Thread: Should governments take any steps to boost exports? A Debate by Economist.

Raise domestic savings rates by making saving easier
David Laibson our guest wrote on Aug 6th 2010, 16:28 GMT

HERE are six ways to raise the savings rate without twisting arms. A higher savings rate will suppress imports and raise exports, closing the current account deficit.

1. Require all employers to default workers into a retirement savings plan. Let workers opt out if they don’t want to save.
2. Require all employers to use income-based default savings rates: 2% for low income workers, scaling up gradually to 15% for workers with the very highest incomes. (Low income workers have a relatively high Social Security replacement rate, so they don’t need to save as much.)
3. Make auto-escalation the default. In other words, after workers join the savings plan, automatically raise their savings rate 1% each year for five years. Workers can opt out if they don’t want auto-escalation.
4. Disallow early withdrawals from retirement savings accounts, (but keep loan features).
5. Repeal mandatory withdrawals from retirement savings accounts (after age 70½).
6. Cap expense ratios on retirement savings plans and other retirement savings accounts at 1.5% per year for small plans, 1% for medium-size plans, and 0.65% for large plans. (This reduces implicit dis-saving through payment of fees.)

If these six policies were adopted in the United States, the effective savings rate would rise by enough to wipe out the current account deficit. Moreover, nobody would be forced to save, since workers would have the opportunity to opt out.

The trade deficit is the messenger, not the message
Laurence Kotlikoff our guest wrote on Aug 6th 2010, 17:35 GMT

THE current account deficit is not something, per se, that countries should be worried about. Indeed, the word "deficit" is a misnomer. What a country's current account measures is the net amount of resources foreigners are investing in the country.

The term "current account deficit" should be forever banned and replaced with "net domestic investment by foreigners".

When foreigners invest their assets (capital) in a country, say the US, they can do so by buying entire companies or parts of companies, or starting companies. In this case, they take back ownership rights called stock. They can also lend their capital to American entrepreneurs who invest their capital for them. In this case, they take back ownership rights called corporate bonds. Or they can lend their capital to the federal government, in which case they take back ownership rights called Treasury bills and bonds.

Assuming the act by foreigners of investing in the country doesn't lead either households or the government to consume more, every extra dollar foreigners spend on US stock or private or government debt entails a dollar more of investment in the US.

So yes, foreigners may take back paper called "debt", but if the US isn't borrowing to consume, the funds it receives from abroad will be invested. This means that every dollar of debt issued to foreigners is offset by an extra dollar of assets held by US households, companies, or the government. So borrowing from abroad, does not, per se, mean the country's net indebtedness increases or, equivalently, that its net wealth declines.

If you are with me, repeat after me: "The bigger the current account deficit, the better!" Say it ten times until it rolls off your tongue and then email it to every blogger for The Economist who thinks otherwise.

Do they really think it would be better for the Chinese, for example, to invest in China or Africa or Iran or Europe or South America than in the US? When more investment is done in the US, American workers have more and better capital (plant and equipment) with which to work. This makes them more productive and lets them earn higher wages.

Those who rail against Chinese investment in the US must, at heart, think that we are borrowing from the Chinese to consume. But this is off base. The US has a positive saving rate, albeit an incredibly low one. So if we want to consume more, we can do so without the help of the Chinese. All we need do is save less.

Now if every country in the world chose not to invest in the US, there would be a capital shortage in the US, making US interest rates rise. This would most likely lead to even more US consumption out of its output. The reason is that most US wealth is held by older people who are ripening on the vine and know it. So if the return on their wealth rises, they will spend the extra income rather than save it for the hereafter.

In economists' lingo, the income effects outweigh the incentive or substitution effects, leading to more, not less consumption. So banning net foreign domestic investment in the US (making the current account deficit zero), will not only lead to lower wages for American workers, but also, most likely, a lower national saving rate.

If you've hung out with me so far, you've realised two things. First, the other bloggers on this issue, who are providing their preferred ways of keeping foreigners from investing in the US, are in need of a refresher course in economics. And second, and this is key, what we should worry about is not the extent of net domestic investment by foreigners (the more the merrier), but rather our country's national rate of saving.

As an American, I'm worried about the US rate of national saving and have been for decades as I've watched it fall and then fall some more. There has been a lot of talk about the rise in the US personal saving rate. But, as I explained in my last blog, the personal saving rate is a number in search of a concept. Like the government's fiscal deficit, you can make the personal saving rate as large or as small as you'd like by choosing your fiscal labeling appropriately.

The only saving rate measure that has economic meaning is the national saving rate, measured as national income less household and government consumption, all measured at producer prices. Look at the data at the back of the 2010 Economic Report of the President. Find the average value of national income for the first three quarters of 2009 (the fourth quarter isn't reported) in table B27 and subtract the average value of indirect taxes in column D. This gives you $11,297.8 billion in national income measured at producer prices for 2009. Now get the average of the sum of household plus government consumption over the three quarters and, again, subtract the average value of indirect taxes. This gives you $11,199.9 billion in national consumption measured at producer prices. The difference between 2009 national income measured at producer prices and 2009 national consumption measured at producer prices is 2009's national saving for the US.

This amount is pretty darn small. It's only $97.9 billion or 0.87% of national income.

Earth to America! The US is saving less than 1% of its national income! This is the lowest national saving rate recorded in the postwar period. The national saving rate in 1960 was close to 13%. Today, it's less than 1%.

No wonder foreigners are investing in the US. The US is spending so much and saving so little that it can't take advantage of more than a miniscule fraction of its domestic investment opportunities. Were foreigners to stop investing in the US to "cure" our current account "problem", we'd have essentially no domestic investment in the country.

So why is the US saving so little? Simple. The US government has been taking more and more resources from young savers and handing them to old spenders. Medicare and Medicaid benefits are direct transfers of consumption and are properly recorded as such in our national accounts. These transfers have been the biggest culprits in recent decades. Anyone interested in some documentation of this process should click here.

My bottom line? If the US saved 13% of its national income like it did in 1960, we'd be running a current account surplus, not a current account deficit. The current account deficit is the messenger, not the message. The message is that America's oldsters are pigging out at the expense of its youngsters for whom, it appears, they could care less. Until America's fiscal child abuse stops and the country dramatically raises its national saving, foreigners will continue to invest ever larger sums in the US. And we should thank them for their saving grace.

Avoid "fiscal devaluations"
Ricardo Hausmann our guest wrote on Aug 6th 2010, 19:53 GMT

INDUSTRIAL policy should be about removing relatively specific microeconomic obstacles that limit the productivity of particular industries. It should not be confused with fiscal devaluations, which are about doing through fiscal policy something similar to what could have been achieved with an exchange rate depreciation, namely, a subsidy on exports and a tax on imports. A fiscal devaluation is a third or fifth best, vis a vis a currency depreciation.

For countries like the US, the current account deficit is a macro issue and should not contaminate micro policies. For emerging markets, the real problem going forward is the carry trade generated by the interest differential that exists between the nominal rates they need to keep aggregate demand growth at a reasonable rate and the low interest rates set by the ECB and the Fed to keep those economies from tanking. This carry trade has the potential to seriously misalign the real exchange rate, cause inconvenient domestic booms and widen external deficits in a manner that would harm long-term growth.

A much better solution would be a tax on short term capital inflows that would make the carry trade uneconomical and would give monetary policy more room for maneouvre.

End policies that discourage saving
Scott Sumner our guest wrote on Aug 6th 2010, 20:18 GMT

A COUNTRY'S current account balance is the difference between its domestic saving and domestic investment. Thus the only way the US can reduce its current account deficit would be to invest less or save more. Should we try to reduce the deficit, and if so, what policies would be most effective?

It is not immediately obvious why US policymakers should be concerned with a current account deficit. Australia has had large current account surpluses for many decades, and yet by some measures has the best performing macroeconomy since 1991 (among Western developed countries). On the other hand, the deficit may in some way reflect flaws in America’s current policy regime. For instance, we may invest too much or save too little because of market failures, or distortionary fiscal policies.

I don’t see any reason to believe that America invests too much, although we obviously were allocating too much capital into housing during the middle of the decade. The most likely policy failure is that we save too little. But why shouldn’t the free market produce the optimal amount of saving? One answer is that we don’t have a free market in saving. All sorts of government policies strongly discourage saving. These include taxes on capital, Social Security, unemployment compensation, college aid programmes, government health insurance (as well as government-subsidised private health insurance.)

If we do save too little, what can we do about it? Some have argued that the US government should engage in some sort of “industrial policy” to boost exports. Unfortunately, these sorts of policies generally make an economy less efficient. It is true that some policies may be able to boost economic efficiency by correcting for market failures—e.g. carbon taxes. But even an efficient industrial policy is unlikely to significantly impact the current account deficit, as it would have only a tiny effect on America’s savings rate.

A much more effective way of boosting America’s saving rate would be to adopt the sort of fiscal regime used in Singapore. First, we should sharply cut, or preferably eliminate, all taxes on capital. A progressive consumption tax (and carbon tax) should be implemented to replace the lost revenue. Second, we should replace our social insurance programmes with mandatory self-insurance. Individuals would be required to place a share of their incomes into private accounts that could be used for retirement, health care, and unemployment. For individuals with low incomes, the private contributions would be heavily subsidised by the government.

If we moved to a high forced-saving/low tax regime, we could generate higher levels of saving and faster economic growth. There is no guarantee that it would shrink the current account deficit—after all, the faster growth might also boost investment. But it would at least assure that the current account deficit reflected underlying public preferences, not highly counterproductive (anti-saving) fiscal policies.

Cut government spending, but provide a private sector cushion
Guillermo Calvo our guest wrote on Aug 9th 2010, 13:10 GMT

GIVEN the recent experience in emerging markets and the US, it is very tempting to associate large and persistent current account deficits with impending financial crisis. However, the historical record shows important differences. For example, during the severe financial crises that hit emerging markets in the second half of the 1990s, the current account balance showed a sizable turnaround: in Latin America from about -5% of GDP to zero, and in Asia from around zero to about 5 or 6% of GDP. The US situation during the subprime episode is drastically different: the current account has remained negative and shows very slight improvement. The evidence is much more parallel across episodes if one focuses on the private-sector current account (defined as the total current account plus fiscal deficit). The US private-sector current account improved by a mind-boggling 8 percentage points of GDP since 2007 (twice the total current account adjustment in Latin America during the Russia-LTCM 1998 crisis!). This draconian adjustment is behind the loss of output and employment in the US. (Incidentally, a similar although less pronounced pattern can be observed in Europe and Japan). Therefore, it can be argued that the adjustment has already taken place. It is hidden in the aggregate by booming fiscal deficits, a luxury that emerging markets could not afford because their public sector also lost access to the capital market.

In view of the above, it is likely that the US current account deficit will vanish if the fiscal deficit can be cut in half by, preferably, lowering public expenditure. It is unlikely that the private sector will correspondingly increase its current account deficit, given that it is still going through a deleveraging cycle. However, cutting public expenditure is likely to mean painful massive resource reallocation, away from the construction sector and into other still unknown, and probably less unskilled-labour intensive, projects. By the way, the US real wage has not budged since the start of the subprime crisis, and will likely be badly hit by the reallocation process. Thus, there may be a role for government in facilitating the transition to the new equilibrium by providing some guidance and insurance for innovative projects. In addition, the US government should use its global clout to increase policy predictability in Europe, Japan and China. This will also facilitate successful planning by the private sector. Some of this may smack of industrial policy, but the motivation is not to increase export competitiveness. The motivation is to facilitate possibly large resource reallocation.

Consequently, if you want to lower the US current account deficit, cut government expenditure—but cushion the private sector. (For a related discussion, see my recent online note here.)