Crash of 2008 Economics of Money and Banking Topic 7

Session 2
Wider issues
 • In our first session we
reviewed what you all know
about the basic dynamics of
the crash
• These slides widen the optic
to discuss how the crash fits
into broader global issues
• In particular – global
imbalances

Purpose of these slides

Did global • What is the argument?
imbalances cause (or • Where and who does it come from?
contribute to) the • Is it convincing?
crash of 2008?
The core argument

“an excess of saving over investment in emerging market countries, as

reflected in corresponding current-account surpluses, eased financial
conditions in deficit countries and exerted significant downward pressure
on world interest rates. As a result, this flow of saving helped fuel a credit
boom and risk-taking in major advanced economies, particularly in the US,
thereby sowing the seeds of the global financial crisis”

Summarised by Borio and Disyatat *

Where does the
argument come from?
 Ben Bernanke
 The Economist
 Richard Portes
 Mervyn King
 Paul Krugman

• Aside from the last two, all were also supporters of financial
market deregulation
• This view also echoes a similar ‘East Asia-blaming’
argument, deployed in the West to explain the 1998
currency crisis there as a product of East Asian crony
capitalism and not neoliberal policies of capital account
liberalisation—which the IMF and US and free market
economists had pressed for
• Is the ‘global imbalances’ view a repeat of the pattern of
blaming Eastern state capitalism for another disaster caused
by Neoliberalism …i.e. Western finance, Western policy and
free market economics?
Do the causal claims hold up?
• Not according to Borio and Disyatat ..among others …
because …
• Current account imbalances tell us little net flows not about
global gross financing and flows
• Huge leap in gross international finance flows is greater than
net changes….and is mostly between advanced nations
• Current account surpluses did not play determining role in
inward flows to the US (gross flows expanded 3 times faster
than net flows)
• The flows are overwhelmingly private ones – sucked in by
explosion of US finance – whose securities were being
bought
• Europe (a region in rough trade balance) accounted for half
these investments and half of that from UK alone (a deficit
nation) 1/3rd from the eurozone
• This European amount is larger than the two giant Asian
trade-surplus nations, Japan and China
 • Saving is a national accounting concept (Income minus
Saving and spending).

investing and • Financing is a cash flow concept—it is merely access to

purchasing power (including via borrowing but [AW my gloss]
financing are credit and money creation).
• Investment and spending require financing but not prior saving
different • Changes in financial assets and liabilities (i.e. gross size of
balance sheets), bears no special or fixed relationship to saving
in the national income sense…and increases in this assets and
liabilities can massively exceed any rise in savings
• This will also translate into much larger gross international flows
than any net changes
• Countries running deficits are not directly being financed by
surplus nations—deficits may be financed in various ways
 Low interest rates can’t be considered a
mechanical result of the amount of savings.
They emerge from the intersection of policy
with financial considerations in the finance
sector—including prevailing views of risk and
Savings glut return.
and interest
rates
These latter financial calculations are not
mere reflections of ‘real’ conditions in terms
of savings and investment propensities.
What does all this • The financial sector did not need

mean?
some excess pool of savings to be
sent to it from trade surplus
nations, in order to do what it di
and cause the crash
• It inflated credit (thus the money
supply), attracted investors (not
merely form surplus nations) into
risky assets, overproduced
derivatives, overextended
leverage….all of which it could have
done without East Asian trade
surpluses
2 Interesting things to explore for later topics

1. This credit/money creating power of banks that is one

crucial issue we must explore. We look at this in relation
to money creation.
2. The distinction between a balance sheet/financial view,
versus a national-accounting view of the macroeconomy
(Perry Mehrling is interesting on this)…we examine this
in relation to questions of the how money and saving and
investment relate.
A coda on imbalances

None of this implies global imbalances are not important and

dangerous….but if they are not the cause of the financial crash, we
leave them to other courses and themes
Appendix