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Kvartiraokhotnik
10-06-2009, 20:50
Get Ready for Inflation and Higher Interest Rates
The unprecedented expansion of the money supply could make the '70s look benign

Get Ready for Inflation and Higher Interest Rates - WSJ.com (http://online.wsj.com/article/SB124458888993599879.html)

Carbo
10-06-2009, 22:10
Oh, Kvarty, you're such a romantic.

Anyway, I had a quick skim, and with the caveat that I still need a more detailed read, I think that it (1) might not be saying quite what you think it's saying and (2) mostly wrong.

Now, I must go, because Ms. Carbo wants to watch a movie and she's giving me the evil eye and asking "are you still shitting around on the internet?"

Carbo
11-06-2009, 11:41
OK, I had started crafting a long, blow-by-blow refutation. After two paragraphs I got bored and thought, "My God! If I'm boring myself, what on earth will I do for the good folks on the forum?" And then, "Kvarty won't change his mind anyway."

So I decided to pull out Martin Wolf's outstanding article for the FT.


Rising government bond rates prove policy works

Is the US (and a number of other high-income countries) on the road to fiscal Armageddon? Are recent jumps in government bond rates proof that investors are worried about fiscal prospects? My answers to these questions are: No and No. This does not mean there is no reason for worry. It is rather that there are powerful arguments against fiscal retrenchment right now and strong reasons for welcoming recent moves in the bond markets.

Last week, the Financial Times carried two columns arguing that the US fiscal path was unsustainable, one by Stanford University’s John Taylor and the other by the Harvard historian Niall Ferguson. The latter, in turn, was a comment on a debate with, among others, the New York Times columnist and Nobel laureate Paul Krugman at the end of April.

On one point all serious analysts agree: public debt cannot rise, relative to gross domestic product, without limit. To embark on fiscal stimulus in the short run, one must be credible in the long run.

So what is the disagreement? Prof Ferguson made three propositions: first, the recent rise in US government bond rates shows that the bond market is “quailing” before the government’s huge issuance; second, huge fiscal deficits are both unnecessary and counterproductive; and, finally, there is reason to fear an inflationary outcome. These are widely held views. Are they right?

The first point is, on the evidence, wrong. The jump in bond rates is a desirable normalisation after a panic. Investors rushed into the dollar and government bonds. Now they are rushing out again. Welcome to the giddy world of financial markets.

At the end of December 2008, US 10-year Treasury yields fell to the frighteningly low level of 2.1 per cent from close to 4 per cent in October (see chart). Partly as a result of this fall and partly because of a surprising rise in the yield on inflation-protected bonds (Tips), implied expected inflation reached a low of close to zero. The deflation scare had become all too real.

What has happened is a sudden return to normality: after some turmoil, the yield on conventional US government bonds closed at 3.5 per cent last week, while the yield on Tips fell to 1.9 per cent. So expected inflation went to a level in keeping with Federal Reserve objectives, at close to 1.6 per cent. Much the same has happened in the UK, with a rise in expected inflation from a low of 1.3 per cent in March to 2.3 per cent. Fear of deflationary meltdown has gone. Hurrah!

It is true that spreads between conventional US bonds and bonds issued by Germany and the UK have narrowed (see chart). But US yields were extraordinarily depressed during the panic. Normality returns.

If inflation expectations are not worth worrying about, so far, what about the other concern caused by huge bond issuance: crowding out of private borrowers? This would show itself in rising real interest rates. Again, the evidence is overwhelmingly to the contrary.

16083

The most recent yield on Tips is below 2 per cent, while that on UK index-linked securities is close to 1 per cent. Meanwhile, as confidence has grown, spreads between corporate bonds and Treasuries have fallen (see chart). One can also use estimates of expected inflation derived from government bonds to estimate real rates of interest on corporate bonds. These have also fallen sharply (see chart). While riskier bonds are yielding more than they were two years ago, they are yielding far less than in late 2008. This, too, is very good news indeed.

Now turn to the fiscal policy. The argument advanced by opponents is either that fiscal policy is always unnecessary and ineffective or, as Prof Ferguson suggests, redundant, because this is not a “Great Depression”. Monetarists argue fiscal policy is always unnecessary, since monetary expansion does the trick. Economists who believe in “Ricardian equivalence” – after the early-19th-century economist David Ricardo – argue fiscal policy is ineffective, because households will offset any government dis-saving with their own higher savings.

Economists disagree fiercely on these points. My approach is “Keynesian”: in extreme moments, the excess of desired savings over investment soars. Again, monetary policy, while important, becomes less effective when interest rates are zero. It is then wise to wear both monetary belt and fiscal braces.

A deep recession proves there is a huge rise in excess desired savings at full employment, as Prof Krugman argues. At present, therefore, fiscal deficits are not crowding the private sector out. They are crowding it in, instead, by supporting demand, which sustains jobs and profits.

Prof Ferguson argues that fiscal expansion was unnecessary because this is only a mild recession. The question, however, is why it is only a mild recession, since precursors of a depression were surely present.

The answer, in part, is the aggressive monetary policies of central banks and the rescue of the financial system. But is that all? What would have happened if governments had decided to cut spending and raise taxes? One might disagree on how much deliberate fiscal loosening was needed. But one of the most important reasons this is not the Great Depression is that we have learnt a lesson from experience then, and in Japan in the 1990s: do not tighten fiscal policy too soon. Moreover, historically well-run economies are certainly able to support higher levels of public indebtedness very comfortably.

This, then, brings us to the last concern: the fear of inflation. This is essentially the question of how to exit from current extreme policies. People need to believe that the extraordinarily aggressive monetary and fiscal policies of today will be reversed. If they do not believe this, there could well be a big upsurge in inflationary expectations long before the world economy has recovered. If that were to happen, policymakers would be caught in a painful squeeze and the world might indeed end up in 1970s-style stagflation.

The exceptional policies used to deal with extreme circumstances are working. Now, as a result, policymakers are walking a tightrope: on one side are premature withdrawal and a return to deep recession; on the other side are soaring inflationary expectations and stagflation. It is irresponsible to insist either on immediate tightening or on persistently loose policies. Both the US and the UK now risk the latter. But their critics risk making an equal and opposite mistake. The answer is both clear and tricky: choose sharp tightening, but not yet.

That's pretty much what I've been saying: Inlfation is only a risk if governments mistime the withdrawal.

Carbo
11-06-2009, 13:52
More. Just read this in the Economist's Free Exchange blog.


HENRY BLODGET is apparently worried about the prospect of American hyperinflation. Back in May, he was telling us to "Brace for Hyperinflation". Today he has a post up entitled, "Here Comes Hyperinflation". I'm beginning to get the feeling that Mr Blodget doesn't actually know to what "hyperinflation" refers.

For starters, the people he links to for support warn about inflation that is distinctly not hyper in nature. In "Brace for Hyperinflation", he quotes John Hussman, who says:


[I]t will result in a stunning and durable increase in the quantity of base money, which will ultimately be accompanied not by a year or two of 5-6% inflation, but most probably by a near-doubling of the U.S. price level over the next decade.

A near-doubling of the price level in a decade means 7% inflation, which is not hyperinflation. In today's post, he turns to Arthur Laffer, who says:


While the short-term pain of a deepened recession is quite sharp, the long-term consequences of double-digit inflation are devastating.

Double-digit inflation is more than Mr Hussman saw fit to warn us about, but it's still not much of a hyperinflation. What is hyperinflation?


To put the hyperinflation issue in context, Weimar Germany had a monthly rate of inflation of about 3,000,000% in 1923, and as of last November, Zimbabwe had an estimated monthly inflation rate of 13,000,000,000%. At these rates, prices double multiple times per day. An America with rates even close to these levels is one in which the nation's political institutions have all completely collapsed.

At any rate, Mr Blodget's fears seem to be misplaced. He refers to rapid growth in the supply of money as reason for concern, and indeed, in normal times it would be. But these are not normal times, and most of the increase is due to a rise in bank reserves which are simply sitting there, doing not very much. If the money isn't doing anything, then it's not inflationary. But the money might start doing something eventually, mightn't it? Certainly, but that would indicate that banks were finding lots of profitable loan opportunities, which would in turn indicate that recovery was well underway, which would in turn indicate that the Federal Reserve would have scope to rein in supply.

The bottom line is this—markets aren't perfect, but they're not oblivious either. If there were even the remote possibility of sustained, very high inflation, the 30-year interest rate would be soaring, and it is definitely not soaring. It's up off the extremely low levels sustained during the depths of the financial crisis, but that's not saying much.

Carbo
14-06-2009, 22:11
There have been several more articles rubbishing the initial article in the Wall Street Journal to which Kvarty linked.

macroblog: Price stability and the monetary base (http://macroblog.typepad.com/macroblog/2009/06/price-stability-and-the-monetary-base.html)

And here:

Way off base - Paul Krugman Blog - NYTimes.com (http://krugman.blogs.nytimes.com/2009/06/13/way-off-base/)

I know few have taken me up or attempted to debate this, but I think it's fairly clear that the original article has got it wrong.

MickeyTong
14-06-2009, 23:36
I just want to say that I haven't a clue what any of this means.
















Maybe that's why I sleep soundly.

MickeyTong
14-06-2009, 23:44
___ THE ECONOMISTS : ECONOMIC FORECASTING ANIMATION ___________________ (http://www.andyfoulds.co.uk/amusement/economists.htm)

Qdos
15-06-2009, 00:00
I just want to say that I haven't a clue what any of this means.

Economics bores the pants off me too. It's not as if the industry really has a valid claim to fame either - other than the tiresomely ridiculous speculative boom and bust trends which are cast down on the people at grass roots level as a 'fait accompli' in a fairly regular cyclic fashion :o

Adamodeus
15-06-2009, 00:55
Economics bores the pants off me too.
:9456: For the love of God, don't tell Qdos any more about Economics!! :nut:

Adamodeus
15-06-2009, 03:28
Carbo, it would be interesting what you think about this article then:

De-Dollarization: Dismantling America’s Financial-Military Empire (http://www.globalresearch.ca/index.php?context=viewArticle&code=HUD20090613&articleId=13969)

Carbo
15-06-2009, 09:02
Carbo, it would be interesting what you think about this article then:

De-Dollarization: Dismantling America’s Financial-Military Empire (http://www.globalresearch.ca/index.php?context=viewArticle&code=HUD20090613&articleId=13969)
Well, I don't think it adds anything new, except to switch the emphasis toward a tough luck story about how all these poor BRICs have been working hard and are pissed off with us from building up masses of debt, as well as a kind of epochal story about a shift in the global power structure.

First, China, Russia, Germany et al, are in their own way just as much to blame for this crisis as the Americans.

And second, I see no evidence -- not one shred -- that the dollar is anywhere near losing its status as premier currency. Perhaps -- perhaps -- in a couple of years, the Euro may get joint status, like the pound and the dollar in the inter-war years, but that's is.

For the Yuan to take over, China would have to relax capital controls and exchange controls, stop targeting currency value with its monetary policy (which is one of the reasons it can export so competitively), and offer some kind of highly liquid security equivalent of T-Bonds, or at least German Bunds.

I just don't see it.

Kvartiraokhotnik
15-06-2009, 09:56
And second, I see no evidence -- not one shred -- that the dollar is anywhere near losing its status as premier currency. Perhaps -- perhaps -- in a couple of years, the Euro may get joint status, like the pound and the dollar in the inter-war years, but that's is.

For the Yuan to take over, China would have to relax capital controls and exchange controls, stop targeting currency value with its monetary policy (which is one of the reasons it can export so competitively), and offer some kind of highly liquid security equivalent of T-Bonds, or at least German Bunds.

I just don't see it.

None so blind as those that wont see, eh Carbo?

The IMF will introduce a new global system of exchange probably involving SDR's backed up by a basket of currencies, as already suggested by BRIC.

The dollar is undoubtedly on its way out. Sooner rather than later.

Carbo
15-06-2009, 10:23
None so blind as those that wont see, eh Carbo?

The IMF will introduce a new global system of exchange probably involving SDR's backed up by a basket of currencies, as already suggested by BRIC.

The dollar is undoubtedly on its way out. Sooner rather than later.
Yes, they could do that. But that's got nothing to do with the dollar as the primary currency in the world. You and I will not be able to get our hands on SDRs.

Further, SDRs, no matter what the BRICs think, will not solve the problem. Until China and Germany stop running massive currenct account surplusses, and start spending their savings a bit more, the world will not recover -- or at least not in a sustainable way.

SDRs will not stop that.

Kvartiraokhotnik
15-06-2009, 10:43
Yes, they could do that. But that's got nothing to do with the dollar as the primary currency in the world. You and I will not be able to get our hands on SDRs.

Further, SDRs, no matter what the BRICs think, will not solve the problem. Until China and Germany stop running massive currenct account surplusses, and start spending their savings a bit more, the world will not recover -- or at least not in a sustainable way.

SDRs will not stop that.

Hehehhe!!!

Firstly....

If there is a new global system of exchange, the dollar ceases to be the world reserve currency, and i get my Kronenburg. The first paragraph you wrote makes no sense whatsoever to me. I dont want SDRs. But if the IMF creates a new world reserve currency with them, then of course the dollar loses its world reserve status. So its got everything to do with the dollar as primary currency.

Secondly....

The Carbonian critique. China and Germany are to blame. They arent spending enough, the tight-fisted weasels! If only they had built up trillions of dollars in debt to the world banking Kleptocracy, like the good old UK and US have done, the world economy would be OK!!!! Only in the topsy-turvy world of Carbonian economics does being in debt = good economy, whereas having lots of savings = bad economy.

Spending doesnt build an economy. Industry builds an economy.

Carbo
15-06-2009, 11:05
Hehehhe!!!

Firstly....

If there is a new global system of exchange, the dollar ceases to be the world reserve currency, and i get my Kronenburg. The first paragraph you wrote makes no sense whatsoever to me. I dont want SDRs. But if the IMF creates a new world reserve currency with them, then of course the dollar loses its world reserve status. So its got everything to do with the dollar as primary currency.

Secondly....

The Carbonian critique. China and Germany are to blame. They arent spending enough, the tight-fisted weasels! If only they had built up trillions of dollars in debt to the world banking Kleptocracy, like the good old UK and US have done, the world economy would be OK!!!! Only in the topsy-turvy world of Carbonian economics does being in debt = good economy, whereas having lots of savings = bad economy.

Spending doesnt build an economy. Industry builds an economy.
You know, Kvarty, I loathe it when you paint my views as some kind of weird, propeller-head-physicist-proving-an-elephant-can-hang-over-a-cliff-supported-only-by-a-daisy economics.

You know as well as I do that the global current account must always total zero. All the imbalances must balance. The current deficit in western countries started with a savings glut in surplus countries, which, instead of stimulating domestic demand, manipulated their currencies and built massive surpluses. Those surpluses can’t sit there, and since they were stung by equities during the late nineties Asian crisis, they dumped huge amounts into US Treasuries, US corporate bonds, and other AAA securities across the world, making it extraordinarily cheap and easy for the US (and, to a lesser extent, the rest of the western world) to run up massive deficits (which Bush gleefully did, after the fiscal prudence of the Clinton era).

This is a well documented fact, not some hair-brained topsy-turvy effort of call an apple and orange.

Wait, and I’ll find a better explanation.

Carbo
15-06-2009, 11:09
Hehehhe!!!

Firstly....

If there is a new global system of exchange, the dollar ceases to be the world reserve currency, and i get my Kronenburg. The first paragraph you wrote makes no sense whatsoever to me. I dont want SDRs. But if the IMF creates a new world reserve currency with them, then of course the dollar loses its world reserve status. So its got everything to do with the dollar as primary currency.
Second, I don't get you.

Since last summer you've been saying that the dollar is through and won't be reserve currency "within a year". The new deadline is 2010. OK, then, fine.

But SDRs will be invisible.

They will be something completely different, not really a currency in the normal sense at all.

From what I know, they were Kaynes's idea, originally, and he called them the banquor, which would be used to punish anyone who built up too large a current account surplus or deficit.

I would guess that any instigation of SDRs would lead to a wholesale change in the way the global economy works and how capital flows. That wouldn't be a case of the dollar losing it's status so much as the entire game being changed.

I think it's going to take a while for the BRICs, if, indeed, they do want that, to get it. They'll have to give more funding to the IMF to buy more votes for a start.

Meantime, they're going to have to face up to developing their own economies, without relying on massive overspending in the west to fund their growth.

Kvartiraokhotnik
15-06-2009, 11:31
I would guess that any instigation of SDRs would lead to a wholesale change in the way the global economy works and how capital flows. That wouldn't be a case of the dollar losing it's status so much as the entire game being changed.



Whatever you wanna call it Carbo, but i get my Kronenberg if it gets introduced, because in doing so the dollar loses its world reserve status, which was the bet we made. And you know it!

:rolleyes:

Carbo
15-06-2009, 11:33
Kvarty, here's Martin Wolf -- hardly a lefty liberal topsy turvy character -- from last year explaining how global imbalances have worked.


A central role has been played by the emergence of gigantic savings surpluses around the world. In 2008, according to forecasts from the International Monetary Fund, the aggregate excess of savings over investment in surplus countries will be just over $2,000bn (see chart).

The oil exporters are expected to generate $813bn. Remarkably, a number of oil-importing countries are also expected to generate huge surpluses. Foremost among them are China ($399bn), Germany ($279bn) and Japan ($194bn). As a share of gross domestic product, China’s current account surplus is forecast at an astonishing 9.5 per cent, Germany’s at 7.3 per cent and Japan’s at 4 per cent. In aggregate, the oil exporters, plus these three countries, are forecast to generate 83 per cent of all surpluses.

Surplus countries often enjoy contrasting their prudent selves with the profligacy of others. But it is impossible for some countries to spend less than their incomes if others do not spend more. Lenders need borrowers. Without the latter, the former will go out of business.

In 2008 the big deficit countries are, in order, the US, Spain, the UK, France, Italy and Australia. The US is far and away the biggest borrower of them all. These six countries are expected to run almost 70 per cent of the world’s deficits. (It should also be noted that the world seems to be running a $350bn surplus with itself.)

One might argue that Spain, France and Italy merely offset Germany’s surpluses within the eurozone. It is true that the eurozone as a whole is forecast to run a small deficit of $66bn. This does not mean that Germany’s vast surpluses have no global macroeconomic impact. Despite being the world’s second largest economic area, the eurozone makes next to no contribution to offsetting surpluses elsewhere. Furthermore, pressures on the eurozone’s deficit countries are growing. Fiscal crises are at least conceivable in some cases.

As I have pointed out previously, the most interesting feature of the global imbalances has been the corresponding pattern of domestic financial imbalances. The sum of net foreign lending (gross savings, less domestic investment) and the government and private sector financial balances (the latter the sum of corporate and household balances) must be zero. In the case of the US, the counterparts of the net foreign lending this decade were, first, mainly fiscal deficits, then government and household deficits equally and, finally, government deficits, again (see chart). During recessions, the private sector retrenches and the government deficit widens. Similar patterns can be seen in other high-income countries, notably the UK. Housing booms helped make huge household deficits possible in the US, the UK, Spain, Australia and other countries.

So where are we now? With businesses uninterested in spending more on investment than their retained earnings, and households cutting back, despite easy monetary policy, fiscal deficits are exploding. Even so, deficits have not been large enough to sustain growth in line with potential. So deliberate fiscal boosts are also being undertaken: a small one has just been announced in the UK; a huge one is coming from the incoming Obama administration.

This then is the endgame for the global imbalances. On the one hand are the surplus countries. On the other are these huge fiscal deficits. So deficits aimed at sustaining demand will be piled on top of the fiscal costs of rescuing banking systems bankrupted in the rush to finance excess spending by uncreditworthy households via securitised lending against overpriced houses.

This is not a durable solution to the challenge of sustaining global demand. Sooner or later – sooner in the case of the UK, later in the case of the US – willingness to absorb government paper and the liabilities of central banks will reach a limit. At that point crisis will come. To avoid that dire outcome the private sector of these economies must be able and willing to borrow; or the economy must be rebalanced, with stronger external balances as the counterpart of smaller domestic deficits. Given the overhang of private debt, the first outcome looks not so much unlikely as lethal. So it must be the latter.

In normal times, current account surpluses of countries that are either structurally mercantilist – that is, have a chronic excess of output over spending, like Germany and Japan – or follow mercantilist policies – that is, keep exchange rates down through huge foreign currency intervention, like China – are even useful. In a crisis of deficient demand, however, they are dangerously contractionary.

Countries with large external surpluses import demand from the rest of the world. In a deep recession, this is a “beggar-my-neighbour” policy. It makes impossible the necessary combination of global rebalancing with sustained aggregate demand. John Maynard Keynes argued just this when negotiating the post-second world war order.

In short, if the world economy is to get through this crisis in reasonable shape, creditworthy surplus countries must expand domestic demand relative to potential output. How they achieve this outcome is up to them. But only in this way can the deficit countries realistically hope to avoid spending themselves into bankruptcy.

And here he is from this week talking about a similar matter, and offering fresh insight, outlining why for a recovery to happen, China and Germany must take the lead.


Germany and China have much in common: they have the world’s two biggest current account surpluses, at $235bn and $440bn, respectively, in 2008; and both are also powerhouses of manufactured exports. They have, as a result, suffered from the collapse in demand of overindebted purchasers of their exports. So both feel badly done by. Why, they ask themselves, should their virtuous people suffer because their customers have let themselves go so broke?

Germany and China are also very different: Germany is a highly competitive global producer of manufactures. But it is also a regional power that has shared its money with its neighbours since 1999. Its problem is that its surpluses were offset by its neighbours’ largely private excess spending. Now that the borrowers are bankrupt, their countries’ domestic demand is collapsing. This is leading to a huge expansion in fiscal deficits and pressure for easier monetary policies from the ECB. So Ms Merkel is driven towards undermining the independence of Germany’s central bank, in order to protect the still more vital goal of monetary stability.

Germany may be Europe’s pivotal economy. But China is a nascent superpower. Without intending to do so, it has already shaken the world economy. Incorporating this dynamic colossus into the world economy involves huge adjustments. This is already evident in any discussion of a sustained exit from the crisis.

A recent paper from Goldman Sachs – unfortunately, not publicly available – sheds fascinating light on the impact of China’s rise on the world economy.* In particular, it broadens the analysis of the role of the “global imbalances”, on which I (and many others) have written.

The paper points to four salient features of the world economy during this decade: a huge increase in global current account imbalances (with, in particular, the emergence of huge surpluses in emerging economies); a global decline in nominal and real yields on all forms of debt; an increase in global returns on physical capital; and an increase in the “equity risk premium” – the gap between the earnings yield on equities and the real yield on bonds. I would add to this list the strong downward pressure on the dollar prices of many manufactured goods.

The paper argues that the standard “global savings glut” hypothesis helps explain the first two facts. Indeed, it notes that a popular alternative – a too loose monetary policy – fails to explain persistently low long-term real rates. But, it adds, this fails to explain the third and fourth (or my fifth) features.

The paper argues that a massive increase in the effective global labour supply and the extreme risk aversion of the emerging world’s new creditors explains the third and fourth feature. As the paper notes, “the accumulation of net overseas assets has been entirely accounted for by public sector acquisitions ... and has been principally channelled into reserves”. Asian emerging economies – China, above all – have dominated such flows.

The huge capital outflows were the consequence of policy decisions, of which the exchange-rate regime was the most important. The decision to keep the exchange rate down also put a lid on the dollar prices of many manufactures. I would add that the bursting of the stock market bubble in 2000 also increased the perceived riskiness of equities and so increased the attractions of the supposedly safe credit instruments whose burgeoning we saw in the 2000s. The pressure on wages may also have encouraged reliance on borrowing and so helped fuel the credit bubbles of the 2000s.

The authors conclude that the low bond yields caused by newly emerging savings gluts drove the crazy lending whose results we now see. With better regulation, the mess would have been smaller, as the International Monetary Fund rightly argues in its recent World Economic Outlook. But someone had to borrow this money. If it had not been households, who would have done so – governments, so running larger fiscal deficits, or corporations already flush with profits? This is as much a macroeconomic story as one of folly, greed and mis-regulation.

The story is not just history. It bears just as heavily on the world’s escape from the crisis. The dominant feature of today’s economy is that erstwhile private borrowers are, to put it bluntly, bust. To sustain spending, central banks are being driven towards the monetary emissions of which Ms Merkel is suspicious and governments are driven towards massive dis-saving, to offset higher desired private saving.

Today, Germany wants to preserve the value of its money, while China is desperate to preserve the value of its external assets. These are understandable aims. Yet, if this is to happen, debtor countries have to stabilise their economies without another round of profligate private borrowing or an indefinite rise in government debt. Both paths will ultimately lead to defaults, inflation, or both and so to losses for creditors. The only alternative is for debtors to earn their way out. At the level of an entire country that means a big rise in net exports. But if indebted countries are to achieve this aim, in a vigorous world economy, the surplus countries must expand demand strongly, relative to supply.

China’s decision to accumulate roughly $2,000bn in foreign currency reserves was, in my view, a blunder. Now it has a choice. If it wants its claims on the US to be safe, it must facilitate an adjustment in the global balance of payments. If it and other surplus countries wish to run huge surpluses and accumulate vast financial claims, they should expect defaults. They cannot have both safe foreign assets and huge surpluses. They must choose between them. It may seem unfair. But whoever said life is fair?