This is a nice note by the US and Australian academic economist, Max Cordon. Max raises an important point that occurred to me years ago when Paul Krugman first speciously claimed that the US financial crises was, in fact, caused by an Asian savings glut. Truth be known, that is grossly incorrect and more a manifestation of extreme US policymaking hubris.
Surplus Asian savings did not create, or cannot be held responsible for, in any way: too big to fail insurance companies (eg, AIG), investment banks (eg, Bear Sterns, Lehman, Goldman and Merrills), or commercial banks (eg, Citigroup); non-recourse sub-prime loans; incredibly poor lending standards; extraordinarily high mortgage default rates; or a financial system dominated by two AAA-rated, Government Sponsored Enterprises that accounted for around 50% of all housing finance, amongst the many other signal features of the crisis in the US.
Most importantly, Asians had no control over how the capital they lent to the US was invested. These were decisions made by US and European financial institutions.
It was Western investment bankers who dreamt up CDOs, SIVs, and high risk mortgage-backed securities. It was Western commercial and investment banks that extended credit to commercial real estate and risky residential developers. They had a rich universe of productive investments to choose from. But, as Max correctly argues, the Western financial system, in this painful case-study, failed miserably. It did not allocate capital to the most productive investments, presumably because of the distorted incentives, risks and information disclosures associated with these assets.
This resulted in a credit bubble secured against questionable investments, which, when it unravelled, reverberated around the world with such strength that governments were forced into a crusade to socialise private debts. In turn, this socialisation process has perpetuated a public debt crisis, as all too many predicted (in contrast, it should be said, to the first episode). And, to remind Krugman et al, these were not Asian failures, but exclusively Western shortcomings. (Regular readers will know I am equally harsh in my assessment of China's pastoral and political integrity.)
