Consumption, Savings, Investment, Surplus, Deficit

This post draws significantly on M. Pettis, P. Krugman, S. Roach.

Given the sheer size of the PBoC intervention, the tremendous comcomitant need to sterilize and supress interest rates, and resistance to currency appreciation, its seems the PBoC capital exports is a policy choice. This is policy choice is supported since PBoC and other Asian reserve accumulation exploded after 1997 Asian Financial Crisis.

The U.S. could have resisted the increase in capital account (capital imports) by sharply raising interest rates, which would have reduced investment faster than U.S. savings. The resulting rise in unemployment would have lowered consumption and imports which would have reduced the current account deficit.

The Fed did not do this. The capital surplus rose. Since the current account is investment minus savings, the capital suplus rises either when savings declines, investment rises, or the some combination in that relationship.

Unfortunately for the world and the U.S., private investment doesn't surge enough. The current account deficit means production is moving abroad, partly because of currency intervention and other factors, which makes foreign investment more profitable.

Here, the government could surge investment to offset the increase in capital account. The result may have been increased future profitability, recapturing the advantage in production it has lost. The U.S. would have run a huge trade deficit, but the deficit would result in a surge in investment, not consumption.

Instead, without the surge in investment, the savings rate declined. Here again, capital exports from another country forces down saving, and forces debt up. No moral finger wagging on over consumption. By the same token, if China forces capital exports, its people must save more. They are not suddenly thrifty, household wealth is reduced to reduce consumption.

So here, the simple conclusion to reverse this is by forcing China to stop exporting capital, which would result in a rise of the RMB.

Of course, the cause might not be capital exports, but a result of US policies that forced savings down and consumption up. Or, it might be that Chinese just save a lot, "naturally", which is augmented by the extremely cheap cost of labor relative to the rest of the world.