G20: adjusting propensities to save

The French and German leaders at the G20 summit have called for more financial regulation coordinated globally here; the US president in a news conference with the UK leader was more concerned with the importance of other countries increasing their purchasing power and not relying on his country as the major buyer of goods.

The proposals are different, but one of the major aims is the same for all the leaders. They are concerned with resolving the world's current financial and economic problems. In fact, if we can anticipate the main arguments a little, even the analysis is similar. What underlies the problems is the distribution of purchasing power within and across countries. More financial regulation, if applied uniformly across countries, would presumably lead to more restrained borrowing and higher investment in the US, UK, and other high spenders, while increasing the expenditure in high investment countries such as East Asia. Countries already taking a balanced course on expenditure - that is, countries like France and Germany - would not have to adjust much. By contrast, increased expenditure in countries outside the US and other high spenders would increase demand worldwide while decreasing the availability of funds to US consumers, so increasing their own saving by the market mechanism. The work here would be done by countries outside of the high spenders, primarily.

A third mechanism of adjustment, one which is not proposed by these three countries as far as I know but which has influential academic support, has some elements of both approaches and some entirely distinct ones. It may be considered regulation through the market, allowing banks to go bankrupt so that they adjust their lending practices through fear of the market consequences. Then available funds will reduce in the high spending countries, and their consumers will increase their propensities to save. The approach is attractive in that it does not punish consumers excessively in any country relative to risky, profitable banks, and combines some of the advantages of the other two adjustment procedures, as well as being implementable at a domestic level without international agreements. One problem is that the periodic, genuine bankruptcy of banks is likely to lead to disruption in the real economy.

What I think leaders would really like to do is directly persuade the public in their own and other countries to adjust their spending habits towards capital goods or consumer goods, depending on whether their economies are low or high saving ones. Leaders do not generally criticise the general public, though. Imagine the headlines: "UK Prime Minister turns on 'irresponsible small business people in Vietnam'."

So the arguments are about who should do the work to adjust the economy and incur the adjustment costs. It looks like the sort of solution that could be advanced by intelligent problem solving and willingness to reach a mutually beneficial arrangement. The leaders seem to understand the problems, as in the US President's response to a pertinent question at the press conference yesterday of "whether US consumers should spend more to get out of the recession". The answer was slow, roughly being "spend without fear, but your caution is understandable. Spending in education is one thing you should not be afraid of." The answer, by what it doesn't say, expresses a major problem in the world economy today: boosting consumer spending when one country can no longer achieve the goal on its own.