Pacific Money

The Interview: Michael Pettis

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Pacific Money

The Interview: Michael Pettis

“I think the fact that governments often don’t understand the foreign implications of domestic policies is a serious problem…”

Pacific Money's James Parker interviewed Professor Michael Pettis following the publication of his new book:

The Great Rebalancing: Trade, Conflict and the Perilous Road Ahead for the World Economy.

One of the core ideas from the book is how a wide variety of policies, even domestic ones not directly related to trade, actually affect a country’s trade balance.  Given that national governments are overwhelmingly focused on domestic issues, what hope is there that mutually beneficial or “best solution” results can be obtained as all the significant economies in the international system interact with each other through so many policies and with no global government in place?

I think the fact that governments often don't understand the foreign implications of domestic policies is a serious problem but not one, unfortunately, that can be easily resolved. For example, German policies to generate enough employment growth to help them absorb the unemployment associated with unification were certainly not intended to undermine the euro and created stress within the eurozone, but this stress was an almost inevitable consequence of policies that forced up the German savings rate. Perhaps the only way to resolve this, as Keynes urgently tried in the 1940s, is to place limits on both current account surpluses and deficits, since these are the main transmission mechanisms from country to country.

Do you think that the multinational institutions – such as the WTO, IMF and G20 – will be damaged by the ongoing global imbalances you identify in your book?

To the extent that the imbalances support the case for international cooperation, I suspect they will ultimately be strengthened, but in the short term I expect national policies will prevail. In my opinion the environment for international cooperation will probably get worse before it gets better.

You are often described as a “China Bear,” does this label annoy you?

Yes, because it reflects a silly requirement among commentators that any analyst choose one side or the other of the debate — either that China has discovered the elixir of growth or that China will collapse within months.  Neither is true. I am called a bear because I was a skeptic during the long period in which there was so much hype about China that anyone placing China within an appropriate historical context was considered wildly contrarian and impossibly pessimistic. I think the atmosphere has changed a lot in the past three years, however, and there is a much wider understanding, especially within China but perhaps less so abroad, of the need for an economic adjustment and the political difficulties associated with this adjustment. 

We have just seen the Chinese State Council release yet another document aimed at tackling income inequality. In your book you identify a lack of Chinese household income growth as one of the main factors underlying China’s, and thus the world’s, imbalances. What is your take on the document, its chance of success?

The numbers that are being proposed are too small to make much of an impact, but already it is clear that it is going to be politically difficult to impose even these reforms. I think the new leadership understands the problems and are eager to increase the household share of income as well as to reduce inequality, but few countries in history with similar conditions have been able to pull it off sufficiently to allow them to enter the next stage of growth to developed country status. That doesn't mean that China cannot do it. It just means that it is going to be very hard.

Your book contains a lot of criticism aimed at certain sections of the media, economists and political leaders due to their consistent misunderstanding of basic economic and financial theory. If you could chose one lesson, fact or area which you could ensure is never mistaken again, which would it be?

I would probably parrot Hyman Minsky and insist that it is impossible to design a stable financial system even in theory. Instead of trying to enforce financial stability it is much better to create incentives and balance sheet structures that acknowledge instability, improve the efficiency of capital allocation, and counteract the economic impacts of financial crises with automatic countercyclical measures.

Japan is being accused of starting a currency war, which you suggest is one manifestation of inevitable trade tensions that will result from the current global imbalances. Why do you think the United States has so far refused to join in the mutual criticisms this time around?

There are broadly speaking two kinds of countries right now. Countries loudly engaged in currency war, and countries quietly engaged in currency war. 

You are also quite famous in Beijing on the underground music scene. How do you balance your time between teaching and writing about finance and the music world?

It really isn't difficult. My students are amazing and I love teaching. I am writing about what is likely to go down among economic historians as one of the most interesting periods in history. And the Beijing underground music scene has become one of the best in the world and I am right in the middle of it. When you are doing things that are a lot of fun it isn't a problem allocating time and effort. It also helps to be surrounded with really good people.