Martin Wolff’s common fallacy on trade surpluses

What is global demand? Is it simply a fixed entity at a certain moment in time or does it depends on the state of the global economy? In the debate on trade surpluses and deficits in global trade it is easy to show that there is a strict complementarity if global output is fixed exogenously that those countries that run a trade surplus opposite those with a deficit are winners and the other losers in trade. Dividing the cake makes it not grow larger. However this is a static view on the issue. Martin Wolff seems to stick to this common fallacy.
What if the size of the cake depends on the efficient allocation of global resources? We know from neoclassical growth theory that it might be beneficial if a capital rich country – e.g. like Germany – exports capital because if invested abroad in countries with a higher marginal productivity of capital it could generate higher returns than at home. So capital exports might be a win-win-strategy for both countries. If the creditor country lends out capital at a lower rate of return than the debtor country is able to generate by utilizing it, the debtor country would be able to pay the interest on the borrowed capital and still keep a surplus from this operation. So capital exports can under such circumstances be beneficial two both of them. On the contrary the exported capital can be wasted abroad – e.g. by buying consumption goods in particular luxury cars like Mercedes or Bentleys – since the transfer of revenues has no positive return neither to cover the borrowing cost nor even to create a surplus this king of capital transfer is bad for both countries because the creditor risks the his debtor will default on this kind of borrowing.
What I want to illustrate by these two examples is that from the mere fact that there exists a current account surplus and deficit between countries one cannot simply deduct if it is evil or good.
However, many economists like Martin Wolf still stick with the issue that that current account surplus opposite other countries running a deficit is always harmful. This is a dangerous simplification. The fact is that in some cases it might contribute to grow the cake bigger while in other cases it shrinks the cake. It will be therefore an open question what is the overall net effect. Therefore one should separate those countries with too much consumption financed by external capital imports which would lead sooner or later to a current account crisis harming debtor and creditor countries from the other where the import of capital improves the growth performance. The whole debate why developed countries – usually considered being capital rich – should export capital to emerging economies or developing countries. So like Cinderella one has always to separate the good peas from the rotten ones one has to look at the impact those capital transfers have. This is tedious but it is the only way to make a proper assessment.
It’s the Income Distribution, stupid!
What is not taken as the fundamental cause of the global demand weakness is the steadily widening global income inequality. “’It’s the economy, stupid’ is a slight variation of the phrase ‘The economy, stupid’ which James Carville had coined as a campaign strategist of Bill Clinton’s successful 1992 presidential campaign against sitting president George H. W. Bush.” Was this saying was pointing out that elections are not won by other topics on the policy agenda if the economy is in troubles.
Similarly one could modify this in the current global situation where there is a lack in global demand. With rich are getting ever richer since quite some time and the poor poorer as regularly all kinds of global wealth reports illustrate again and again, the lack in global demand is due to a distributional problem. The rich spend less on consumption as the poor would do if they could. The rich peoples consumption is not income constrained. Usually they still save most of their income. Simply by interest revenue, profits, wealth effects and tax evasion their income and wealth increase steadily. The poor have often too little disposable income even to cover their basic needs or consume more than their long-term disposable income could cover to avoid ending finally in a debt trap and default. As long, however, incomes of the poorer are lagging more and more behind of that of the rich, there will be a cumulative growing global demand gap.
Lack of global demand depresses global investment since even if the financing costs are incredibly low nobody will invest in additional production capacities with expecting demand which will take over the additional supply. It is this distorted global income distribution as well as similar at the national level which holds back growth. At the same time the excess savings are spend on speculative purposes like stocks and real estate to create bubbles. For the rich there is no alternative until they realize that they have to give up some of their surpluses to the poor. It is to my mind no surprise that the recent IMF Fiscal Monitor addressed this issue.
Up to now for at least the past five years governments around the globe have supported effective demand by running huge fiscal deficits. However, this put them into a position that their sustainable fiscal position opposite the private sector deteriorated.
Looming defaults force the government at some point to switch to an austerity policy if they do not dare to touch the income inequality at its root. This, however, makes things even worse. If the poor even get poorer due to fewer transfer payments from the state and a deteriorating public infrastructure, the social crisis becomes even more pronounced.
One only has to look at the history of past revolutions. It was simply the ignorance to understand that they have overdone the redistribution from the poor to the rich. It is no surprise that the ILO in its recent report warns on an increasing risk of a global escalation social unrest. Without an active policy to redistribute wealth and income from the rich to the poor the situation would run more and more out of hand. Then the only way out are social revolutions and social unrest. Why nobody of the currently ruling elites is able to understand this challenge?
It’s a shame that monetary policy with its unorthodox flooding the global economy with liquidity did not see the fact, that it is only putting oil into the flames. The money ends up not there where it is needed, i.e. the poor, but in the pockets of the rich. This just accelerates the disintegration of the social fabric.


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