical policy and deleveraging, much of the world faces the specter of population aging. In theory, the old should increase spending as they run down savings built up when young. However, the precarious fiscal position of many aging societies undermines their governments’ ability to make good on their pension commitments. This could well lead to higher savings as households realize that longer life expectancy and lower expected benefits from “pay as you go” pension systems require more financial savings on their part. In addition, a country’s investment-to-GDP ratio falls as aging occurs.
Rising inequality is also contributing to the global savings glut. The growing concentration of wealth and income means labor and wages are converted to capital and profits and are thus transferred from those with a higher marginal propensity to spend—low- and middle-income households—to those with a higher propensity to save—high-income/wealthy households and corporate firms.