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February 1, 2016

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Can global economy sacrifice short-term rewards for long-term development?

The world economy is experiencing a turbulent start to 2016.

Stock markets are plummeting; emerging economies are reeling in response to the sharp decline in commodities prices; refugee inflows are further destabilizing Europe; China’s growth has slowed; and the US is in political paralysis.

To escape this mess, four principles should guide the way.

First, global economic progress depends on high global saving and investment. Second, saving and investment flows should be viewed as global, not national. Third, full employment depends on high investment rates that match high saving rates. Fourth, high private investments depend on high public investments in infrastructure and human capital.

Let’s consider each.

First, our global goal should be economic progress, meaning better living conditions. Progress depends on a high rate of global investment: building the skills, technology, and physical capital stock to propel standards of living higher.

High investment rates in turn depend on high saving rates. A famous psychological experiment found that young children who could resist the immediate temptation to eat a marshmallow, and thereby gain two marshmallows in the future, were likelier to thrive as adults than those who couldn’t.

Likewise, societies that defer instant consumption in order to save and invest for the future will enjoy higher future incomes and greater retirement security. (When American economists advise China to boost consumption and cut saving, they are merely peddling the bad habits of American culture, which saves and invests far too little for America’s future.)

Second, saving and investment flows are global. A country such as China, with a high saving rate that exceeds local investment needs, can support investment in other parts of the world that save less, notably low-income Africa and Asia.

Low-income Africa and Asia, on the other hand, are both capital-poor and very young. They can borrow from China’s high savers to finance a massive and rapid build-up of education, skills and infrastructure to underpin their own future economic prosperity.

Third, a high global saving rate does not automatically translate into a high investment rate; unless properly directed, it can cause underspending and unemployment instead.

Money put into banks and other financial intermediaries can finance productive activities or short-term speculation. Great bankers of the past like J.P. Morgan built industries like rail and steel. Today’s money managers, by contrast, tend to resemble gamblers or even fraudsters like Charles Ponzi.

Fourth, today’s investments with high social returns — such as low-carbon energy, smart power grids for cities, and information-based health systems — depend on public-private partnerships, in which public investment and public policies help to spur private investment.

This has long been the case: Railroad networks, aviation, automobiles, semiconductors, satellites, GPS, hydraulic fracturing, nuclear power, genomics, and the Internet would not exist but for such partnerships (typically, but not only, starting with the military).

Today’s problem

Our global problem today is that the world’s financial intermediaries are not properly steering long-term saving into long-term investments. The problem is compounded by the fact that most governments (the US is a stark case) are chronically underinvesting in long-term education, skill training and infrastructure. Private investment is falling short mainly because of the shortfall of complementary public investment.

The result is inadequate global demand and volatile short-term capital flows to finance consumption and real estate.

The macroeconomic advice to China — boost domestic consumption and overvalue the renminbi to cut exports — fails the marshmallow test. It encourages overconsumption and underinvestment.

The right policy is to channel China’s high saving to increased investments in infrastructure and skills in low-income Africa and Asia. China’s new Asian Infrastructure Investment Bank (AIIB) and its One Belt, One Road initiative to establish modern transport and communications links throughout the region are steps in the right direction. These programs will keep China’s factories operating at high capacity to produce the investment goods needed for rapid growth in today’s low-income countries.

Jeffrey D. Sachs is Professor of Sustainable Development, Professor of Health Policy and Management, and Director of the Earth Institute at Columbia University. Copyright: Project Syndicate, 2016. www.project-syndicate. Shanghai Daily condensed the article.


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