The deficit: blame foreigners

For a long time, I've argued that government borrowing is due is large part to the corporate sector's financial surplus - its excess of retained profits over capital spending. However, today's GDP figures show that something else is also happening.

These show that the corporate sector's surplus has disappeared; in fact, in Q2, companies in aggregate ran a small deficit. However, although the declining corporate surplus has been accompanied by falling government borrowing, the latter is still large. Why?

Statistically speaking, the main counterpart to government borrowing is no longer corporate net lending but rather overseas net lending - or, to put it more familiarly, a current account deficit. It is foreigners' net saving, rather than companies', that is the counterpart of government dissaving.

Of course, "counterpart" does not tell us anything about causality. So, what is the direction of causality?

You could argue that our borrowing from overseas is caused by government borrowing. Maybe government borrowing has inflated demand which in turn has sucked in imports.

Now, whilst this has happened sometimes, it is not the case here and now. Several facts tell us as much: that UK real interest rates are negative; that there are 5.65m unemployed; that inflation is low; and that real GDP has grown only 2.9 per cent in the last six years.

Perhaps, therefore, the correlation goes the other way - it is foreigners' saving that is causing UK government borrowing. Weak demand overseas means weak UK exports which means a weak economy and tax revenues.

To put it another way, in the much of the world savings exceed domestic investment. This might be because of big oil revenues (the middle east);weak welfare states and capital markets (China) or being daft twats (the euro area). Whatever the causes, such net saving means - by definition - that someone somewhere must borrow. This someone is partly the US, but also the UK government. This explanation is consistent with the fact that UK government borrowing has been accompanied by negative real interest rates.

Which brings me to a puzzle. We British tend to blame foreigners for lots of things, from unemployment to the craptacularness of the England football team.Such blame is generally wrong. And yet when foreigners might be responsible for one of our problems (assuming the deficit to be such), nobody points this out.

Comments

[Ralph Musgrave]

I'm all in favor of giving foreigners bits of paper in exchange for real goods and services. If we can arrange for the interest we pay them to be less than the rate of inflation (which is easily done)then we profit at the expense of our creditors.

A country which does this is acting very much like a bank: supplying those who want it with liquid assets, and charging for the service.

[Liam]

To be fair, George Osborne was very, very keen to blame the Eurozone when UK growth disappeared in 2010, 2011 and 2012.

[Neil Wilson]

Export-led nations need to export somewhere, and in a *floating rate system* that means they will run out of the right sort of money to do so eventually (because they have to use their own money back home to pay staff and suppliers).

So export-led nations have to execute swaps in the currency market to get their own currency into the system and let the trades complete. That can be done via the multinational commercial banks or directly with the central bank. Either works.

In a world that is told repeatedly to export 'vendor financing' has become the way to inject your own money into your own economy. That's why we see sovereign wealth funds and the like. It is the final resting place for all those foreign money things nobody at home actually wants to use - because it would destroy the export market.

It's the exporters stupid.

[guthrie]

5.65 million unemployed? Surely underemployed? Or am I missing a joke?

[rogerh]

Those wicked foreigners again. So, other folk won't buy our stuff because they prefer to stuff their cash under the mattress. Or they are buying stuff from someone else. Who are these other folk anyway - the Chinese, the Saudis, the (other) Europeans. My worry is that the axis of world trade may be shifting away from Europe and the US. Perhaps a bit of creative destruction - a nice little war somewhere safely afar will encourage a bit of overseas trade. Trouble is that new infrastructure afar is cheaply provided by others, so I doubt that will help us much. Worse, the economics of arms sales to 'friends' is unlikely to help much either.

[Magpie]

Chris,

Domestic Private Balance + Domestic Government Balance + Foreign Balance = 0

Search for this paragraph (the second after the equation above)

"As another example, assume that the foreign sector spends less than its income, with a budget surplus of $20 billion. At the same time, the domestic government sector also spends less than its income, running a budget surplus of $10 billion. From our accounting identity, we know that over the same period the domestic private sector must have run a budget deficit equal to $30 billion ($20 billion plus $10 billion). At the same time, its net financial wealth will have fallen by $30 billion as it sold assets and issued debt. Meanwhile, the domestic government sector will have increased its net financial wealth by $10 billion (reducing its outstanding debt or increasing its claims on the other sectors), and the foreign sector will have increased its net financial position by $20 billion (also reducing its outstanding debt or increasing its claims on the other sectors)."

http://neweconomicperspectives.org/2011/06/mmp-blog-2-basics-of-macro-accounting.html

[Luis Enrique]

Sometime I wonder whether this isn't one of the biggest questions in economics that is being widely ignored. Or at least not getting the prominence it should - there are bound to be some researchers who think about this.

We know that it would not make sense, from a welfare maximizing point of view, to borrow money from overseas to buy consumption goods from foreigners and in return have them buy up your domestic capital stock. Or at least it would only make sense if you had a very high discount rate and valued consumption today much more than tomorrow. But people taking the decision to borrowing money, and to buy cheaper goods from overseas (and people shutting down UK based production and moving it overseas) probably are all each just thinking about the short-run gains from these decisions.

Are we collectively doing something very stupid from a long-run perspective?

[Doc at the Radar Station]

Nobody seems to care about the trade deficit here in the US either. Look at recent history:
http://www.calculatedriskblog.com/2014/09/trade-deficit-decreased-in-july-to-405.html
This goes with the ridiculously low savings rate too:
http://www.calculatedriskblog.com/2008/12/savings-rate-starting-to-recover.html

[acorn]

Crikey! I haven't looked in on this site for some while. Today I find "Modern Money Theory" (MMT) all over it. "New Economic Perspectives" quoted and "3spoken". And that has got to be good.

[reason]

Luis Enrique,
yes. (Applies much more and for much longer to the US.)