Fixing Global Finance

  • Published

Fixing Global Finance by Martin Wolf. Johns Hopkins University Press, 2008, 248 pp.

Financial Times columnist Martin Wolf writes an insightful book detailing global capital flow, with special focus on the capital “savings glut” that he believes has led to the ongoing global financial crisis. Wolf’s thesis is that excessive savings generated by the huge trade surpluses of export-oriented emerging Asian economies and oil-exporting nations is undermining the global economy’s growth and stability.

The author believes that the savings glut is an irrational precautionary measure largely taken by nations adversely affected by the Asian financial crisis of the 1990s—the manifestation of a credit crunch which ultimately led to foreign debt default and GDP contraction. Emerging economies subsequently lost their tolerance for debt/deficits and eventually eliminated their foreign debt obligations by devaluing their currencies. This led to massive trade surpluses and an accumulation of foreign currency reserves, resulting in the savings glut about which Wolf speaks.

Between 2000 and 2006, foreign currency reserves of the emerging market economies increased to approximately $2.65 trillion. If not for the United States implementing expansionary fiscal and monetary policies capable of absorbing these surpluses, the US and global economies would have been in trouble long ago. The author believes that global economic stability for the past 10 years has been accomplished simply by shifting the preponderance of the world’s deficit onto the United States. The US economy has been absorbing about 70 percent of the surplus savings of the rest of the world, with the difference accounted for not by increased investment, but by higher consumption and a lower rate of savings. This was neither desirable nor sustainable. Wolf argues that the United States is at least as much the victim of decisions made by others as by decisions made here. He and many economists believe that the current US account deficit, which equates to 7 percent of annual GDP, is unsustainable in the end. However, it would be helpful for global macroeconomic stability if fundamentally solvent high-income countries could absorb some of the excess savings of emerging countries. In other words, the US deficit should shrink but not disappear.

The author further argues that feasible changes can be made in the global finance system to promote the transfer of capital to emerging market economies without precipitating large-scale crises—thus ending reliance on the United States as the borrower and spender of last resort. Between 1955 and 1971, emerging market economies experienced no bank crises and only 16 currency crises. Then, between 1973 and 1997, there were 139 financial crises in all. The age of liberalization became the age of crises. Wolf notes that, in a kind of Catch-22, financial globalization can contribute to a country’s economic development, but if the country’s institutions have not reached a stable functioning level, liberalization is likely to generate crises that are themselves bad for economic development.

Emerging countries need to stimulate the inflow of foreign direct investment and portfolio equity, keeping most of their borrowing in domestic currency and creating financial systems that entail fiscal and monetary discipline. The author argues that if emerging countries are to move forward without dependence on US demand, they must achieve more-balanced growth. The key is to expand demand relative to supply, with a focus on public and private consumption. In addition, exchange rates of these countries should be allowed to rise to the extent needed to keep inflation under control. Countries with excess savings will need to learn to spend. For example, China—the world’s largest surplus economy with a $1.2-trillion foreign currency reserve, a current account surplus of 12 percent of annual GDP, and a gross savings close to 60 percent of GDP—is wasteful and a destabilizing force for the world economy.

This short book, well researched, logically presented, and full of supporting charts/figures, fairly captures the widely accepted essence of the prevailing global financial crises. Although Fixing Global Finance does not challenge or shed any original light on the interpretation and application of monetary policy or trade theory and practice, it does articulate concisely the complexities and frailties of international finance. What makes the book most interesting is that it anticipated the current global financial crisis; however, despite his title, Wolf falls short of providing any real enlightenment on how to fix it.

This book is a tough read for those without an economic, international trade, or finance background. The language is often technical and the author’s thoroughness in dealing with alternative views can dissuade the casual reader. That said, if carefully read, one can learn just as much from weighing the ideas Wolf does not support. Students, academics, and government/military professionals seeking a concise, yet advanced, level of understanding of global finance and its imperfections, should read this book.

Dr. David A. Anderson

US Army Command and General Staff College

"The views expressed are those of the author(s) and do not reflect the official policy or position of the US government or the Department of Defense."