HONG KONG – With world leaders meeting at the end of this week at the G-20 summit in Cannes, France, the next economic minefield that they will face is already coming into view. It is likely to take the form of an opaque global credit glut, turbocharged by the fragile mixture of too-big-to-fail global banking with a huge and largely unwatched and unregulated shadow banking sector.
To be sure, that is not what many see. Federal Reserve Board Chairman Ben Bernanke and others have blamed the financial crisis of 2008 on a global savings glut, which fuelled flows of money from high-savings emerging-market economies – especially in Asia – that run chronic balance-of-payments surpluses. According to this school of thought, excessive savings pushed long-term interest rates down to rock-bottom levels, leading to asset bubbles in the United States and elsewhere.
But Claudio Borio and Piti Disayat, economists at the Bank for International Settlements, have argued convincingly that the savings-glut theory fails to explain the unsustainable credit creation in the run-up to the 2008 crisis. They have shown that the major capital inflows were not from emerging markets, but from Europe, where there was no net balance-of-payments surplus.
The alternative theory – of a global credit glut – gained more ground with the release last week of the Financial Stability Board’s report on shadow banking. The FSB report contains startling revelations about the scale of global shadow banking, which it defines as “credit intermediation involving entities and activities outside the regular banking system.”