LONDON STOCK EXCHANGE BICENTENNIAL LECTURE
"THE NEW GLOBAL ECONOMY"
THE HON LAWRENCE SUMMERS
LONDON GUILDHALL
TUESDAY 19th JUNE 2001
(12.30pm)
DON CRUICKSHANK:
Thank you very much, and good afternoon, ladies and gentlemen.
Thank you for coming to the London Stock Exchange Bicentennial Lecture. It is part of our programme of celebrations to celebrate our 200th anniversary -- well, 200th anniversary as a regulated organisation.
In this bicentennial year, our partner charity is The Trident Trust, and we have very serious intentions of boosting their coffers enormously during this year, so thank you very much to those of you who have already made a contribution.
Let me also say thank you to Judith Mayhew and her team at the Corporation of London for letting us use the Old Library today. We are extremely grateful to you for that.
I am delighted to welcome our guest of honour, Lawrence Summers. We are very lucky to welcome him at this very auspicious time, as his tenure as the new President of Harvard University is beginning very shortly.
I think in many ways Larry and the London Stock Exchange are a very good match. He spent much of the last decade putting into practice the ideas behind a more international marketplace, and as President Clinton put it, "putting a human face on the global economy". Notably he was the enormously well respected and successful Secretary of the Treasury.
The London Stock Exchange has built its own reputation as being one of the most international and accessible exchange organisations in the world. We are about to list, on our own Exchange, to expose that reputation and our management talents to market disciplines, and that is just as it should be. Our clear objectives, as we set them out in the listing particulars -- which those of you who are shareholders will have received in the post today -- are: to become the clear market of choice in the European time zone, and to promote the growth of capital markets. Both major challenges, especially because so much needs to be done within Europe.
I am really quite shocked, very struck by how disadvantaged the EU is compared to the United States, by the absence of a single market in financial services. It costs our companies and our consumers a great deal. Whatever aspirations the EU may have globally, we have just got to clean up our own back yard, and we, at the London Stock Exchange, are determined to play a full part in that.
However, enough from me. I know that sometimes there is a danger when hosting an event like this that speakers from overseas might not have a sufficiently high profile; not today. I must say, when people heard that Larry was coming, there was an enormous wellspring of goodwill and admiration within Government and from the financial services industry, not only for Larry but for the ideas that he represents.
He is going to talk on the subject of: "The New Global Economy". Following his remarks, we will have a Q&A session, which can go on as long it is alive and Larry will judge that himself.
Now then, ladies and gentlemen, over to Larry. Thank you very much.
LAWRENCE SUMMERS:
Don, thank you very, very much for that kind introduction.
One of the rewards of public service when you are an economist is that you tend to graduate from being introduced with economist jokes -- it was not so long ago that I was introduced by a fellow who said, "Larry, do you know what it takes to succeed as an economist?", and I said no, and he said, "An economist is someone who is pretty good with figures, but does not quite have the personality to be an accountant"! What was interesting was that that was in Moscow, and nobody got the joke, and that says something about the problems that they have there.
It is a pleasure to be in this beautiful building, and to be here with the London Stock Exchange, and with so many of its friends. What I thought I would talk about this afternoon for a little while was "The New Global Economy", and I would concentrate in particular on the role of finance in creating that new global economy, and in shifting the balance of economic power in the world.
When I think about what is new in the new global economy, there is a story I like to tell.
In 1997, as the G7 countries were preparing to work on issues relating to debt relief, I was sent by the US Government on a trip to Africa to look at various issues associated with the debt relief question, and we visited Abidjan in the Cote d'Ivoire. Because we were there on a weekend, and because there was a village several hours outside of Abidjan that had had some connection with a former Treasury official who had died, I was asked to go to that village and, on behalf of the US Government, turn a water well on that would provide that village with the first good water that it had ever had. I did that.
We drove three hours to get to the village, and took a kayak across a lagoon to get to the village. We found ourselves coming back, and as we were on that kayak, somebody stuck a cellphone in my face and said, "Bob Rubin has a question", and there was Bob with some question about the budget or the Internal Revenue Service.
I answered his question, and then said, "Bob, do you know where I am?" And he said, "No, not exactly". I described where I was, and all I could think of at that moment was that I had another memory of the summer of 1988 -- not exactly the dark ages - when I had been in a car being driven to give a speech in the City of Chicago, and in 1988 the car had a telephone in its back seat, and I regarded that as a sufficient novelty that I called every friend I had to say that I was in a car with a telephone, and nine years later, there it was, three hours outside Abidjan, on that lagoon.
What does that say? I think it brings together the three main things that are new in the new global economy.
The first is the tremendous power of communications and information technology. You know all the stories, that a Ford Taurus has more computing power than the Apollo 13; that information technology computer power has been doubling every 18 months for nearly 30 years now, and at this point, I am told that scientists see the next three doublings ahead quite clearly. Far more people are connected to the world than ever before. So the first change is a pervasive change in technology.
The second, closely related change is the phenomenon of globalisation on a large scale, perhaps nowhere better illustrated than by that phone call, or by the experience I had later on in the same trip, meeting with a businessman from Mozambique, and asking him how business was, and he said, "Pretty good, but I am worried about competition", and I said why, and he said, "Right now I have a monopoly on Internet here in Mozambique, but there are a few people who are planning to enter and take away my franchise".
If you think about this period in human history, I suspect that when the history books are written 200 years from now, the fact that the Berlin Wall fell and communism in Russia and Central Europe ended in 1990 will be the second story in the history books about the last quarter of the 20th century.
The first story in the history books will be that this was the period in human history when, for the first time in human history, you saw societies with more than a billion people living in them enjoy growth in standards of living at rates which had doubled in a decade and then doubled in another decade, so quadrupled in a generation. Something which has now happened to billions of people, but had never before happened in the history of your country or in the history of my country or in the history of Western Europe.
So the second very large change in the world is this phenomenon of globalisation which is making the world a potentially much, much smaller place.
And the third change, a change probably driven in important respects by the first two, is that we live in an era when markets are demonstrating their awesome power.
Guess what; it was not a state-owned phone company that put that cellphone franchise into Cote d'Ivoire that let me use that cellphone. You know, if you think about it, and it is a very big question for social science, and not one that I can answer, it cannot be a complete accident that it was in the same decade that the Berlin Wall fell and communism collapsed that MITI, French Planning and the Indian Planning Ministry all lost their lustre, and that there needed to be radical restructure of traditional command and control companies like General Motors and IBM.
Something has happened in recent years -- probably the demands of globalisation and even more the opportunities provided by information technology -- that has forced a greater emphasis on decentralisation, and has led economic systems to put more emphasis on incentives and less emphasis on control and co-ordination than was the case in earlier periods.
I believe that if you want to look at the broad patterns of who has been successful and who has been less successful in the global economy in recent years, thinking back to what is new in the new economy is very helpful.
We in the United States have certainly been very fortunate over the last decade.
If we had been having this discussion a decade ago, the books that would have been on people's mind would have been books like Lester Thurow's "Head to Head", which felt that the important question for the global economy was going to be whether the United States was going to be surpassed by Europe, surpassed by Japan, or surpassed by both; books like Paul Kennedy's "The Rise and Fall of the Great Powers", that saw the United States as the next great power to fall.
If we had had more technical discussion, it would have been of "The Age of Diminished Expectations" for the United States by Paul Krugman, or of analyses suggesting continuing declines in productivity growth.
And yet we have been very fortunate in this decade in our economic performance, I think in no small part because we have been able to be leaders in information technology, because the scale of the American economy makes it a natural magnet for trade, and the diversity of the American population make its connections with other parts of the world particularly strong. And because the strength of American markets and the decentralisation of the American system make it a system that is particularly well adapted to an age of decentralisation.
What is perhaps true and instructive about a comparison of the United States and the remainder of the global economy, although I am less knowledgeable about it, is, I would suggest, also similarly instructive if one compares the performance of Britain with the performance of the rest of Europe over this decade.
This has been a good decade for Britain. It has been a good decade for Britain because it has been able to lead in technology more than it had in earlier decades, because it is broad and cosmopolitan in its perspective on the world, and because there is more room for market forces to operate here in Britain than in other parts of Europe.
In turn though, if one wants to ask the question, "Why is it that market forces have worked so well?", "What is it that has driven market forces so effectively in our two countries?", I believe a very large part of the answer comes back in one way or another to the function of the financial system.
There are two broadly different views that thoughtful people take about financial systems. I confess that I have become increasingly convinced that while there are elements of truth in both of them, the dominant truth lies in the second that I am going to present.
The first view holds that there is production of real things and then there is transacting and financial claims, that real things have real value, that transacting in financial claims is a zero sum gain, carried on by paper entrepreneurs to relatively little social benefit.
The second view, and the view that I think increasingly needs to be understood in our body politic, is the task of a financial system is to make the most important decisions that society makes. Where is its capital going to be allocated for the future? How is the use of that capital going to be monitored when it is entrusted to particular individuals or particular institutions? How much of society's resources are going to be allocated to the present and how much are going to be oriented to the future? And that is very much what financial systems are all about.
To some extent, that was recognised in the debates in the late 1980s and the early 1990s, but with, I would suggest, almost exactly the wrong conclusion.
The dominant theme in discussions on competitiveness in the United States, where people talked about financial systems, was that the United States had a speculative short-termist financial environment in which overly empowered shareholders obsessed about quarterly earnings and caused corporations not to take the long view in their investment policies.
That similar problems -- this was the conventionalism of a decade ago -- impacted on the British financial system to a very substantial degree. But the financial systems of Continental Europe and Japan -- because they involved a much smaller share of shares being liquid, because there was much more emphasis on long-term relationships between shareholders and companies, because there was much less market pressure influencing the behaviour of managers -- promoted long-run investment and economic health.
That those sides -- Continental Europe and Japan -- devoted fewer resources to the casino and more resources to the production of real economic activity. Indeed, one of my predecessors as Secretary to the Treasury, Nick Brady, when he was asked earlier in his term what his greatest objective was as Secretary of the Treasury, said it was to slow down financial markets so American companies could take the long view.
How wrong that view was, that critique of a decade ago.
If you look at America's success, what do you see? Technology. The most important reason why the United States has been uniquely successful in technology is that the United States is the only country in the world where you can raise your first $100 million before you buy your first suit -- or you used to be able to -- if you have a sufficiently good idea. That is because of an active venture capital industry; and an active venture capital industry is possible because there is a knowledge that if an enterprise reaches a certain, not that great, stage of maturity, it is possible for it to access the public markets, because those public markets are broad and are very deep.
So our success in technology has been driven in no small part by financial innovation, and by financial innovation which is closely related to the creation of an equity culture. Without the possibility of public markets, without the use of options as an incentive, the United States would not have grown the half a dozen companies that are now among the largest 25 companies in America by market cap, but which did not exist two decades ago.
Similarly, our economic success -- and, I would suggest, Britain's economic success -- in this decade has derived very importantly from taking the financial implications of globalisation seriously.
Both of our countries are host to companies that have invested freely around the world in search of the greatest and the best competitive opportunities. We have both benefited from the very substantial number of very high quality jobs that come from being leaders in the global financial services industry, something that would be impossible without a commitment to broad and deep capital markets, and investors in both our countries have benefited to a much greater degree than investors in most other countries from the opportunities that are provided by international diversification that can hold returns constant, and at the same time reduce the risks that individual investors face.
The third thing that I said was new about the new economy was the emphasis on decentralisation in letting market forces operate. I do not think there is any question at all that the reason why there has been a larger change in management practices and corporate cultures in the United States than in most other parts of the world is because of what empowered shareholders, focused on shareholder value, have done.
The truth is that we now see that most of those investments that corporate managements wanted to make, in the name of long-termism, that shareholders did not want to see made, turned out to be low or negative internal rate of return investments, and that it was impatient, value focused shareholders who did America a great favour by forcing capital out of its traditional companies, and thereby making it available to fund the venture capitals and the Cisco's and the Microsofts that are now in a position to propel our economy very rapidly forward.
The emphasis on shareholder value, while not always right, and while markets obviously make mistakes, has proved to be a major discipline in bringing about restructuring and change that have very substantially increased the efficiency of our economy.
Indeed, to use an analogy from what will be my new life, it is always debated on college campuses how constructive final exams are.
There are those who believe that they really are terribly constraining and confining, that the students are unable to pursue their intellectual curiosity wherever it will take them, and that it forces them to focus on one specific body of material, and denies the opportunity for the full flowering of their minds.
There are also those who think that while there may be some truth to those critiques, without the discipline of exams, there will be rather more beer consumed and less flowering of minds, and while the discipline probably does come at some cost in terms of freedom, the incentive effects of the discipline are overwhelmingly positive.
I would suggest to you that the latter view is probably more correct, and I would suggest to you that well functioning stock markets function act as a very important kind of final exam for corporate managements, that very substantially promote transparency.
Indeed, I think it is probably fair to say that if you are looking for reasons why some countries succeed and why other countries do not succeed in the new global economy, a very large part of it goes to the greater success of the successful countries in channelling capital into the right places, and then making sure that it is used in a disciplined and functioning way, and that goes very much back to the success of financial systems in achieving those objectives.
What is there to say about national economic strategies for being successful in the years ahead for my country or for yours, or for regions like Europe or in the developing world? It seems to me that it points to a number of imperatives, and that while every country's situation will differ, and while one cannot make blanket prescriptions, each of these imperatives are of considerable importance.
The first is something I perhaps should have mentioned earlier in talking about the US experience; it is the overwhelming importance of fiscal discipline. If a new economy with new technologies has more important, more impressive, high return investments available than we used to have, that makes it more important than it has ever been before not to crowd out those investments by channelling the scarce resource of savings into the unproductive asset of Government paper.
And if the forces I have just described, in terms of technology, the capacity to deal with decentralisation, have driven the US economy forward in these years, it probably would not have had opportunity to drive the US economy forward without our success in removing the burden of the budget deficit, because as long as those budget deficits are there, we would not have had any capital to allocate to the new and important activities.
So I suspect in the years ahead, we will see the idea that Governments should pay down and reduce their debt is one that is increasingly salient, and that it will be increasingly recognised that in a new economy with globally mobile capital and attractive investment opportunities, economic expansion lies much more in fiscal restraint than it does in fiscal expansion.
The second imperative that I think we will see with particular importance in the years ahead is the importance of developing and maintaining liquid and well functioning capital markets, so that those final exams are given and are graded clearly and rapidly.
There is a disturbing tendency, that it seems to me is observed roughly in inverse proportion to knowledge of these matters, to equate financial sophistication with financial instability, and the suggestion is made that the reason why there is financial instability is because there is marking to market with great frequency, or that the reason there is financial instability is because of the development of sophisticated new derivative industries, or that the reason there is financial instability is because the possibility of larger flows of capital moving across international borders than was once the case.
It seems to me history suggests very much otherwise. If one looks at the main financial disasters of our time -- and the Japanese banking system stands out as perhaps the largest; the American problem with Savings & Loans and the banking system in the late 1980s and early 1990s is another example; the Latin American debt crisis in the 1980s is yet another example -- in the majority of major cases, what one had was debt capital, not marked to market, lent in a plain vanilla way with limited capacity for hedging, and it was much more the lack of modern sophisticated finance that contributed to the problem than it was the presence of modern sophisticated finance.
Think about the volumes of values of assets to change in stock markets around the world, and how smoothly that takes place, and then think about the consequences of payment interruptions on relatively small flows associated with various kinds of bank loans, and one sees that the development of larger, more liquid, more securitised markets, is enormously to national and to global advantage.
It seems to me that in that regard, while it is a difficult case to prove, it is very likely that those countries that are successful in becoming financial centres will benefit very substantially; they will benefit from the high quality employment opportunities that the financial services industry provides, and those who are closest to the business of allocating the providing capital are likely, over time, to prove to be favoured recipients of capital and to enjoy the lower costs of capital that result from that advantage.
In my academic youth, at one point I advocated that the United States adopt a securities transactions tax. I suspect at the time I advocated it -- that in retrospect, I was probably wrong -- because of the benefits of more liquid and open markets that I have just been describing. Whether I was wrong or whether I was right at that time, it seems to me that as the capacity of trading activity to move around the world has increased enormously in recent years, that the viability of trying to put sand in the gears, or slowing down markets in one centre, has very greatly diminished, and those financial centres that choose to move in that direction do so with very considerable risk.
Indeed prudent budget policies that make large amounts of capital available, and well functioning financial markets that use that capital well are two other crucial requisites for national economic success in the global economy.
The third thing I would highlight, and I will do it only very briefly, is the right kinds of investments in education and in basic science. The case that human capital is the most important kind of capital in the new economy is so familiar that I will not talk about it at any length. Let me just say that I think there is a tendency on all of our parts to underestimate the importance of basic science.
If I could just give one example? Probably the most abstract science is mathematics. Probably the most abstract branch of mathematics is number theory. Within the study of number theory, among the most abstract components is the study of prime numbers.
And yet, every one of us who uses an ATM enjoys a secure transaction because of an encryption algorithm that derives from research on the factoring of large composite numbers that was done by abstract mathematicians in the early 1980s, who had no conceivable thought that their research had practical application.
Those kinds of examples can be multiplied again and again, and if we look at what science has brought us, and could bring us, whether it is the great revolution which it did bring us, or an AIDS vaccine which it might some day bring us, or the serendipity that the example of the encryption algorithm suggests, it seems to me that if the economies of our world are based more on knowledge than they ever have been before, it is terribly, terribly important that we are sure that we are making the right kinds of investment in basic science that will, as a world, move us forward as rapidly as possible.
The fourth point I would emphasise -- I do not think any of us know all the answers here, and in some ways it is probably a larger point for developing countries than it is for countries like mine or yours -- is the importance of what one might call the intangible infrastructure, the network of laws and procedures that establish property rights, that permit contract enforcement, that allow a basis for exchange.
No small part of the Asian financial crisis derived from financial systems that were not failsafe because they were in no way safe for failure; financial systems that were premised on the assumption that everything would go up always, and therefore the provision of guarantees by the Government cost nothing, and that did not think about the unthinkable because it was assumed that it would never come.
We do not have those problems in my country or in yours, where there are well established bankruptcy procedures and the like. But we do have a not unrelated problem, which is that if land rights defined the agricultural era, and if the rules governing corporations defined the industrial era, the rules governing intellectual property and its production, trade and exchange, will define the new era, and we are only at the beginning of defining those very important rules, and those who define them better than words will find it enormously to their national competitive advantage.
So I would say to you that I think it is a very new global economy, it is a global economy in which the requisites of success, particularly financial success, in the sense of having a satisfactory financial system, are very different than we thought a decade ago, but that it is a global economy with enormous opportunity for those with the wisdom and the good luck to take full advantage of the opportunities.
Thank you very much.
QUESTION AND ANSWER SESSION
MR SUMMERS: I would be happy to respond to a few questions or comments.
LORD McNALLY: Tom McNally, Weber Shandwick
Recently in Gothenburg and earlier in Seattle, and indeed here in the City of London, we have had serious riots against the global economy. Do you think that the political systems that we have is geared to accommodate the changes that the new global economy will bring about? Do you think those protests represent a real and genuine feeling of alienation from what is going on?
MR SUMMERS:
It is a very good question, and I do not know the answer. Let me tell you what I hope the answer is. I hope the answers is that it reflects more ignorance than alienation.
The political class has, for many, many years, made the case for free trade in rather ineffective ways. The argument is always made that exports create jobs, which does invite the rather obvious retort, "Well then, imports destroy jobs". And there is a natural human tendency to get this wrong.
How many people in my country, who were in fact doing a mediocre job, in a mediocre company, and lost their job, blamed the loss of their job on NAFTA because somebody moved the plant to Mexico? Answer: a lot.
How many people who were doing an okay job at an okay company, but got promoted because there was a surge in export demand and there was really nobody else available, so the company had no choice but to promote them, said, "Thank God for exports"? Virtually no one.
How many people have you ever met who did their shopping for Christmas and then said, "Isn't it great that there are imports from China, I can buy twice as many toys for my kids at the same price"?
There is a huge human tendency to internalise good news and to externalise bad news, and that leads people to get the economics of trade wrong, and so the first hope, and the hope of someone like me, is that you can make the case through education and explanation that globalisation actually works for people. I think that is a part of the answer; I suspect it is not the whole of the answer.
Some part of these protests reflects utterly misguided moral energy. It is not the right moral thing to do vis-a-vis Africa or India to say to people who choose to take jobs exporting to Europe or to the United States, in conditions that many of us would find to be unacceptable, that that opportunity should be taken away from them by us, because we think it is in their interest to remove that opportunity from them.
I must confess to a certain irritation with Nike-clad teenagers marching to protect the workers of the third world. But I do not think that is the whole answer; I think there is inevitably going to be resentment of change, and the globe tends to be a convenient place to put that resentment, even where the change does not really have globalisation as its basic cause, and so I think this is going to be something that political leaders are going to struggle with in the years ahead.
MR COCKBURN: Bill Cockburn from the Parity Group
That was really terrific. You emphasised the real importance of technology and communications in what you were saying earlier, and who could deny this? But the fact is that most technology companies seem to be suffering a huge turmoil in values. I mean, there seems to be scarcely a day goes by without some companies putting forward a major profits warning, or a big reduction in the staff, and this is not confined to dodgy dot coms. Some of the mightiest technology companies in the world seem to be caught up in this. I would be interested in your explanation for such turmoil, and what your prognosis is, looking forward.
MR SUMMERS:
One of the things that I was taught when I went into Government was a dictum that was attributed to Harold Wilson, which was, "Name a number or a date, but never name both", and I have tried over time to go one better, and avoid naming either, so I am not going to try to predict the future of technology stocks.
I think there are a variety of perspectives from which you can view current technology valuations, and if you view them from the perspective of five years ago rather than 18 months ago, they are rather less shockingly depressed.
But I think there is actually a deeper point to make about technology valuations, which is sort of a combination of two things we teach in introductory economics. One thing we teach at introductory economics is we say to the students, "How come diamonds are expensive and water is cheap, given that water is essential for survival and diamonds are not?" And we sort of go round on that, and guys start talking about De Beers a lot, and how they are a cartel and so forth, but eventually we get to what is the fundamental point, which is that things are valued on the margin rather than being valued on the whole, and that the marginal bits of water are used to sprinkle some lawn or to do something less important, and therefore water is very inexpensive, relative to diamonds, where the marginal diamond is used for something very concrete.
Similarly, as information technology becomes more and more pervasive in its impact, the price that information flows or information technology are able to command may become very low, but that is a reflection of the growing impact of the technology, not the diminishing impact of the technology.
Or, to make the same kind of point in a different way, there is a famous, at least among National Income Accounts statisticians, passage in Adam Smith in which, translated into modern language, he basically says, "Suppose you have a forest where everybody lives and everybody lives happily, and there is a spring, and everybody goes to the spring to get their water, and then somebody takes an ownership right in the spring, collects some of the water, and sells the water to others; in which case is wealth greater? Answer: the second. In which case is GNP, as an economist would answer it, higher? Basically the second, because there is something being sold that has value. In which case is the world a better place, and is the water better distributed? Answer, the first".
And so one interpretation of what has happened is that the process of information technology becoming pervasively available, and having a larger and larger and more competitive impact on our economy, has been associated with an erosion of potential monopoly rents in information technology and telecommunication that has been adverse for market values, even as it has been a positive for social impact.
So I guess the core of the answers that I would give to your question, summarising all that, would be: (1) the valuations look low because they were way artificially high for all kinds of psychological and market reasons 18 months ago; (2) diminished valuations can reflect greater social impact if the technologies are being produced more competitively, and being distributed more pervasively; and (3) I do not have a clue which way tech stocks are going over the next 18 months.
BARONESS COHEN: Janet Cohen, banker and Director of the London Stock Exchange
In describing the success of globalisation, particularly in America, your thesis is it requires very efficient distribution of capital and a very efficient financial system. It must also require a very efficient distribution of human capital. Are you slightly understating the contribution to America of the very efficient distribution of your human capital, combined with a virtually uncontrolled immigration policy, which means that you get an awful lot of very good people? What does this say for globalisation generally?
MR SUMMERS:
Let me say two things. The first -- and maybe this is a note that I should have injected a little earlier -- is that as I tried to stress, if we had all been having this conversation in 1990, the world would have looked very different and we would have reached very different conclusions on some of the things that I was talking about, what types of financial systems were healthiest and so forth, and the fact that the world looks very different in the year 2001 than it did in 1990 -- and by the way, looked very different in 1990 than it did in 1980, when we were talking about when Saudi Arabia would take over the world, and looked very different in 1980 than in 1970 -- should lead us to some substantial humility in any of these types of long-run judgements about what types of economic systems are going to be healthiest and all of that, so I tried, but I probably under-did it in what I said, to kind of talk about what is best adapted to the world as it is right now and so forth.
It is more that the economy changes than that economic ideas turn out to be dead wrong. Every introductory economics course teaches the students that Malthus had this idea that there was exponential growth in people and there was linear growth in food, and therefore there would be all this starvation, but Malthus was wrong, because technology made there be exponential growth in food, that is what every introductory economics course teaches. The truth actually is that if you look at the 1,000 years of economic history before Malthus wrote, he was actually right about that.
I was actually fairly careful in the way I chose my words, but the tenor of the standard macroeconomic discussion today says that Keynes was wrong. Keynes was probably right about the kind of economy that existed in the 1930s, but his policy prescription is not right for today. So there are horses for courses, and there are economic strategies for different circumstances, and nothing is immutable.
I think we benefited rather less in the United States from immigration than you suggest. If you just look at what our immigration is, "uncontrolled" is a long way from the truth, and if you look at the -- you know, we may have benefited in the very long run sense, in the sense that we were a magnet for all the energetic people 75 or 100 years ago, but if you asked me, "What has the contribution of US immigration policy over the last 25 years been to US economic success?", I would say it has been there but I do not regret not having said it as a dominant factor.
I think we have been relatively successful in the United States in promoting social mobility, and if you are an outstanding 17 year old, no matter where you grew up in the United States, if you have got some hustle, you will be a student at Harvard or Yale; I think that type of thing benefits the United States, and I think in many ways more impressively -- and from what little I know, I sense this to be a bit of a difference with the tradition in Europe.
If you are an outstanding person but you either were not an outstanding person when you were 17, or did not get connected in the right way, or you went to whatever university in the United States is ranked number 1,234, if you turn out to be terrific, you can be Secretary of State too, and I think that that degree of mobility, that sort of allows comebacks for people who have not been in lead institutions until they reach quite substantial ages, is something that is more uniquely characteristic of the United States, and probably is a strength of ours. That is an impressionistic judgement, and it may be an outdated one, with respect to Britain.
MR HILTON: Andrew Hilton, Centre for the Study of Financial Innovation
At the risk of asking you something which causes you to prognosticate, looking around the world, what worries you today? What could go wrong?
MR SUMMERS:
I think there is an ample amount to worry about. I do not think the prospects for sustained economic expansion are completely solid in any of the major three regions.
Certainly in the United States, there is a significant overhang of excess capacity that will hold back information technology investment for some time to come. I am apprehensive about the situation in Japan -- that is not new for me, but it seems to me that their W-shaped expansion is in another downslash, after a number of previous false starts, and I have some concern about whether Europe will be strong enough to pull the global economy forward at a moment of some difficulty in the United States and in Japan.
I also think that there are challenging economic situations with potentially wider ramifications in both Argentina and Turkey that will require careful management in the months ahead, so I think it is a period of rather more uncertainty than we have had for the last couple of years, though certainly not uncertainties of a magnitude that we saw for substantial parts of 1998.
MR OLDHAM: Gavin Oldham, The Share Centre
The Government in this country recently put out a paper called "Savings and Assets for All", and they stated that 57 per cent of families with children where there are two or more adults have less than 1,500 in savings, and I am sure this is equally the case in the United States. It seems to me that democracy can provide political liberation, but it is savings and assets which actually provide economic liberation, and bearing in mind -
MR SUMMERS:
I am going to steal that. That is a good line.
MR OLDHAM:
Thank you. Bearing in mind that people are living longer, and that is using up more of their wealth in their old age, and that families are much more fragile than they were, much more likely to break up and therefore less likely to pass on their wealth, I am wondering if there are any mechanisms which we can bring into capitalism which will permit a greater degree of wealth distribution in the future, so we can have a much more egalitarian type of society?
MR SUMMERS:
One hopes. I think it is a complicated question, because while the statistics you have cited are, I am sure, correct, it is also, I suspect, correct that if you look at the wealth to income ratio in Britain, it is probably greater than it has been at most points in the past; it is probably the case that more of your citizens have home equity than has normally been the case in the past, and their home equity is probably a much more financial asset than it had been in the past, so that experientially, the sense of being able to have financial assets for people, given that they can liquefy their homes in various ways, is rather greater than is suggested by your statistic, so that is part of how people are functioning with smaller levels of wealth.
This question of family break-up that you mentioned is something that has occurred to me. It actually is a little two-edged, since if you expect the family to break up, contributing to savings of which you will only see half is not very attractive, so while family break-ups may create more need for saving, they probably create less incentive for saving.
The place where this always gets discussed in policy terms, and there will be a lively debate in the United States in the next couple of years, is in connection with privatising social security through individual accounts, so as to give everyone some form of saving, and on the one hand I am very attracted to that idea, and I think the more we can get people going on saving, the better it is, and as you may know, the Clinton administration proposed a variety of ideas with titles like "Universal Savings Accounts" towards that objective, and a variety of expansions of tax-favoured savings towards the lower middle class.
I do worry about making the basic benefit for the aged dependent on the vagaries of the market, because it does seem to me that many people will approach it with relatively little sophistication, make mistakes, and that there is the prospect of very substantial volatility, so yes, I think we do need to work at sweetening the incentives for the lower middle class to save; we need to recognise that savings like life insurance is sold not bought, but at the same time, I would not go as far as those who would go a long way towards privatising social security in the name of democratising wealth accumulation, because it seems to me that would be exposing people to very large risks.
MS BARTH: Christina Barth, The Harvard Club
I was struck by your comments about the benefits of transparency, and your comment at the end about Turkey and Argentina, and my mind goes back to the summer of 1998 when one could argue that a combination of so-called alternative investment vehicles helped to bring down Russia and then Brazil in certain ways, using the words "bring down" in a general sense, and we had the defaulting in one case and the devaluation. One could also come forward then and say that has been a positive, because two countries who were not beneficiaries of transparency and the other new forces you were describing were sort of pulled up, and then I would be interested if you can help me understand those two phenomenon occurring in parallel, and if you might make a comment about the US, which has a significant current account deficit, if I am not mistaken. Thank you.
MR SUMMERS:
I am getting that feeling of deja vu around my oral exam from my PhD.
I do not think time permits a full discourse on Russia and Brazil. Let me just say that I think those problems had heavily to do with two things that I think we have learned lessons about. One is the dangers of fixed non-institutionalised exchange rates that invite postponing the painful devaluation until it is too late, and then you get chaos after the devaluation, and it seems to me that if you look at the common element in every major financial crisis of the 1990s, it was a pegged exchange rate that was maintained too long, and those exchange rate regimes are playing with fire; unless you discourage countries from adopting them more successfully, we will see repeats of crises again and again.
The second thing I would say is that people often -- this may go a little more to what you had in mind in your question: people often blame instability on the volatility of capital markets and all of that. My observation is that most countries that have gotten in trouble have had substantial policy non-neutralities in favour of attracting short-term capital, and then if you dine with the devil, you sometimes end up on the menu. I think that was Lord Lever's observation some years before it was mine.
If you look at Russia, yes, sure, if you have Government guaranteed instruments issued by banks which are tailored to the tastes of hedge funds, then you are going to get rapid investors who come and go. Similarly Brazil; I do not remember what the number was, 485 -- that is probably the wrong three digit number, but they had a three digit number for a particular legal code for a particular type of financial asset that was designed to appeal to short-term foreigners, Tesobonos and the Thai offshore banking facility.
All these examples, it seems to me, do not point to the desirability of restricting capital; they point to the idea of not subsidising the receipt of short-term capital, so just like in the environmental area, most of us would say that before you started talking about taxing energy use, it would be a good idea to get rid of market distorting subsidies to energy use.
In the financial area, it seems to me the largest problems have come from non-neutralities in favour of short-term capital, rather than from short-term capital simply finding its way. As far as the US current account deficit is concerned, it seems to me that the healthiest long run adjustment path -- and I have no doubt that over the medium to long-term, the US current account deficit will have to come down -- is one that has two crucial elements.
An increase in the US savings rate, because the current account deficit is savings minus investment, and much better that we have more savings rather than less investment, for the reasons that I talk about when I talk about fiscal discipline; and the second element, it seems to me, from an American perspective, is a more rapidly growing, more open world, because it is much better that we increase our exports than that we decrease our imports.
That is why we have always put such emphasis on what is happening in the remainder of the global economy, and why during the time I was the Secretary of the Treasury, I used to have these little one-liners about, "The world economy cannot fly on a single American engine", and things of that kind, and unfortunately, we are starting to see that there is a fair amount of truth to some of those observations, and so it seems to me very, very important from the US current account perspective that domestic demand-led growth be more of a priority and more successfully pursued in both Europe and Japan.
Thank you very much.
MR CRUICKSHANK:
Thank you very much indeed, Larry. I was particularly struck by your four prerequisites, I think you called them, for a well-functioning economy. To remind the audience it was fiscal constraint, well-functioning financial markets, investment in education and science networks, and laws and procedures.
Just two observations, one actually on education; I think "introductory economics", which was a phrase you used a number of times, should be a sine qua non in any even junior education system, but the one I was particularly drawn to was the well-functioning financial markets, and your observations, and admission that a securities transaction tax might not always be right.
MR SUMMERS:
Your utter indifference to that issue is something I was well aware of.
MR CRUICKSHANK:
I was marking Gordon against the four prerequisites, and against number two, which was the well-functioning financial markets, I think "could do better" was the phrase that sprang to mind.
That was just excellent, and as a token of our appreciation, we have a small gift here for you, which is from the Exchange and our friends here. Thank you very much indeed.