Global Imbalances, Global Excess Liquidity And Asset Prices: A Microeconomics And Macroeconomics Analysis

Recently, global imbalances and global excess liquidity is one of the hottest topics of international economics research field. Global imbalances mainly refer to some countries with characteristics of current account surplus and other countries of current account deficits simultaneously. Specifically, current account deficit in the U.S. and current account surplus in China, other Asian countries and oil producing countries coexisted for more than ten years. At the same time, excess liquidity have appeared in the United States, China and other countries before the Subprime Crisis. And after the Subprime Crisis, the Fed lowered interest rates to near zero level and implemented the QE1 and QE2 monetary policy, which worsen the problem of global excess liquidity. In the context of global imbalances and global excess liquidity, many countries, including the United States and China, experienced significant boom and burst of asset price, including the house price and stock price.The linkage among money supply, monetary policy and asset price bubbles and burst has become a classic research topic.What are the causes, sources, and operation mechanism of global imbalances and global excess liquidity? What is the linkage among global imbalances, global excess liquidity and asset price boom and burst? This paper argues the three phenomena are closely connected. This problem can be explained in two ways. One is from the microeconomics mechanism, which is based on "Permanent Income Hypothesis - Life Cycle "and the international division of labor theory. The other is from the Dollar Standard regime perspective, in which, core country and peripheral countries of the international monetary regime have asymmetrical monetary policy rights and obligations.First, I could solve this problem from the perspective of microeconomics. Asian countries, which have high saving rate and current account surplus, share the common characteristics of young population structure, imperfect credit markets, less developed stock markets and undertaking International Industrial Transfer. Correspondingly, western countries do have an aging population structure, developed credit markets and stock markets, which contribute to the improvement of their propensity to consume. Also they have transferred their manufacturing industry to Asia, Latin America, Eastern Europe and other emerging market economies; finally, they have lower savings rate, higher consumption rate, and the current account deficits.Second, I could solve this problem from the perspective of international economics. As the peripheral countries, China and other Asian countries re-pegged their exchange rate to US dollars after the Asian financial crisi.The Bretton Woods Regime revived. In the context of Dollar Standard, the United States, as the core country, which suffers the largest t current account deficit, should be responsible for global imbalances and global excess liquidity. Its economic structure tends to de-industrialization. In order to stimulate economic development, the United States implemented the ease monetary policy, which violate the Taylor's Rule and created asset price bubbles. However, this increased the consumption of commodities from the peripheral countries and exported liquidity to them through its continued large current account deficits. To stabilize the exchange rate or to prevent currency appreciation, central banks of China and other countries that enjoyed current account surplus, could only passively buy and accumulated large amounts of foreign reserves, dollar assets and delivered lots of base money into domestic economy simultaneously. Meanwhile, their domestic interest rate policy had to follow the U.S. interest rates and borne the international spillover effects. Their monetary policies lost the independence and autonomy in reducing domestic liquidity and control the asset prices inflation. But it was not the end. Peripheral countries of continued accumulation of dollar assets, made the dollars flow back into the United States to support its growth pattern of high consumption and low savings.And the global circulation of dollar formed and strengthened global imbalances and global excess liquidity.As for the linkage among global imbalances, global excess liquidity and asset prices, the United States, as the core country, implemented loose monetary policy to stimulate the asset price booming which generated wealth effect, the balance sheet effect that helped the United States sustain large current account deficit for years. However, the country's central bank of China, which enjoyed current account surplus, could only passively buying and holding U.S. dollar foreign assets. Also, their interest rate policies need to follow the U.S. interest rate movements. As a result, domestic excess liquidity and asset price booming occurred. But the PBOC lost the power to control. Japan had experienced boom and burst of asset prices in the late 1980s, and suffered the "liquidity trap" for more than ten years, which could give some insightful lessons for China.This dissertation consists of eight chapters. Chapter 1 is the preface. In Chapter 2, I analyzed the two main microeconomic mechanisms that may cause the global imbalances in recent years, which are the "Permanent Income-Life Cycle Hypothesis" and international division of labor. Using the annual data of 31 countries during 1980-2008, I employed the Least Squares Dummy Variable Model to investigate the impact of different related indicators on current account surplus. The empirical results show that credit to private sectors, stock market capitalization, demographic structure; medical welfare has negative influent on current account surplus, while industry value added to GDP has the positive influent.Chapter 3 analyzed the institutional roots of global economic imbalances and global savings glut—Dollar Standard or the revived Bretton Woods Regime. It is true that China and other Asian countries, as periphery of U.S., re-pegged their exchange rate to dollar in the aftermath of Asian financial crisis. So Bretton Woods regime revived. In the revived Bretton Woods era(BWII), "Triffin Dilemma","N-1 "problem and "The Impossible Trinity "still exists, which help to understand and explain the causes of global imbalances and global excess liquidity. In practice, the United States, as the center of the international monetary regime, implemented easy monetary policy against the Taylor's Rule, which stimulated boom of stock price and house price,and consequently resulted wealth effect, Tobin's Q effect, balance sheet effects, which maintained the U.S. current account deficit and the release its domestic liquidity to the rest of world.Following the logic of Chapter 3, Chapter 4 employed the VAR model to verify whether the United States made use of the monetary policy transmission mechanism of asset prices to achieve and maintain the current account deficit. In Chapter 5,I analyzed the balance sheet structure of People's Bank of China, and compared it with that of the United States; European Union and Japan.I found that PBOC were less independent and effective to control domestic money in the context of current account surplus for years. In order to maintain the stability of Renminbi exchange rate and to prevent appreciation of the Renminbi, the central bank had to purchase and accumulate great foreign reserves, most of which are U.S. dollar assets.Detaled data showed foreign reserve dominated the recent rapid expansion of size of balance sheet of PBOC. Even the PBOC issued lots of central bank bills and raised the reserve requirement ratio, it still failed to hedge rapid growth of base money brought by repurchasing of foreign exchange by itself.In Chapter 6,1 still employed the VAR model to verify whether U.S. monetary policy produce international spillover effects on China's monetary policy, and whether independence and effectiveness of China's monetary policy have improved after July 2005.The results of related impulse response function analysis and variance decomposition showed that there was significant international spillover effects from the U.S. to China, and no evidence of improvement of China's monetary policy independence and effectiveness was found.In Chapter 7,I employed the SVAR model to observe how money supply and interest rate in China to affect stock price and house price. The impulse response function analysis and forecast error variance decomposition analysis presented more details. Additionally, this chapter also analyzed how stock price and house price affect real output and price level.From an historical perspective, Japan also suffered current account surplus, appreciation pressure of domestic currency, domestic excess liquidity and asset price inflation in the late 1980s. While, after the burst of its asset price bubbles, Japan's economy was disturbed by the liquidity trap and experienced economic depression for ten years. Therefore, I drawn some profound lessons for China in Chapter 8.The innovation of my dissertation may include the logic and empirical research findings.For the aspect of new logic:(1)I connected the United States and China together to explore causes and consequences of global imbalances and global excess liquidity. The existing literatures just research one of them to determine how global imbalances and global excess liquidity occurred and sustained, which was not much scientific. (2) I analyzed causes of inadequacy of independence and effectiveness of monetary policy of China in the context of Dollar Standard regime.For the aspect of new empirical research findings:(1)I employed LSDV method and confirmed the influence of global imbalance from "Permanent Income-Life Cycle Hypothesis" and the international division of labor perspective. (2) Based on the international spillover effects of U.S. monetary policy perspective, the use of VAR method examined that the independence of and effectiveness domestic monetary policy in China was not enhanced by the exchange rate reform in 2005.The possible drawback of my dissertation is that:(1) In the panel data analysis of Chapter 2,I only used countries of OECD and Asia, but oil producing countries were ignored. (2)The range of data used in VAR model of Chapter 6 and 7 starts from 1998,data before that year was ignored, which may affect the reliability of regression results.