India's role in a multi-polar world - Alfred Herrhausen Gesellschaft

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Through a billion voices: India’s role in a multi-polar world
flowing from the surplus countries to the deficit
countries, which many believe has been one of the
causes of the recent financial crisis. As the crisis
deepened, the major deficit countries saw domestic
savings increase while their current account deficits
declined. Meanwhile, in the major surplus countries
the current account surpluses also declined.
It is supposed by many that global imbalances
will soon be cured. However, this is a premature
assessment because the fundamental drivers of
this era of globalisation have not changed one iota,
despite the destructive forces which they unleashed
to bring about the crisis.
Even a casual glance at the countries on opposing
sides of the imbalances reveals a pattern to this new
wave of global labour division. On the deficit side,
we have the US, the UK and Australia, all of which
have adopted the Anglo-Saxon model of capitalism
and have strong financial sectors. The surplus side
is more diverse, but we can still discern a pattern.
It is comprised of three groups of countries: the old
manufacturing giants, namely, Germany and Japan,
Whilst the American financial market
may be too fluid, the financial markets
in the surplus countries are too static
the newly emerged “world factories”, especially
China, and oil exporters.
Here the key to understanding the imbalances is
to think about financial services as a tradable good.
Traditional economic theory does not recognise them
as such, thus it cannot be used to explain current
account imbalances. This is because a surplus country
experiencing an increase in wealth would import
more until its current account surplus is depleted.
Meanwhile, a deficit country faced with high interest
rates would cut borrowings in order to rebalance its
current account.
Thus, if we treat financial services as a tradable
Growing pains: global adjustment architecture | Yang Yao
good, it becomes easier to explain global imbalances.
It is not a coincidence that all of the surplus countries
do not have highly developed financial markets. They
generally specialise in either manufacturing or in oil
exporting. Like other activities, finance is concentrated
in places where efficiency can be maximised. It is
therefore of little surprise that the “manufacturing”
of finance is concentrated in New York and London.
As a result, “hard-earned” money flows from the
surplus countries to the deficit countries. Here
“money” is the input of the financial companies in
New York and London, just like raw materials bought
by any manufacturing company.
The financial markets in the surplus countries are
incapable of channeling income earned from exports
towards domestic investment or consumption,
so those countries have to seek the assistance of
financial service firms in New York and London to
help invest their surpluses. This observation has an
ironic implication when viewed in the context of the
debate over the cause of the global financial crisis,
where blame is often laid squarely on the door of
the American financial market. Whilst the American
financial market may be too fluid, the financial
markets in the surplus countries are too static.
The large influx of money creates a wealth effect
that increases current consumption in the recipient
countries, ultimately creating deficits in their current
accounts.
The pain of downward adjustment
For many, the financial crisis demonstrates that
the current pattern of global specialisation is
unsustainable. However, viewing it with the reasoning
presented above, one realises that the issue is not
one of sustainability, but one of adjustment. In this
case, two factors, both relating to economies of
scale, require painful adjustments in most countries:
(1) the concentration of manufacturing in a few
countries; and (2) the concentration of finance among
a small section of the population in financially strong
countries.