谢国忠

Whither Anglo-Saxon Model? (译文)

Home prices in the United Kingdom fell by 2.5% in March, the biggest drop since 1992. Compared with a year earlier, the prices rose by 1.1%, the slowest in 12 years. The UK's house prices have increased by 171% in the past ten years, twice as much as personal disposable income. The tightening credit market, as reflected in the high labor rate, suggests the March number not an accident. When liquidity dries up, a bubble will surely burst. The end of the UK's property bubble seems here.

You may still remember that Northern Rock, a UK mortgage lender, went burst and was recently nationalized. It had £113bn in assets or 8.2% of the UK'GDP compared to Bear Stearns's assets at 3.6% of the US's GDP. While the bad news from the US dominates headlines, the UK is quietly having a burst comparable in relative terms. IMF suggests that the UK's housing market is twice as overvalued as the US's.

In the April edition of its World Economic Outlook, the International Monetary Fund argues that Australia's property market is the fourth most vulnerable to a painful price correction in the world. It found Australia's property price 25% overvalued (my estimate is much higher). While property prices in some locations like Perth look shaky, Australia has not seen the price correction that the UK or the US is experiencing. What keeps Australia going is the carry trade: international investors borrow dollar at 2.25% or Japanese yen at 0.5% and buy Australian dollars at 7.25% interest rate. The resulting inflow sustains its property market.

High commodity prices boost Australia's export income and hence sustain its high interest rate. It is possible that the high interest rate will deflate its property bubble. When it occurs, the Reserve Bank of Australia will cut interest rate, the carry trade will reverse, and money will leave Australia, which will accelerate the decline of its property price. The end for Australia's property bubble will be similar to the US or UK's. It just takes longer for Australia to get there because of high commodity prices.

IMF considers Ireland's housing market the most overvalued among developed economies. Ireland has been called the Celtic Tiger for its Asian-like GDP growth rate. Most attribute Ireland's success to its business friendly environment. Less known is to what extent its prosperity results from its property bubble. Its property price has shot up 200% in the past five years alone. The building sector accounted for 13% of the workforce in 2005. There are now 250 thousands of vacant homes or 15% of the total housing stock compared to 100 thousands of vacant properties five years ago. Recently, asking prices in Dublin have dropped significantly. It seems the Irish property market is heading for a Hong Kong style crash, I think.

Australia, Ireland, the US together with UK are commonly called Anglo-Saxon countries, as they speak English and share many common characteristics that mark their politic-economic system different from others. Their economies have been lionized in the intellectual circle and popular press for superior performance. The so-called Washington Consensus that IMF and the World Bank espouse really argues for developing countries to emulate the Anglo-Saxon system. The Anglo-Saxon economies are all having trouble at the same time, as their property bubbles burst. That will lead to a debate on their economic model.

I am not suggesting that property bubble is limited to the Anglo-Saxon economies. China, Eastern Europe, India, the Middle East, Spain, etc., are all experiencing property bubbles. Spain's bubble is already bursting like in the US and UK. Property bubble has been a global phenomenon. Alan Greenspan has used this fact to defend himself as not the one to blame, sort of like it's ok to party if everyone else is. The problem is that his policy was the most important factor in causing the global bubble. As globalization and IT decreased the sensitivity of inflation to money supply, Greenspan's loose monetary policy led to asset inflation. Other central banks had to keep monetary policy equally loose to prevent their currencies from big appreciation to protect their export competitiveness. Through currency market Greenspan was effectively setting monetary policy for the world. Not only the US, the whole world should blame him for the catastrophe today.

IMF and other think tanks estimate property valuation by building a model with independent variables like rent, interest rate, income, etc. The problem is that, as a property bubble exaggerates economic performance, all these variables get distorted too. For example, when a bubble bursts, rent tends to fall. I look at the ratio of property value to GDP. This ratio has spiked up by 50-100% for many countries that are facing property burst now. The chances are that the spike-up represents the size of the bubble. The property overvaluation in the global economy is probably over 50% of GDP or $25 trillion. As the bubbles burst one after another around the world, the adjustment will be painful and involve both price decline and inflation. The global economy is entering a stagflationary phase that may last for three years or longer.

The bubble bursting has cast doubts on the Anglo-Saxon Model. The Anglo-Saxon model espouses minimum government intervention, maximum competition, free trade, and free capital flow. The model has shown extraordinary capacity in promoting growth and flexibility in coping with shocks. Many now argue that insufficient regulation is the cause of the bubble. It may lead to a backlash against free market philosophy that has dominated intellectual thinking since the end of the Cold War. My take is that the model has overreached in financial deregulation. The model still applies well to the real economy. What the world needs to learn from the current crisis is that finance is not just another business and requires tight regulations to prevent financial crisis. The world forgot the lesson from the Great Depression in the 1930s and removed many regulations in late 1990s that had guarded the financial security for six decades. The world needs to regulate finance, not the real economy.

Margaret Thatcher began the deregulation revolution when she came to power in 1979. She privatized state-owned enterprises by distributing their shares among the population, dismantled union power, and embraced free market at home, free trade abroad, and free capital flow. This free market revolution led to an economic revival. The UK's GDP growth rate increased to 2.6% in the 1980s from 1.9% in the 1970s. The growth continued into the 1990s and the 2000s.

When Ronald Reagan came to power in the US one year later, he embraced the same ideas. He dismantled labor union power, deregulated markets, and embraced free trade. In telecom, deregulation led to intense competition, which spawned beneficial innovations. Indeed, without the deregulation, internet would not be possible.

Though less noticed, Australia also embraced deregulation after 1983. Paradoxically, the reforms in Australia took place under a Labor government. It liberalized currency control, introduced competition in financial, telecom, transport sectors, and halved trade protection for industries. Government enterprises were corporatized or privatized. But, Australia didn't dismantle labor union power. This difference is one reason for the slow expansion of its mining sector, which is hurting China by sustaining high commodity prices.

In contrast, Europe and Japan continued the heavy regulations that governed their economies after World War II. Their decline relative to the Anglo-Saxon economies has been frequently cited as evidence for the superiority of the Anglo-Saxon approach. When Koizumi came to power in Japan, he tried to introduce similar reforms there and succeeded to a very limited extent. The governments after him have been reversing some of his reforms.

The Thatcher-Reagan revolution among Anglo-Saxon economies is a productivity story in theory. When competition is encouraged, it leads to more efficient resource allocation and faster pace of innovation. Both have been realized. Indeed, the triumph of the free market approach in the 1980s led to the collapse of the Soviet Union, the end of the Cold War, and the wide acceptance of free market among emerging economies.

The Anglo-Saxon revolution overshot in late 1990s in two ways. First, the regulatory structure governing the financial sector since the Great Depression was dismantled. For example, universal banking was allowed again. When Travelers Group was merging with Citibank, it needed to bring down the Glass-Steagall Act. The law was passed in 1933 to separate investment banking from commercial banking. The purpose of the law was to prevent investment banking activities from taking advantage of government guaranteed bank deposits. Otherwise, taxpayers would be subsidizing speculative activities by investment banks. The Travelers Group was mainly comprised of an insurance company and an investment bank, the Solomon Brothers. The head of the Travelers Group, Sandy Weil, probably single-handled convinced the Congress to change the law for the merger to proceed.

In the 1990s, Anglo-Saxon governments shifted their policy towards financials sector from controlling risk to promoting financial business. This switch was due to the lobbying by the financial sector. In the US, the share of profits among listed companies attributable to financial businesses rose from 5% twenty years ago to 40% at the peak. Its bulging wallet gave the financial sector clout in lobbying government. Many governments pretty much blasted away any barrier that stood in the way of expanding finance.

Finance is supposed to serve the real economy. Hence, its size should be stable relative to the real economy. When it keeps expanding much faster than the real economy, something must be wrong. When regulations are removed for finance to expand, it becomes predatory in dealing with the real economy. Because of information asymmetry, it can manipulate the real economy for profits. Predatory finance is called financial capitalism. Rising oil price is the best and the most damaging example of financial capitalism. During the Great Depression, most governments recognized it as a major factor in causing the economic collapse. Hence, regulations like the Glass-Steagall Act were put in place to limit what financial businesses could do.

The antagonistic relationship between regulators and financial businesses changed to a cooperative one in the 1990s. The regulators increasingly relied on financial businesses to regulate themselves, i.e., through risk management. In the aftermath of the subprime collapse, the regulators were shocked by the lax internal control of the collapsing financial institutions.

The regulators are either disingenuous or ignorant. The lax internal control was on purpose, in my view. Financial institutions don't work for their shareholders, countries, or clients. They work for the bonuses of their employees, especially senior managers. When profits surge, they can pay themselves big bonuses. When the profits turn out to be unreal later on, they don't give back the bonuses. A financial system is inherently disposed towards crisis if not regulated tightly. This is why financial crisis is a recurring phenomenon. The misalignment of incentives between the senior managers at the financial businesses and all the other stakeholders is why regulations are needed to limit their freedom.

Second, the Anglo-Saxon countries failed to recognize that the growth spurt after deregulation was partly one-time phenomenon and was not sustainable. Their governments and central banks tried to sustain unsustainably high growth rates. The low inflation environment gave them the cover to run loose monetary policy. The policy led to rising trade deficits. The US's trade deficit spiked above $800 billion (or 1.6% of global GDP) per annum. Even though Australia has benefited enormously from high commodity prices and its exports have surged, its trade deficit, however, is now ten times the level in the 1990s. Basically, it spends all the money from its good luck and some more. It is probably the only resource-rich country that runs a big trade deficit today.

The Anglo-Saxon countries account for almost all the trade deficits in the world. East Asia and oil exporters are on the surplus side. Inflation usually accompanies unsustainable growth. However, in the age of globalization, rising trade deficit could substitute for inflation in the short term. As the trading partners exhaust their production capacity, inflation happens across the world at the same time. This is what is happening now. Excessive demand from Anglo-Saxon countries over-stimulated the global economy and is causing global inflation.

The faith in high growth rate was not just among policymakers. Their populations believed it. This is why they were willing to borrow to spend, because they believed that income growth in the future could pay off the debts. Of course, financial 'innovations' made such behavior possible in practice. By creating products like sub-prime, home equity loans, etc., the households could borrow with properties as collaterals. These credit products led to surging property prices and, hence, made borrowing with properties as collaterals easier.

The faith in high growth among Anglo-Saxon countries was a popular illusion. They were extrapolating the past trend infinitely into the future. They failed to realize that deregulation had a one-time effect in boosting growth. The credit-cum-property bubble kept the living standard at an unsustainably high level for Anglo-Saxon economies. The burst of the bubble requires these economies to handle the losses from declining asset prices and also to adjust their living standards downwards to sustainable levels. They are not through the first part yet. The second part has only begun. The Anglo-Saxon economies will experience pain for several years.

Lax financial regulation, moral hazard behavior at financial institutions, and popular illusion of everlasting high growth rate were the three factors behind the bubble. Missing one factor, the bubble wouldn't have happened. To prevent future bubbles, restoring financial sector regulations would be quite effective. I think that the Anglo-Saxon governments will re-regulate their financial sector in the coming years.

If the current financial crisis triggers a backlash against deregulation in general, that would be a tragedy. The deregulation of the real economy in the Thatcher-Reagan Revolution was quite successful, I believe. It had a one-time boost to economic growth for a decade. It may have improved long-term growth also. Ceteris paribus, competition is the best path to efficiency. Finance is an exception due to asymmetric information.

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