The Economist published a special study on the US economy on 31 March. In the week before, it had extolled the strengths of the UK economy. The message on the UK economy was political. It excoriates the Labour Prime Minister for the budget deficit and for the ill-advised liberalization and deregulation of the financial sector. They are right on the latter, but on the former they are harsh. The Labour government had no choice. A Conservative government would not have been able to do anything different, given the situation. In the UK, the household sector has been far more intent on deleveraging and on raising its savings rate than in the US. From a level of -0.7% in March 2008, the UK household savings rate climbed to 8.4% in the third quarter of last calendar year before dipping to 7% by December 2009.
That is a good recovery in prudent habits but a lot of work remains to be done. The jump in UK households’ financial liabilities between the end of 2002 and the third quarter of 2009 of 65% outpaced the jump in household financial assets of around 50% in the same period. While the financial asset-liability ratio remains comfortably high, thanks to the recent recovery in asset prices, it must be kept in mind that liabilities are fixed while asset prices can decline.
In the case of the US, the survey article claimed that Americans were putting behind consumption and debt and looking ahead to investment and exports. Thoughts and words outpace reality. On investment spending, it is true that the trend is now in line with past recoveries from recessions. On consumption and savings, there are still worrying signs.
US household savings rate as a percentage of disposable income crept up to 6.4% in the aftermath of the crisis but has since slid to 3.1%. The UK fares much better. This is in spite of the fact that personal income, excluding transfers from the government, continues to shrink. Hence, data do not support the story that Americans are becoming more frugal. Of course, the devil is in the details. The bulk of the increase is in healthcare expenditure, which has risen by 5% since end-2007, whereas the overall increase in real personal consumption expenditure is still down from the peak in 2007.
Hence, it is possible to argue that US households are being frugal on things in their control and that they could do with some help from their government in weaning them further away from their cars towards public transport alternatives and bicycling. The survey article goes to some length in explaining why a higher petrol tax is still taboo in the US. Nor are US interest rates high enough to induce savings. Thus, policymakers are in no hurry to abandon the well-trodden path of no fixes and quick fixes.
Where the US has a mixed blessing is with respect to its labour market flexibility. Profitability in corporations has bounced back more quickly than expected because labour was shed with astonishing vigour. But while investment spending is recovering, hirings and personal income and compensation growth are not. There is less than one job opening for every five unemployed persons. The percentage of long-term unemployed (without a job for six months or longer) at 44% is at its highest. The broad unemployment rate is stubbornly near 17% and the consumer perception of current and future job prospects has not improved at all in the last one year.
Free-market ayatollahs would argue that job and personal income recovery would follow the recovery in corporate profitability and investment. It did not happen the last time around between 2002 and 2007. It is unlikely to happen this time around too, unless, of course, the systemic incentives begin to encourage morality and fair play among US corporate executives. The ratio of compensation of CEOs to the median worker pay is around 300. Interested readers could go to http://sociology.ucsc.edu/whorulesamerica/power/wealth.html for more detailed arguments and references.
Consequently, both the pace of income growth and debt reduction would be slower than desired. That means many years of sluggish US growth, a large fiscal deficit, and high and rising public debt. At the same time, corporations would not be able to maintain the pace of profit recovery unless the rest of the world—particularly the catch-up countries in Asia and Latin America—grows much faster and the US dollar resumes its trend weakness. Western governments have misgivings on the former and financial markets are confused on the US dollar.
Niranjan Rajadhyaksha, Mint’s managing editor, wondered in his recent column this month (www.livemint.com/2010/04/01213556/The-politics-of-currencies.html) if the world was moving into a twilight zone with no single dominant currency. He was right to muse thus. We are going to have economic growth in one area, but the developed world would continue to cling on to the vestiges of its international dominance such as reserve currencies, unilateral reports on others’ economic policies and high positions in multilateral institutions. This is untenable. Short the US dollar and the UK pound against gold and most Asian currencies.
V. Anantha Nageswaran is chief investment officer for an international wealth manager. These are his personal views. Your comments are welcome at firstname.lastname@example.org