User:Nick Gardner /Sandbox

The origins of the crisis lay in our inability to cope with the consequences of the entry into the world trading system of countries such as China, India, and the former Soviet empire – in a word, globalisation. The benefits in terms of trade were visible; the costs of the implied capital flows were not. The new entrants adopted a strategy of expanding manufactured exports to create employment. High rates of saving depressed domestic demand. So substantial trade surpluses were required to keep total demand in line with supply. Equally, the countries importing those manufactured goods ran trade deficits and required low saving rates to maintain balance in their economies. Everyone seemed to gain. High-saving countries created employment, and low-saving countries enjoyed faster consumption growth as cheap imports meant that living standards rose by more than the increase in production – worth around half a percentage point a year in the United Kingdom. These were the benefits of greater trade. But the pattern of poor countries saving a lot and rich countries borrowing was not sustainable. The consequences of our inability to cope with these capital flows did not show

A key driver of those imbalances has been very high savings rates in countries like China; since these high savings exceed domestic investment, China and other countries must accumulate claims on the rest of the world. But since, in addition, China and several other surplus countries are committed to fixed or significantly managed exchange rates, these rising claims take the form of central bank reserves.6 The Review then noted that these were “typically invested not in a wide array of equity, property or fixed income assets—but almost exclusively in apparently risk-free or close to risk-free government bonds or government-guaranteed bonds”.7 This then led to “a reduction in real risk-free rates of interest to historically low levels”.8 Professor Willem Buiter of the London School of Economics observed that this reduction in the worldwide real interest rate allowed the “US to continue on this low-interest, high-liquidity asset boom”.9