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The Corporate Savings Glut
No wonder DanS hates The Economist.
The Corporate Savings Glut
I like the bit at the end. 
No wonder DanS hates The Economist.
The Corporate Savings Glut
Companies, not emerging economies, are leading the global shift to thrift
THE anti-globalisation protesters at this week's G8 summit have long argued that companies make too much money. As it happens, economists also think that firms have “excess profits”—although not in the sense that the protesters would recognise. Basically, managers don't know what to do with their cash. For the past three years, while profits have surged around the globe, capital spending has remained relatively weak. As a result, companies in aggregate have become net savers on a huge scale. Their thrift may explain why bond yields are now so low.
Not that there is any shortage of explanations on offer for why real bond yields have fallen in recent years. Some people suggest that they reflect expectations of a slowdown in growth, or a lower inflation-risk premium or, perhaps, pension funds' increased appetite for fixed-income assets. But the theory that is currently all the rage holds that yields have been depressed by a global savings glut.
Ben Bernanke, a former governor of America's Federal Reserve who is now chairman of George Bush's Council of Economic Advisers, argued earlier this year that excess saving by emerging economies was to blame for both America's large current-account deficit and lower bond yields. Following a series of financial crises, these economies slashed investment and swung from a combined current-account deficit of $93 billion in 1996 to a surplus of $336 billion last year. Since bond yields should reflect the demand and supply for funds, this increase in net saving could indeed have reduced yields. However, a new study by economists at J.P. Morgan concludes that in recent years an increase in saving by companies in developed countries has been far more important than emerging economies' thrift.
Over half of emerging economies' huge swing from external deficit to surplus had occurred by 2000. However, American bond yields were roughly the same in that year as in 1996; the big decline in yields is more recent. Since 2000, the corporate sector has stood out. Companies in the main developed economies have switched, as a group, from being big borrowers to being net savers: ie, their profits exceed their capital spending. The total increase in companies' net saving in the past four years has been more than $1 trillion, 3% of annual global GDP and five times the increase in net saving by emerging economies over the same period. J.P. Morgan estimates that about half of the gap between the current real yield on American ten-year Treasury bonds and its average since 1960 is due to this increased corporate saving.
It is striking how similar companies' behaviour has been despite big differences in countries' growth rates. The economies of America and Britain have boomed, while those of Japan and the euro area have stalled, yet in all of them firms are now running a financial surplus, using their spare money to repay debts, buy back shares or build up cash. This is odd, because normally companies are net borrowers, investing to boost future output and incomes, while households as a group are net savers, providing firms with the capital to invest.
Firms have been net savers for the odd year in the past, but a run of several years is highly unusual. Since 2002 American firms have had an average net financial surplus of 1.7% of GDP, compared with an average deficit of 1.2% of GDP in the previous two decades (see chart). Corporate Japan has run an average surplus over the past three years of no less than 6.2% of GDP, compared with an average deficit of 2.3% in the 1980s and 1990s. In fact Japanese firms have been in financial surplus since 1994, desperately trying to reduce the debts they built up during the bubble economy in the late 1980s. Corporate cost-cutting—in both capital spending and new hiring—has been a persistent drag on Japan's growth rate. The good news is that corporate debt as a percentage of GDP has fallen to the level of the mid-1980s, before the bubble really inflated.
Now American and European firms seem to be following in the footsteps of the Japanese, having been forced to cut back on borrowing after a binge in the late 1990s. It is also worth noting that a large chunk of the rise in corporate saving in America in recent years has come from the financial sector, where profits have soared.
The recent increase in corporate saving in the euro area has been more modest than in America or Britain, but it has made a bigger dent in growth, because the single-currency zone, unlike the other two economies, has not been cushioned by either an increase in government borrowing or a fall in saving by households.
Hey, big saver
Alan Greenspan, chairman of the Federal Reserve, has called the fall in bond yields while short-term interest rates are rising a “conundrum”. In light of the increase in corporate saving, says Chris Watling of Longview Economics, a consultancy, the real conundrum is not that bond yields are so low, but that firms are saving and not investing when profits are strong and money is cheap. If it is because of over-investment in the bubble years of the late 1990s, then investment should recover and bond yields rise, once balance sheets have been repaired and spare capacity has been used up. Mr Watling points to some tentative signs that firms are starting to borrow and invest again as evidence that this is happening: in America, bank lending to firms is now growing faster than consumer lending for the first time since the late 1990s. J.P. Morgan agrees that companies' behaviour should return to normal relatively soon, and therefore predicts that the yield on ten-year Treasuries will rise from 4% to 5% by the end of 2005.
In contrast, the economics team at HSBC expects corporate investment to remain weak. Japanese firms' decade-long efforts to repay debt provide a sobering lesson. America's pick-up in investment last year may have been spurred by accelerated depreciation allowances which have merely encouraged companies to bring forward spending from future years. If company bosses recognise that the current consumer boom is built on shaky foundations—in particular, rising house prices—they are likely to be reluctant to invest. If firms continue to save and consumer spending slows, as house prices level off or even decline, then weaker growth will lie ahead. Could it be time, perhaps, to dust off the works of Keynes, and swot up on the “paradox of thrift”?
THE anti-globalisation protesters at this week's G8 summit have long argued that companies make too much money. As it happens, economists also think that firms have “excess profits”—although not in the sense that the protesters would recognise. Basically, managers don't know what to do with their cash. For the past three years, while profits have surged around the globe, capital spending has remained relatively weak. As a result, companies in aggregate have become net savers on a huge scale. Their thrift may explain why bond yields are now so low.
Not that there is any shortage of explanations on offer for why real bond yields have fallen in recent years. Some people suggest that they reflect expectations of a slowdown in growth, or a lower inflation-risk premium or, perhaps, pension funds' increased appetite for fixed-income assets. But the theory that is currently all the rage holds that yields have been depressed by a global savings glut.
Ben Bernanke, a former governor of America's Federal Reserve who is now chairman of George Bush's Council of Economic Advisers, argued earlier this year that excess saving by emerging economies was to blame for both America's large current-account deficit and lower bond yields. Following a series of financial crises, these economies slashed investment and swung from a combined current-account deficit of $93 billion in 1996 to a surplus of $336 billion last year. Since bond yields should reflect the demand and supply for funds, this increase in net saving could indeed have reduced yields. However, a new study by economists at J.P. Morgan concludes that in recent years an increase in saving by companies in developed countries has been far more important than emerging economies' thrift.
Over half of emerging economies' huge swing from external deficit to surplus had occurred by 2000. However, American bond yields were roughly the same in that year as in 1996; the big decline in yields is more recent. Since 2000, the corporate sector has stood out. Companies in the main developed economies have switched, as a group, from being big borrowers to being net savers: ie, their profits exceed their capital spending. The total increase in companies' net saving in the past four years has been more than $1 trillion, 3% of annual global GDP and five times the increase in net saving by emerging economies over the same period. J.P. Morgan estimates that about half of the gap between the current real yield on American ten-year Treasury bonds and its average since 1960 is due to this increased corporate saving.
It is striking how similar companies' behaviour has been despite big differences in countries' growth rates. The economies of America and Britain have boomed, while those of Japan and the euro area have stalled, yet in all of them firms are now running a financial surplus, using their spare money to repay debts, buy back shares or build up cash. This is odd, because normally companies are net borrowers, investing to boost future output and incomes, while households as a group are net savers, providing firms with the capital to invest.
Firms have been net savers for the odd year in the past, but a run of several years is highly unusual. Since 2002 American firms have had an average net financial surplus of 1.7% of GDP, compared with an average deficit of 1.2% of GDP in the previous two decades (see chart). Corporate Japan has run an average surplus over the past three years of no less than 6.2% of GDP, compared with an average deficit of 2.3% in the 1980s and 1990s. In fact Japanese firms have been in financial surplus since 1994, desperately trying to reduce the debts they built up during the bubble economy in the late 1980s. Corporate cost-cutting—in both capital spending and new hiring—has been a persistent drag on Japan's growth rate. The good news is that corporate debt as a percentage of GDP has fallen to the level of the mid-1980s, before the bubble really inflated.
Now American and European firms seem to be following in the footsteps of the Japanese, having been forced to cut back on borrowing after a binge in the late 1990s. It is also worth noting that a large chunk of the rise in corporate saving in America in recent years has come from the financial sector, where profits have soared.
The recent increase in corporate saving in the euro area has been more modest than in America or Britain, but it has made a bigger dent in growth, because the single-currency zone, unlike the other two economies, has not been cushioned by either an increase in government borrowing or a fall in saving by households.
Hey, big saver
Alan Greenspan, chairman of the Federal Reserve, has called the fall in bond yields while short-term interest rates are rising a “conundrum”. In light of the increase in corporate saving, says Chris Watling of Longview Economics, a consultancy, the real conundrum is not that bond yields are so low, but that firms are saving and not investing when profits are strong and money is cheap. If it is because of over-investment in the bubble years of the late 1990s, then investment should recover and bond yields rise, once balance sheets have been repaired and spare capacity has been used up. Mr Watling points to some tentative signs that firms are starting to borrow and invest again as evidence that this is happening: in America, bank lending to firms is now growing faster than consumer lending for the first time since the late 1990s. J.P. Morgan agrees that companies' behaviour should return to normal relatively soon, and therefore predicts that the yield on ten-year Treasuries will rise from 4% to 5% by the end of 2005.
In contrast, the economics team at HSBC expects corporate investment to remain weak. Japanese firms' decade-long efforts to repay debt provide a sobering lesson. America's pick-up in investment last year may have been spurred by accelerated depreciation allowances which have merely encouraged companies to bring forward spending from future years. If company bosses recognise that the current consumer boom is built on shaky foundations—in particular, rising house prices—they are likely to be reluctant to invest. If firms continue to save and consumer spending slows, as house prices level off or even decline, then weaker growth will lie ahead. Could it be time, perhaps, to dust off the works of Keynes, and swot up on the “paradox of thrift”?
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