Thursday, September 13, 2007

Martin Wolf is Still Drinking Too Much Saving Glut Kool Aid

I have noted before in this blog that I really admire Martin Wolf of the Financial Times. I have also noted, however, that he is way too religious on the 'saving glut' theory of global imbalances--he has no patience for folks who take seriously the 'liquidity glut' interpretation of this phenomenon. There is a middle ground in my mind that allows room for both views as I have discussed in my posting "Global Economic Imbalances: a 'Saving Glut', a 'Liquidity Glut', or Both?" Given Mr. Wolf's dogmatic faith in the 'saving glut' view, I was not surprised to read in his otherwise interesting latest column the following paragraph:

Prof Taylor dismisses the “savings-glut” explanation for the low US interest rates, with the observation that global savings rates are lower than three decades ago. But the world, without the US, had a rapidly rising excess of savings over investment in the early 2000s, much of it directed to the US. Given the huge capital inflow, the Fed’s monetary policy had to generate a level of demand well above potential output.

Here again Mr. Wolf's 'saving glut' blinders do not allow him to consider the possibility that just maybe loose monetary policy in the United States was contributing to rise of excess saving in the first place. Moreover, he closes the paragraph by making the bizarre claim that the Fed was essentially hostage to the world economy and had to push easy money. In other words, the Fed was doing the world a favor in 2002-2005 when it held the federal funds rate at a historically low level. If true, then the related housing boom and the increased indebtedness of U.S. households were a good--dare I say an optimal--outcome. Applying this logic to its end, the Fed should continue pushing easy money no matter the consequences because it is good for a world economy out of balance. These absurd implications are why Mr. Wolf should take more seriously a 'liquidity glut' view to complement his 'saving glut' understanding of the world--the world is too complex to believe otherwise.

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