Global imbalances, best understood as the accumulation of large current account surpluses by some countries and large deficits by others, have pre-occupied economists for many years. During much of this decade the current account deficit of the United States was rising and savings rates falling. The proximate cause was the rapid rise in house prices and low interest rates that induced consumers to spend a part of their increased wealth on consumer goods. Initially, the mirror of that imbalance was observed pretty much throughout the world, but most notably in China where a large current account surplus began accumulating.
By 2008 global imbalances (measured as the sum of the absolute value of every country’s current account balance) peaked, with high oil prices exacerbating the deficits of oil importers and generating huge surpluses among exporters. With the crisis, oil prices have come down, consumers worldwide endured a large cut in their wealth, and strikingly China’s current account surplus (as did those of oil exporters) and the U.S. current account deficit also fell sharply.
Source: World Bank
The World Bank’s recently released Global Economic Prospects argues that although cyclical factors are at play in the decline in these imbalances, they are unlikely to return to past peaks. That assessment is based on four assumptions about future developments. First, household savings rates in the United States are likely to remain high; second, public savings in the U.S. are likely increase (fiscal stimulus will begin to be withdrawn as the recovery takes hold); third, oil prices are likely to remain close to current levels; and last, China will have some success in stimulating domestic demand and overcoming the imbalance between domestic savings and investment that has increasingly characterized its economy in recent years---most notably since 2006.
Source: World Bank
Of course, how things turn out is very uncertain. Should continued low interest rates rekindle the kind of wealth effects observed during the housing bubble or if the U.S. government does not take steps to reign in government spending, then the U.S. current account deficit can be expected to start to rise once again. Similarly, adjusting China’s investment and savings behavior will not be easy. While some form of real effective appreciation, such as the crawling peg the country has in place prior to the crisis, is likely part of the solution, a sharp appreciation as called for by some is unlikely to be effective. Because China and the U.S. do not produce the same goods, it risks increasing the cost of U.S. imports and actually exacerbating the deficit of the United States.