Another Growth Spurt by Morgan Stanley

by Andy Xie/ Morgan Stanley

The white knight of the global economy

Anglo-Saxon consumerism has led to a debt-led demand boom in those economies, which has been the main demand driver in this cycle. We estimate that the Anglo-Saxon economies (US, UK, Australia, NZ, plus India) are running a current account deficit roughly equal to 2.5% of global GDP. This excess demand has allowed emerging economies to run current account surpluses, which has decreased interest rates in these economies and, hence, triggered a domestic investment boom.

The stability of the current growth model depends on the global financial system delivering cheap money to Anglo-Saxon economies to finance their current account deficits. This is where the combination of Japan’s zero interest rate and financial globalization becomes critical. Traders have become the white knights of the global economy in this growth cycle. Whenever an economy needs money, they deliver.

The global financial system has been giving money to high inflation economies. For example, Indonesia is facing an inflation problem and its central bank has kept interest rates high by global standards but below the inflation rate. The global financial system has been sending money to Indonesia to profit from the high interest rates, while the inflow keeps its currency strong. As long as the foreign flows persist, Indonesia’s currency could rise sufficiently to bring down its inflation. The global financial system is essentially solving Indonesia’s problem by flooding it with money.

India recently experienced a liquidity problem, which caused interest rates to rise substantially in its money market. The liquidity problem caused some jitters over India’s growth momentum. The global financial system again played the white knight to bail it out. Foreign capital gushed in to take advantage of the country’s high interest rates.

When economies face inflationary pressure, their central banks do not have to raise interest rates by as much as before, because the global financial system does half the job by pushing up their currencies, which essentially transforms inflationary pressure into current account deficit. The global financial system is maximizing global growth by spreading inflationary pressure across the world.

Globalization of production has decreased inflationary pressure, and globalization of finance has made current account deficits easy to finance. The combination is behind the longevity of the current cycle.

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