The role of corporate saving in global rebalancing
Philippe Bacchetta, Kenza Benhima
Among the many explanations behind global imbalances, the role of corporate saving has received relatively little attention. This column argues that corporate saving is quantitatively relevant, and proposes a theory that’s in keeping with the stylised facts and useful for understanding the existing phase of global rebalancing. The idea implies that, as the economic contraction while it began with developed countries has pushed interest levels towards the zero lower bound, the recent growth slowdown in emerging countries could push them from it.
The upsurge in global imbalances within the last decade posed a theoretical challenge for international macroeconomics. Why did some less-developed countries with an increased dependence on capital, like China, lend to richer countries? The inconsistency of standard open-economy dynamic models with actual global capital flows had recently been stressed before (e.g. by Lucas 1990), however the sensitivity to the issue became more acute with increasing global imbalances. This stimulated the development of several alternative theoretical frameworks. Gourinchas and Rey (2014) give a recent survey of the theories. However in the aftermath of the Global Crisis we’ve observed a substantial decrease in global imbalances. For instance, China’s current-account surplus has declined from 10% of GDP in 2007 to about 2.5% currently. Are these recent theories in keeping with this decline, and so are they useful in shedding light on the procedure of ‘global rebalancing’?
Several theories of global imbalances derive from the ‘savings glut’ perspective, predicated on strong saving needs in emerging countries, especially emerging Asia. Most analyses concentrate on increased saving by households. However, there’s also been a substantial upsurge in corporate saving. That is documented in Figure 1. From 1998 to 2007, the GDP-weighted average of the organization saving rate in six emerging Parts of asia increased by 8.1 percentage points, from 9.4% to 17.5% of GDP. This increase is a lot bigger than in other emerging countries or in developed countries. The upsurge in corporate saving coincided with a rise in investment rates and impressive growth rates.
Figure 1 . Change in corporate saving and investment rates – average annual real GDP growth rates, 1998-2007
Sources: World Bank, CEIC, US.
Notes: Emerging Asia: China, India, Philippines, Republic of Korea, Thailand, and Taiwan. Other emerging countries: Czech Republic, Kazakhstan, Kyrgyzstan, Mexico, Poland, Republic of Moldova, Tunisia, and Ukraine. Figures are GDP-weighted.
Data on corporate saving is published with long lags and limited to a subset of countries. But available data appears to indicate that the trend in corporate saving has been reversed. Figure 2 shows a rise in US corporate saving, while we visit a decline in ’09 2009 in China.
Figure 2 . Corporate saving rates
Sources: National Bureau of Statistics of China, US Statistics Division.
We obviously have to await more data to determine whether this trend is confirmed. For the time being, we are able to analyse the implications from recent theories. In earlier work (Bacchetta and Benhima 2014a), we developed a theory of global imbalances predicated on corporate saving. We’ve recently applied this framework in the context of rebalancing (Bacchetta and Benhima 2014b). We consider an asymmetric world economy with an Emerging country and a Developed country, basically representing China and the united states. We examine the impact of three shocks: a market meltdown and a rise slowdown in the Developed country, and a rise slowdown in the Emerging country.
We find that three shocks result in global rebalancing through changes in corporate saving. However, these shocks have a different effect on the world interest. The two shocks while it began with the Developed country have a poor impact on the interest, as the shock in the Emerging country includes a positive impact. Therefore that the original phase of rebalancing was connected with a downward pressure on real interest levels, however the recent period is much more likely to be connected with a rise in world interest levels. Hence, as the economic contraction while it began with developed countries has pushed interest levels towards the zero lower bound, the recent growth slowdown in emerging countries could push them from it. We also observe that slower growth in the Emerging country improves the trade balance of the Developed country.
The framework we developed in Bacchetta and Benhima (2014a) presents a conclusion for why fast-growing emerging countries may lend to slower-growing economies – an attribute difficult to reconcile with standard international macroeconomic models. The essential mechanism is founded on liquidity needs by credit-constrained firms, in the spirit of Holmstrom and Tirole (2001, 2011). To introduce this aspect in a dynamic macroeconomic model, we follow Woodford (1990), where entrepreneurs have two-period projects. Within their first period, entrepreneurs spend money on illiquid capital and choose their liquid asset holdings. Within their second period, they produce utilizing a labour input. To cover wages, firms can either borrow or use their liquid assets. When borrowing is bound, firms need more liquid assets. This is why why fast-growing countries with tight borrowing limits have higher liquid asset holdings and higher corporate saving. Moreover, higher growth leads to a joint upsurge in saving and in investment. Whenever we consider an asymmetric two-country model, we assume that the liquidity motive is strong in the Emerging country and weaker in the Developed country. Consequently, the Developed country behaves much like standard open-economy models, as the Emerging country includes a different behaviour.
The strong dependence on liquid assets in the Emerging country introduces a fresh channel of international transmission. A reduction in the world interest has a negative effect on surplus economies holding liquid assets. This negative liquidity channel is coupled with two other, more standard channels. First, you will find a substitution channel as firms substitute capital for labour. Second, you will find a collateral channel as credit constraints are looser with less interest. We analyse theoretically and numerically the various factors determining the effectiveness of these different channels. With tight borrowing limits, the liquidity channel dominates and low world interest levels have a poor effect. With mild borrowing constraints, low interest have more standard results.
Furthermore to affecting the spillover mechanism of interest changes, the large liquidity holdings in the Emerging country affect the response of the world interest to fundamental shocks. A fascinating facet of the model is a positive output comovement in the current presence of productivity shocks. This contrasts with standard intertemporal open-economy macroeconomic models, where productivity shocks have negative spillovers (e.g. Obstfeld and Rogoff 1996). However, the mechanism resulting in this positive comovement differs depending on if the shock originates in the Developed or in the Emerging country. Nevertheless, the liquidity needs of the Emerging country play an integral role in these mechanisms, since it affects either the direct impact of the shock on the world interest or the spillover channel.
As a straightforward illustration consider two shocks: declines in productivity in the Developed and in the Emerging countries. Figure 3 and 4 show the impact of a decline in productivity by 1% for 10 periods for both of these shocks. Both shocks imply a reduced amount of the web asset position b of the Emerging country, which implies a decrease in global imbalances. However the two shocks have different transmission mechanisms and an opposite effect on world interest levels.
Figure 3 . Productivity decline in the Developed country
First consider the negative productivity shock in the Developed country represented in Figure 3. This shock reduces corporate borrowing in the Developed country, which depresses the world’s interest. In a typical framework, this might benefit the Emerging country. However, the price of liquid assets, which are crucial in the production process in the Emerging country, increases. Because of this, output and bond holdings reduction in the Emerging country and global imbalances unwind. A deleveraging shock in the Developed country could have the same impact, since it also reduces corporate borrowing.
Consider now Figure 4. While a decline in productivity in the Developed country reduces the way to obtain liquid assets, a decline in productivity in the Emerging country reduces the demand for liquid assets, which escalates the equilibrium interest and plays a part in global rebalancing. This upsurge in the interest is detrimental to the Developed country as borrowing is costlier. Unlike conventional wisdom, the slowdown in the Emerging country would enhance the trade balance in the Developed country, as the Emerging country will be less ready to lend to the Developed country, making the financing of its trade deficit more expensive.
Figure 4 . Productivity decline in the Emerging country
Among the many explanations behind global imbalances, the role of corporate saving has received less attention. We show that it’s quantitatively relevant, and propose a theory that’s in keeping with the stylised facts. We argue that approach pays to in understanding the existing phase of global rebalancing. Nonetheless it should obviously be combined with other significant factors suggested in the literature.
Bacchetta, Philippe and Kenza Benhima (2014b), “Corporate Saving in Global Rebalancing”, mimeo.
Gourinchas, Pierre-Olivier and Helène Rey (2014), “External Adjustment, Global Imbalances, Valuation Effects”, in G Gopinath, E Helpman, and K Rogoff (eds.), Handbook of International Economics, Vol IV, North Holland.
Holmstrom, Bengt and Jean Tirole (2001), “LAPM: A liquidity-based asset pricing model”, Journal of Finance, 56(5): 1837-1867.
Holmstrom, Bengt, and Jean Tirole (2011), Outside and inside Liquidity, MIT Press.
Lucas, Robert E Jr (1990), “Why doesn’t capital flow from rich to poor countries?”, American Economic Review, 80: 92-96.
Obstfeld, Maurice and Kenneth Rogoff (1996), Foundations of International Macroeconomics, MIT Press.
Woodford, Michael (1990), “Public debt as private liquidity”, American Economic Review, 80(2): 382-388.