Summary of

Commentary: The vast global impact of an inevitable Chinese recession


Takeaways

0.5 min

I still don’t really get this argument.

The case he’s making seems to be, if China hits a recession, this time it will cause global interest rates to go up, instead of down as per Keynesian economic thinking. The argument for that is … ‘the high Asian savings rate’? This in turn will cause servicing the debt burden more costly, which might affect the US and other Western countries. Some bits at the end about how the US trade war and Trump’s policies make the US economy less dynamic, and therefore riskier overall.


Snippets

Typical estimates, for example those embodied in the International Monetary Fund’s assessments of country risk, suggest that an economic slowdown in China will hurt everyone.  But the acute pain, according to the IMF, will be more regionally concentrated and confined than would be the case for a deep recession in the United States. Unfortunately, this might be wishful thinking.

The setup is that China is only going to affect Asia.


Although it is true that the US is still by far the biggest importer of final consumption goods, as a large share of Chinese manufacturing imports are intermediate goods that end up being embodied in exports to the US and Europe, foreign firms nonetheless still enjoy huge profits on sales in China.

Investors today are also concerned about rising interest rates, which not only put a damper on consumption and investment, but also reduce the market value of companies, particularly tech firms, whose valuations depend heavily on profit growth far in the future. 

I appreciate the usual Keynesian thinking that if any economy anywhere slows, this lowers world aggregate demand, and therefore puts downward pressure on global interest rates. But modern thinking is more nuanced.

The logic here is that to keep the economy going, you need to increase spending, which means lowering interest rates.


I do not understand this.

High Asian saving rates over the past two decades have been a significant factor in the low overall level of real, inflation-adjusted interest rates in both the United States and Europe, thanks to the fact that underdeveloped Asian capital markets simply cannot constructively absorb the surplus savings.

Bernanke calls this a ‘global savings glut’? This then leads to the core of the argument:


Thus, instead of leading to lower global real interest rates, a Chinese slowdown that spreads across Asia could paradoxically lead to higher interest rates elsewhere – especially if a second Asian financial crisis leads to a sharp draw-down of central bank reserves.

Core argument; let me get this straight: high Asian savings rate will cause interest rates elsewhere up if the Asian economies go into recession?


When the advanced countries had their financial crisis a decade ago, emerging markets recovered relatively quickly, thanks to low debt levels and strong commodity prices.

Why do these elements recover quickly?


Today, however, debt levels have risen significantly, and a sharp rise in global real interest rates would almost certainly extend today’s brewing crises beyond the handful of countries, including Argentina and Turkey, that have already been hit.

But the relatively short-term duration of its borrowing – under four years if one integrates the Treasury and Federal Reserve balance sheets – means that a rise in interest rates would soon cause debt service to crowd out needed expenditures in other areas. 

Ok, so the argument is if interest rates go up, that’s bad because spending cuts into debt service.


At the same time, Trump’s trade war also threatens to undermine the US economy’s dynamism. Its somewhat arbitrary and politically driven nature makes it at least as harmful to US growth as the regulations Trump has so proudly eliminated.