Some (developed economies) are behaving like nothing has happened. Australia stands out in that regard. Its household debt has surged by 20 percent since the Crisis hit and recently surpassed 100 percent of GDP. Its household debt to disposable income ratio, at 156 percent, is the highest among major economies in the world. Australia has had 4.5 percent of GDP in annual current account deficit for two decades, i.e., its household debt is funded by foreign capital inflow. Its property market is still booming. When you see rapidly rising household debt, a big current account deficit, and a booming property market, it is a credit-cum-property bubble for sure.
Australia's bubble has survived the 2008 crisis because commodity prices came on the back of the Fed's zero interest rate policy and China's massive credit growth. The Australian bubble is very likely to burst when commodity prices fall sharply. Either a substantial economic slowdown in China or spiking U.S. interest rates would trigger it.
Australia is an exception. The booming commodity market is giving it the choice not to adjust. Some economies must adjust and fast, because they depend on foreign capital for financing. Iceland, Greece, and Ireland are small economies that depend on foreign capital to fund their fiscal deficits, i.e., they run large current account deficits and don't have sufficient domestic savings to fund their government deficits.
Japan is another economy that hasn't decreased its leverage; the belt tightening in the private sector has been offset by the government's deficit spending. Japan's debt level is truly frightening. But, it has been that way for two decades. The reason for its stability is due to its high domestic savings rate. Japan has been consistently running large current account surplus, i.e., sending its savings surplus abroad, for decades. Japanese people have extremely high home bias in deploying their savings. Japan's government can borrow at extremely low interest rate. Hence, it has no incentive to change its behavior.
Only a sustained current deficit would change Japan's dynamics. An aging and declining population is slowly bringing down Japan's savings rate. But Japan's investment need is declining too. Hence, it is still running a significant current account surplus. The situation will change in a decade or so. Japan is unlikely to change without an external constraint. I suspect that Japan will look the same a decade from now.
Thursday, January 20, 2011
Xie on Australia and Japan
From Between a Crutch and Walking Stick: Why the dollar has got to go as the world's reserve currency – and how the euro will replace it.