Professional Investor – The Official Journal Of The CFA Society Of The UK, 1st June 2010
This article was first published in Professional Investor Magazine.
Below is an extract of the article.
———————————————————–
“The reasons for the recent financial crisis are legion, says Andrew Smithers. It is wrong, however, to treat the various problems as separate and unconnected.”
To have a reasonable chance of assessing the future, it is essential to understand the past. We are just recovering from the worst recession for 80 years and investors wishing for future success need therefore to be clear about the causes of this collapse. Asset bubbles, excesses and imbalances in international savings, and China’s exchange rate have all been justly blamed for our present troubles. Seeing them as separate and distinct issues is common, unjustifi ed and pernicious. It is, for example, often claimed that it is not the renmimbi, but the lack of US savings that is the problem. Such statements treat the various imbalances as if they were separate and unconnected, which they are not.
It is fair and reasonable that both individuals and countries should be free to decide to save whatever proportion of their incomes seems to them to be right. However, if intentions to save exceed intentions to invest, they will be thwarted by a fall in incomes and output, causing widespread unemployment. It is generally agreed that fiscal and monetary policies should be introduced to off set this. But if the countries that have the excess savings rely on the rest of the world to take the necessary off setting action, the result will not be fair and reasonable, as the cost of thwarting the aggregate excess of savings intentions will fall on some populations and not on others.
If the required ex-post balance between savings and investment was achieved by higher investment, there would probably be no serious problem. The additional investment would boost future labour incomes as well as profits. In the corporate sector labour takes about 70% of the gross incremental return from additional investment so, despite the higher flow of income which would, in the future, flow from the importer of capital to the exporter, the recipients would still be large net gainers from the investment fl ow. If, however, the adjustment comes through the thwarting of savings intentions, then there will be a fall, rather than a rise, in the future incomes of the capital importing countries.
——————————————————-
Full article: International savings and investment in the balance [Professional Investor Summer 2010 pg 19 – 21]