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Vendor Finance and the Global
Financial Crisis
Keith Rankin
Department of Accounting and Finance
Friday 9 July 2010
Recent Writings re Global Financial Crisis [GFC]
• Context of Balance of Payments global flow model
– AU Public Policy Group 29 October 2009
– Use It or Lose It: Understanding the Global Financial Crisis
• Context of Paul Krugman's NY Times critique that
exposes the failings of modern Macroeconomics
– Agenda forthcoming
– Krugman on the Malaise of Modern Macro: Critique Without Alternative
• Context of difficulties of explaining GFC in classroom
– ATEC 2010: Macroeconomic Concepts and Applications: Paying
Attention to Basic Relationships Through Circular Flow Analysis
Vendor Finance
• term I have not used so far in my writings.
• came across in:
– Vince Cable's "The Storm" (2009) pp.97,149
"… the continued growth of the USA … was only possible because of
a system of 'vendor finance' provided by China to the rest of the world
in order to enable Chinese exports to grow rapidly…" (p.149)
– Bernard Hickey's
"One of the relief valves in the global economy will be a rise in
Chinese wages reducing its competitiveness as the 'Factory of the
World'. This would reduce the size of China's trade surpluses and
make it less able to 'vendor finance' continued deficit-fuelled spending
in the developed world."
Mercantilism --short for Mercantile System
• System of International Business, Politics and
Economics that prevailed in 16th-18th centuries
– intellectual clash in 2nd half of 18th C. led to classical economics
– final UK disputants: James Steuart (1767) vs. Adam Smith (1776)
• Smith's Wealth of Nations was written firstly as a polemic against the
vendor finance practices of "Dutchmen" and "Hamburgers"
• ref. "The trade wind, the statesman and the system of commerce:
Sir James Steuart's vision of political economy" EJHET 1996
• Chief tenets:
– global economy is "zero-sum" (or like a sports contest)
– winning is accumulating "treasure" (gold and silver in those days;
essentially US Treasury Bills today)
– means to win was to run an export surplus; selling more than buying
– China then as now very successful by these criteria
What is meant to happen?
• Fixed Exchange Rate system
– price specie flow mechanism (Hume), esp. under gold standard
– surplus countries meant to have inflation, deficit countries deflation
– failure in late 1920s represents principal cause of Great Depression
• Floating Exchange Rate system
– surplus currencies supposed to appreciate; deficit to depreciate
• In both cases financial flows – vendor finance
(direct and indirect) from surplus countries –
negates the price-based adjustment mechanism.
– global banking system recycles surpluses as a kind of debt pump
– saving: "use it or lose it"
What happens when debtors try to repay
debts at the same time as creditors seek to
maintain or increase their surpluses?
1. Good financial crisis.
Borrowing must continue; maybe governments borrow more for while.
Some credits and debts written off with good grace, in recognition that saving
(ie lending) is inherently risky and incurs systemic risk.
Written-off saving appears, ex post, as gifted goods and services.
2. Bad financial crisis.
savers resist the crisis-resolution process by saving (lending or hoarding)
more while expecting others to borrow less, creating a debt-deflationary spiral
conservative advocacy of wage cuts; resistance to 'reflationary' policies
in 20th century it took two World Wars and a Great Depression to create a
level financial environment that enabled decades of unprecedented stability
Resolution of China surpluses
• US Treasury Bills will not default
– large scale selling by foreign holders will force $US down, however
• China's 'vendor-financed' claims on the US
economy may eventually succumb to global
inflation, much as OPEC credits did in 1970s and
– likely to coincide with the liquidation of the developed countries'
pension funds
• a prior "bad financial crisis" (with deflation) will
aggravate the China credit problem, while writing
off much the savings of other creditor countries
Savings Problem: Shortage or Glut?
• Presented as a shortage in NZ (and UK and
Europe), but as a glut in the world as a whole.
• Individual frugality requires the profligacy of others.
– much bank lending does not finance investment
• the banking system, among other things, must lend to low-middle
income workers the shortfall in their wages
• the banking system also lends to "speculators" (people who trade in
[mainly existing] financial assets) rather than purchase investment goods
• Issue is largely one of inequality (esp. within nations)
– the global economy (and most national economies) require a
distribution of income closer to the required distribution of spending
insights from JM Keynes in 1930s: from
Keynes: The Return of the Master (2009), Robert Skidelsky
• "One of the main causes of the Great Depression, [Keynes]
believed, had been a global 'saving glut' originating in the
United States. The US's accumulation of gold through its
current account surplus had forced other countries on the gold
standard to deflate their economies. It was to avoid a repetition
of this deflationary pressure that Keynes worked out his
Clearing Union plan in 1941 which was designed to prevent
countries from accumulating, or hoarding, reserves."
– p.100
[Keynes did not envisage a relatively poor country in this role]
• proper accounting would interpret China-like vendor finance as 'giving'
– note Marshall Plan aid after WW2; big contrast to WW1 and post-WW1 loans
insights from JM Keynes in 1930s: from
Keynes: The Return of the Master (2009), Robert Skidelsky
• continued: "As the returns from investment [ie acquiring capital
goods] fall, the domestic aim of policy should switch to
reducing income inequalities (raising the 'propensity to
consume') and increasing leisure time, with shorter working
hours and more frequent holidays. In the golden age of capital
saturation, with the economic problem solved, people would
learn to live 'wisely, agreeably, and well'. This was Keynes's
answer to the question: What is economic growth for?"
• KR: Tax reform informed by accounting reform reduces inequalities, with
refundable tax credits making it easier for workers to negotiate better
wages and better hours.