Germans save much more of their income than the British, taken as a whole. In Germany, both the private sector, consisting of firms and households, and the public sector, or government, are currently spending less than they earn. In the case of the private sector, they saved nearly 8% of GDP in 2016.
The government is also saving, but much less than the private sector. The German budget surplus was 1% of GDP last year. Still, it is closer to balance than many of their rich country neighbours.
Take Britain. The private sector there managed to borrow around 2% of GDP in 2016, while the government’s budget was in deficit by nearly 4% of GDP.
Is this prudence on the part of Germany, and profligacy on the part of the British? Should German households and the government advise the British to be more like them and start putting income aside for a rainy economic day? Or is something else going on? I would say that there is more to this than morals or culture. In fact, it is much more to do with economics, which is driving the different trends and behaviour in these two economies.
The British economy is currently growing faster than Germany. Growth actually picked up in the latter during 2016, driven by greater household and government consumption, but it remains sluggish at just under 2% per annum.
As has been typical in recent decades, economic growth in Britain has been dominated by debt-fueled consumption, with weak investment. In Germany, at least since the early 2000s, growth has been driven by net exports (exports minus imports). These different outcomes are reflected in the current accounts of the respective countries: in 2016 Britain was running a current account deficit of nearly 6% of GDP, while Germany was running a surplus of nearly 9%.
The current account, and its opposite number, the capital account, are measures of an economy’s borrowing from or lending to the rest of the world. A current account deficit means that an economy is borrowing from abroad, while a surplus means that an economy is lending abroad.
National income accounting holds that a current account deficit is matched by a capital account surplus, and vice versa.
A nation’s current account deficit, or foreign borrowing, as a matter of accounting, is equal to total domestic borrowing, the sum of private and public borrowing. So, using the figures for private and public borrowing above: for Britain, 2 + 4 = 6.
For Germany, once more using the figures above, the current account surplus is equal to total domestic saving: 8 + 1 = 9.
Thus Britain is currently borrowing, or importing capital in the jargon, of around 6% of GDP from abroad per annum, while Germany is lending, or exporting capital, of nearly 9% of GDP, to countries abroad.
This would seem to suggest once again that Germans are overall quite a prudent bunch, while the British are on an unsustainable path of rising debt.
There is some truth to the last part of the last statement. If the economy is accumulating debt at a rate faster than its growth in GDP, the debt share of GDP will be rising. At some point this debt will need to be paid off, and it can become unsustainable if interest rates on that debt rise from their current very low levels.
But for every borrower there must be a lender. For the world economy as a whole, all the current accounts must sum to zero. Thus for every ‘prudent’ German saver and lender, there must be a ‘profligate’ borrower.
It follows that if countries running current account deficits somehow moved towards balance, the surplus countries must do the same. There are different ways this can happen: the deficit countries could spend less on investment and consumption. This will usually lead to a fall in imports as we buy fewer goods and services from abroad and, if exports do not rise, the current account deficit can fall. This will usually reduce growth and lead to rising unemployment, which is clearly undesirable.
Alternatively, the surplus countries could spend more of their income on investment and consumption. This will tend to reduce the current account surplus, as imports rise relative to exports. This will generally lead to faster growth in output and employment. This is the more desirable option. Some mixture of these two options is probably best, which may require a degree of international policy coordination, something which is usually lacking.
All this suggests that there are potential benefits from, continuing the example above, Germans becoming less prudent and the British becoming more prudent, if the outcome is more employment and faster growth in Germany, and a slower rise in debt in Britain. Policy can make a big difference to the incentives which drive behaviour, of individuals, households, firms and governments. Moralising is unlikely to change much, if the economic environment does not change.
I have blogged on the subject of global imbalances before, inspired by the work of Professor Michael Pettis, author of The Great Rebalancing. In future posts I will address the causes of the kinds of economic imbalances described above, and what might be done to reverse them.