The West has failed to adapt to China’s huge savings glut
AS RECENTLY as 1990, the Chinese saved $153bn (£101bn) a year and accounted for less than 1 per cent of global savings. This year, they will save $4.5 trillion and account for 25 per cent. Over the last eight years, China has leapt from holding a tenth of the world’s savings to a quarter.
My Gresham lecture series examines the impact of globalisation on the West. And one of the biggest issues is China’s savings glut. Traditionally, large economies have had gross savings to GDP ratios of between 15 and 20 per cent. China’s is now 50 per cent. Households account for half, while the rest is held by firms and government. Savings are now on such a scale that they badly distort Western economies.
First, this glut drove down yields before the crisis. Consequently, ill-informed westerners invested in ever-riskier asset classes to chase target yields based on the experience of a different era. Investors were encouraged by regulators, who used actuaries not economists to tell them what they should treat as normal. Pension funds also faced an ever-increasing pressure to deliver sufficient returns to compensate for life expectancy turning out to be higher than assumed. Add to this lax monetary policy in the West, and financial collapse was inevitable.
Besides being the main background cause of the financial crisis, China’s savings glut has other effects. Low yields mean that many with defined contribution pension schemes will get a nasty surprise on retirement, when their pensions are worth much less than expected. Simple maths shows that life expectancy trends and low yields mean you must save nearly half of your pre-tax income to retire at 65 on two thirds of your former salary. We are unlikely to save this amount, so the only solution is to work longer. Japanese men, who faced the problem early because of zero interest rates and a declining population, retire on average at 70, and will do so even later in future. We will have to do the same.
Western governments have also made mistakes. They believed that the Chinese savings glut allowed them increase spending in boom times and rely on deficits and tax receipts from burgeoning financial services to finance spending. As a result, in the downturn, most Western governments have high and rising ratios of debt to GDP. It will take 15 to 20 years to restore Britain’s public finances.
A third effect is that a country providing 25 per cent of the world’s savings will eventually own roughly 25 per cent of its assets. China’s share of global GDP is about 12 per cent. As Chinese growth slows, it is likely that the share of global assets in China itself will settle close to its share of world GDP. This means that, with a savings ratio about double the world average, roughly half of Chinese assets will be outside China. The Chinese are investing heavily in Africa and South America, which the West has neglected. But they will also become major investors in nations like the UK. Many UK assets will become Chinese-owned. Better start learning Mandarin now.
Douglas McWilliams’s fifth lecture as Gresham professor of commerce is at the Museum of London at 6.30pm on Thursday 28 February 2013. He is also executive chairman of the Centre for Economic and Business Research.