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Global Imbalances, Peak Oil,
and the Next Global Economic Crisis
By Minqi Li

http://www.stateofnature.org/index.html
"After about 2020, both of the world's two largest economies will lose the capacity to function either as the world's lender of last resort or the world's borrower of last resort. This will leave the neoliberal global economy in a fundamentally unstable condition."

Under the neoliberal global economy, global effective demand (mass consumption, productive investment, and government spending) tends to be depressed. Liberalized capital flows have led to global financial instability and frequent financial crises. Despite these inherent weaknesses, the neoliberal global economy has been able to function as the US has played an indispensable stabilizing role. The US current account deficits have allowed China, Japan, other Asian economies, and Germany to pursue export-led growth. Moreover, the US foreign liabilities have created assets for the "emerging economies" allowing the emerging economies to pursue expansionary macroeconomic policies.

With the Great Recession of 2008-2009, the US economy has been seriously weakened. In the coming years, the US will have growing difficulty to continue functioning as the world's "borrower of last resort". In the near future, as the world oil production approaches the peak and starts to decline, the global economy is likely to be constrained by the oil supply capacity. In the post-peak oil world, the pattern of global imbalances is likely to change dramatically. The center of global trade surpluses is likely to shift away from East Asia and towards the main oil exporters.

China is currently the world's largest net creditor and has been crucial in financing the US current account deficits. As the advanced capitalist economies stagnate, but China's demands for technology, energy, and resources continue to surge, it is a matter of time before China turns from a net exporter into a net importer. In the future, China will face balance of payment constraints and will be unable to function effectively as either the world's lender of last resort or the world's borrower of last resort. Without an effective lender or borrower of last resort, the neoliberal global economy will be fundamentally unstable.

The following section discusses one of the basic contradictions of global capitalist economy - how to sustain the expansion of effective demand in the global context in the absence of a world government. Section 3 discusses the structural contradictions of neoliberalism and how the US has been indispensable for stabilizing the neoliberal global economy. Section 4 reviews the internal and external imbalances of the US economy and argues that the US can no longer act as an effective borrower of last resort for the neoliberal global economy. Section 5 argues that while China has become a leading contributor to global economic growth, it will not be able to stabilize the global economy by acting as the world's lender of last resort. Section 6 argues that if the world oil production peaks in the near future, it will impose limits on global economic growth and the advanced capitalist economies are likely to bear the main burden of adjustments. Section 7 concludes the paper by discussing the impact of peak oil on global imbalances and the future of the global economy.


Global Capitalist Dilemma

The great depression demonstrated that a small government, free market capitalist economy was fundamentally unstable. A big government sector is indispensable for the stability of a modern capitalist economy. However, at the global level, there is not a world government that is responsible for the macroeconomic management of the global capitalist economy.

The national economies that run trade deficits need to be financed by net capital inflows. Sudden reverse of capital flows could precipitate a national economy into a balance of payment crisis, often leading to a deep recession. Concerned with the risk of balance payment crisis, the deficit countries are under pressure to reduce internal demand to restore trade balance.

On the other hand, the surplus countries are not under the pressure to expand their internal demand. On the contrary, the surplus countries may have incentive to maintain and expand trade surplus in order to accumulate reserve assets to insure against possible balance of payment crisis. As the deficits countries are pressured to reduce internal demand but the surplus countries may be motivated to further increase their surpluses, there would be a tendency for global effective demand to be depressed unless it is offset by some counter tendencies. [1]

The national motivation to maintain and expand trade surplus is reinforced by the favorable impact of trade surplus on capitalist profit. For a capitalist economy to function well, the capitalist profit rate needs to be high and stable. Other things being equal, lower wages and taxes would contribute to high profits. However, if wages and taxes are too low, mass consumption and government spending would be depressed, leading to insufficient overall demand for capitalist production (the "realization problem"). How could this dilemma be addressed?

Consider the following macroeconomic identity:
W + Π + T = C + I + G + NX
The equation says that in a capitalist economy, the sum of wages (W), profits (Π), and taxes (T) must equal the sum of consumption (C), investment (I), government purchases (G), and net exports (NX, that is, exports less imports, or net purchases by the foreigners). In other words, total incomes must equal total expenditures.

Rearrange terms, one arrives at the following profit determination formula:
Π = I + (C-W) + (G-T) + NX

The equation says that the capitalist profit is determined by the sum of capitalist investment, household consumption in excess of wages (which roughly corresponds to "household deficit"), government deficit, and trade surplus. [2]

If wages and taxes are kept low, the profit may be increased through an increase in household or government deficits. However, this "solution" could lead to unsustainable household or government debt, ending with a financial crisis either in the private sector or the public sector. The profit may be increased through an increase in capitalist investment. But excessively high investment could lead to excess production capacity and lower profit rate.

From the point of view of a national capitalist economy, it would seem that higher trade surplus would offer the most ideal solution. If a national capitalist economy can maintain and expand large trade surplus, then it can achieve high profit without worrying about the realization problem, household or government debt, or over investment.

However, in the global context, if all national economies attempt to generate large trade surplus by using policies that tend to keep wages and taxes low, it would create a global "race to the bottom" that depresses global effective demand. How could the global capitalist economy get around this dilemma?

Historically successive hegemonic powers have functioned as proxies for world government to regulate the collective interest of the global capitalist economy. In principle, there are two possible ways for the hegemonic economy to stabilize the global capitalist economy and promote the expansion of global effective demand.
First, the prevailing hegemonic economy could run sustained large trade surpluses against the rest of the world and function as the world's "lender of last resort". By providing large and stable capital outflows to the rest of the world, the hegemonic economy could help to remove the balance of payment constraints on the rest of the world and encourage other national economies to promote expansion of internal demand. In this scenario, the hegemonic economy would accumulate net foreign assets over time.

Alternatively, the prevailing hegemonic economy could run sustained large trade deficits against the rest of the world, allowing the rest of the world to pursue export-led growth and accumulate reserve assets. The hegemonic economy would lead the expansion of global effective demand. Under this scenario, the hegemonic economy would accumulate net foreign liabilities over time.


Neoliberalism and the Global Imbalances

In the early postwar years, the advanced capitalist countries undertook a set of major institutional restructurings. The size of the government sector was greatly expanded. Keynesian macroeconomic policies became standard practices. Welfare state institutions were established and expanded. National income was redistributed from capital to labor and social spending. All of these contributed to the rapid expansion of effective demand in the advanced capitalist countries during the 1950s and 1960s.

At the global level, under the Bretton Woods System, fixed exchange rates were maintained and capital flows were regulated. From the mid-1940s to the mid-1960s, the US had run significant current account surpluses. The US corporate foreign investments and official foreign assistances supplied capital to the rest of the world and had to a large extent removed the balance of payment constraints on the rest of the world's economic growth. [3]

The "Golden Age" ended as decades of rapid economic growth depleted the surplus labor force in the advanced capitalist countries. Growing working class bargaining power led to declining profit rate. As the governments of the advanced capitalist countries attempted to prolong economic expansion through Keynesian economic policies, intensified class conflicts led to a period of "stagflation" (or a combination of high unemployment and high inflation).

By the mid-1960s, the US industrial monopoly was seriously challenged by the rapidly growing Western European and Japanese economies. The US hegemony was further undermined by the defeat in Vietnam. As the US trade surplus disappeared, the Bretton Woods System fell apart.

In response to the crisis, the global capitalist classes pursued a new set of policies and institutions that had become known as "neoliberalism". In the 1980s and 1990s, monetarist macroeconomic policies became the standard practices in the advanced capitalist countries. Under monetarism, "independent" central banks focused on price stability rather than output and employment expansion. High interest rates in combination with fiscal austerity were recommended as the primary weapons to contain inflation. In effect, monetary policies helped to keep the unemployment rates high for a sustained period of time, weakening the working class bargaining power and contributing to the recovery of the profit rate.

In developing countries and formers socialist countries, "structural adjustment" and "shock therapy" programs were imposed by the International Monetary Fund and the World Bank. These programs often included immediate and full liberalization of prices, extreme versions of monetarist policies, massive privatization of state owned enterprises, and massive cuts in social spending. In Latin Africa, Africa, Eastern Europe, and the former Soviet Union, these programs had led to massive declines of living standards for the great majority of the population.

A key aspect of neoliberalism was "globalization" or trade and financial liberalization. With liberalized flows of goods, services, and capital, capital could be relocated from the advanced capitalist countries to the periphery taking advantage of the cheap labor force and the weak environmental and social regulations. The "threat effect" in turn undermined the bargaining power of the working classes in the advanced capitalist countries. [4]

All of these developments contributed to the global redistribution of income from labor to capital. Labor income shares had fallen in all the major economies. In the US, working class real wages had declined from the 1970s to the 1990s. In much of the world (Latin America, Africa, Eastern Europe, and the former Soviet Union), large sections of the population suffered from massive absolute declines of living standards. Global mass consumption had been depressed. [5]

Liberalized capital flows greatly increased financial instability and led to more frequent, more violent financial crises (the Mexican crisis in 1994, the Asian crisis in 1997, the Brazilian-Russian crisis in 1998, the Argentine-Turkish crisis in 2001). [6] Financial instability and high interest rates tended to depress productive investment. Financial crisis had forced many governments to adopt fiscal austerity programs, further depressing internal demand.

Without an effective counteracting force, the neoliberal global economy could sink into a downward spiraling vicious circle under the general tendency of demand depression and growing financial instability. In this context, the US has played an indispensable stabilizing role by acting as the world's borrower of last resort.
From the 1990s to the early 2000s, the US had run large and rising current account deficits, allowing China, Japan, other Asian economies, and Germany to pursue export-led growth, compensating their insufficient internal demand.

Moreover, the US current account deficits had allowed the rest of world (especially the rapidly growing "emerging economies") to accumulate reserve assets. As the emerging economies accumulated more and more reserve assets, financial crisis had become much less threatening. By the early 2000s, the leading emerging economies (such as China, India, Brazil, and Russia) had regained or further enhanced their capacity to undertake autonomous macroeconomic expansion. From 2003 to 2007, the global economy enjoyed several years of rapid growth.


The US: External and Internal Imbalances

Figure 1 shows the current account balances of the world's major economies from 1980 to 2009. The US has been running large current account deficits since the early 1990s. The US annual deficit peaked at about 800 billion dollars in 2006. The European Union as a whole has had either a small surplus or a small deficit in recent years.

East Asia as a whole has been the largest contributor to global current account surpluses. In 2007 and 2008, the East Asian current account surpluses were roughly comparable to the US deficits. As the oil price surged from 2003 to 2008, the oil exporters (represented by the sum of Middle East, North Africa, and Russia) became another major source of global current account surpluses.

Source: World Bank, http://databank.worldbank.org/ddp/home.do.

Figure 2 compares the US net foreign liabilities (foreign assets in the US less the US assets in the rest of the world), the US cumulative current account deficits (the cumulative current account balances since 1929, with deficits stated in positive terms), and the rest of the world's foreign exchange reserves.

Source: World Bank, http://databank.worldbank.org/ddp/home.do.

If there were no change in the value of US dollar, the net foreign liabilities should theoretically equal the cumulative current account deficits. In reality, the US dollar value does change and since 2002, as the US dollar depreciates, a large gap has been opened between the net foreign liabilities and the cumulative current account deficits (dollar depreciation raises the nominal dollar value of the US assets abroad and therefore reduces the US net foreign liabilities).

However, the growth of the US cumulative current account deficits has roughly matched the growth of the world foreign exchanges reserves since the mid-1980s. Thus, the US current account deficits have allowed the rest of the world to accumulate official reserve assets. The accumulation of reserve assets has allowed the rest of the world, especially the emerging economies, to pursue demand expansion as financial crisis becomes less threatening. This development contributed to the rapid growth of the global economy from 2003 to 2007 as well as the relative stability of the emerging economies.

A country's external financial balance has to be matched by its internal financial balances. This can be illustrated with the following macroeconomic financial identity:
Current Account Balance = Private Sector Balance + Government Sector Balance

Thus, if a country runs current account deficit, then either the private sector, or the government sector, has to run a deficit in terms of sector financial balance.
Figure 3 compares the US current account balances with the US private and government sector financial balances from 1980 to 2009. Figure 4 compares the US private sector financial balances with the household and corporate sector financial imbalances.

Source: US Bureau of economic analysis, http://www.bea.gov.

Source: US Bureau of economic analysis, http://www.bea.gov.

From the 1980s to the early 1990s, the US private sector had consistently run surpluses. The relatively large government deficits had more than offset the private sector surpluses, leading to current account deficits for most years in this period.

In the late 1990s, the US government sector actually moved into surpluses. It was the private sector that had run increasingly larger deficits, driven by deficits in both the household sector and the business sector. After the 2001 recession, the business sector moved back to surpluses as corporations reduced investment and increased cash holdings. But the household sector continued to run deficits.

From the late 1990s to 2007, the US economy had essentially been driven by debt-financed household consumption. The household debt had increased steadily from about 50 percent of GDP in the early 1980s to near 100 percent of GDP by 2008. [7]

In the wake of the Great Recession of 2008-2009, both the household sector and the business sector have increased savings sharply. The US private sector balance moved from a deficit of near 4 percent of GDP in the third quarter of 2006 to a surplus of near 10 percent of GDP in the second quarter of 2009. This drastic turnaround was mostly offset by an equally drastic deterioration in the government sector balance. The US government sector deficit increased from less than 2 percent of GDP in the fourth quarter of 2006 to the peak of 12 percent of GDP in the second quarter of 2009.

The analysis above helps to illustrate the current dilemma of the global economy. The stable expansion of the neoliberal global economy requires the hegemonic economy function as the world's effective borrower of last resort. The US had indeed played this stabilizing role from the 1990s to the early 2000s. However, the US stabilizing role required the US run large current account deficits, which in turn required either the US private sector or the US government sector run large deficits.
From the late 1990s to 2007, it was primarily the private sector that had driven the expansion of the US current account deficits. The private sector deficits reflected, first, the stock market bubble in the late 1990s, and then the housing bubble from 2004 to 2007.

With the burst of the housing bubble, the US private sector has increased savings sharply and the US current account deficits have shrunk. In this context, is the US still capable of acting as the world's borrower of last resort?

As US households and corporations increase savings to repair their balance sheets, if the US were to keep running large current account deficits, the US government sector would have to run very large deficits. If the US current account deficit returns to about 5 percent of GDP and the US private sector runs a surplus of 5 percent of GDP, then the US government sector would have to maintain a deficit of 10 percent of GDP. This would obviously be unsustainable beyond the medium-term.

More optimistically, assume that the US current account deficit would stay at about 3 percent of GDP and the US private sector surplus would gradually fall back to 3 percent of GDP. This would still imply a long-term government deficit of 6 percent of GDP. If the US long-term nominal GDP growth rate is assumed to be 5 percent (3 percent real economic growth rate + 2 percent long-term inflation rate), then a long-term deficit of 6 percent of GDP implies that in the long run the government debt would approach 120 percent of GDP, taking the US government debt to a potentially dangerous level. [8]

On the other hand, if the US current account deficit is limited to no more than 3 percent of GDP and the US economic growth remains sluggish in the future, the US role as the world's borrower of last resort would be greatly reduced. If the US can no longer (or will gradually lose its ability to) function as the world's borrower of last resort, would another large economy emerge as the world's next hegemonic economy, stabilizing the global economy either as a lender of last resort or as a borrower of last resort?


China: The World's Lender of Last Resort?

Figure 5 compares the contributions by the world's major economies (the US, the European Union, China, and India) to global economic growth. An individual economy's contribution to global economic growth is measured by the ratio of the change in the economy's GDP over a five-year period over the change in the world GDP over the same period.

Source: World Bank, http://databank.worldbank.org/ddp/home.do.

From the 1990s to the early 2000s, the US was the largest contributor to global economic growth, accounting for about one-quarter of the growth of the world economy over this period. Since 2005, China has over taken the US to become the largest contributor to global economic growth (even though the Chinese economy remains smaller than the US economy). China now contributes to about one-third of the world economic growth while the US contribution has declined to less than 10 percent.

This raises the interesting question whether China can replace the US as the next hegemonic economy and help to stabilize the global economy by acting either as a lender of last resort or a borrower of last resort.

Since the early 2000s, China has been running large current account surpluses. China's current account surplus surged from 17 billion dollars in 2001 to near 440 billion dollars in 2008 before falling back to about 300 billion dollars in 2009. China's foreign exchange reserves increased ten fold from 2001 to 2009 and stood at 2.4 trillion dollars at the end of 2009. China has become the world's largest net creditor.

It is a matter of time before China overtakes the US to become the world's largest economy. If China continues to run large current account surpluses in the foreseeable future, will China emerge as the world's lender of last resort in one or two decades and lead the global economic expansion in a manner similar to how the US led the global economic expansion after the Second World War?

Despite China's rapid economic growth, the Chinese economy continues to lag the advanced capitalist countries in key technologies and continues to depend on foreign investment and technology as key engines for economic growth. According to a Chinese government report in 2006, foreign capital dominated 21 out of 28 China's industrial sectors. Foreign owned firms accounted for about 60 percent of China's total exports and about 90 percent of the so-called "high tech" exports.
China has become the world's leading computer exporter, assembling 80 percent of the world's notebook and desktop computers. But this is mainly because the Taiwanese companies that dominated the world computer manufacturing have shifted their entire production to mainland China. Eight of China's top ten computer exporters are Taiwanese "original design manufactures" which supplied unbranded computers and components to branded sellers based in the US.

Most of China's current industrial activities involve using foreign technology and imported foreign capital goods to assemble final manufacture goods and some intermediate goods to be exported to the advanced capitalist markets. China's own contribution is largely limited to cheap labor and cheap land. [9]

China's current pattern of economic development is highly energy and resources intensive. From 1999 to 2009, China's total primary energy consumption grew at an average annual rate of 8.8 percent, coal consumption grew at 8.9 percent a year, oil consumption grew at 6.8 percent a year, and carbon dioxide emissions grew at 8.6 percent a year. During the same period, China's oil imports increased from 1.2 million barrels a day to 4.8 million barrels a day. China has overtaken the US to become the world's largest energy consumer and largest greenhouse gas emitter. China has become the world's second largest oil consumer and importer. [10]

Table 1 compares China's main export and import commodities. The 20 largest export items together accounted for 39 percent of China's total merchandise exports in 2008. The 20 largest import items together accounted for 35 percent of China's total merchandise imports in 2008. China mainly exports final manufacture goods and some intermediate goods such as computers, garments, telephone sets, furniture, ships, plastic articles, electrical apparatus, leather shoes, and steel. China mainly imports energy products, minerals, agricultural and forest products, and high value-added capital goods such as crude oil and oil products, iron ore, copper, soybean, paper pulp, aircraft, and machine tools.

Table 1. China's Main Export and Import Commodities, 2008 (billion dollars)

Source: National Bureau of Statistics of the People's Republic of China, http://www.stats.gov.cn.

If the Chinese economy continues to grow rapidly, China's demand for energy, natural resources, and high value-added capital goods is set to grow rapidly. Moreover, China's growing demand for energy, mineral, and agricultural products is likely to drive up their world market prices. On the other hand, the advanced capitalist economies are likely to struggle with economic stagnation for many years to come. As China's import bill continues to surge but its main export markets stagnate, in the coming years China's trade surplus is more likely to narrow rather than widen. China's seemingly enormous trade surplus could be completely eliminated in the medium term.

Table 2 presents alternative scenarios for China's trade balance by 2020. Under all scenarios, world imports are assumed to grow by 10 percent a year from 2009 to 2020 (compared to the average annual growth rate of 11 percent from 1998 to 2008) and China's imports are assumed to grow by 20 percent a year (compared to the average annual growth rate of 22 percent from 1998 to 2008).

Table 2. Alternative Scenarios of China's Trade Balance, 2009 and 2020 (projected)

Source: World Bank, http://databank.worldbank.org; author's calculations.

Under scenario 1, China's share of the world exports market is assumed to increase slightly from 8.6 percent in 2009 to 10 percent in 2020. Under this scenario, China will run a huge trade deficit of 3.9 trillion dollars by 2020. Under scenario 2, China's world market share is assumed to increase to 20 percent by 2020 (roughly comparable to China's probable share of world GDP by then) and is projected to run a trade deficit of 540 billion dollars. Under scenario 3, China's world market share is assumed to rise to 30 percent by 2020. China's exports will rise to 13 trillion dollars (nearly as large as the US GDP today) and trade surplus will rise to near 5 trillion dollars (about as large as China's market exchange rate-measured GDP today). But these are highly unlikely.

Thus, if the Chinese economy continues to grow rapidly, China's currently enormous trade surplus could be eliminated in about a decade. As China starts to run trade deficit rather than surplus, China will not be in a position to function as the world's lender of last resort. The elimination of China's trade surplus could very well be accelerated by the coming peak of world oil production.


Peak Oil and the Next Global Economic Crisis?

In the near term (the next 5-10 years), global economic growth is likely to be subject to the limits of the world oil supply capacity. Current evidence suggests that world oil production is likely to peak in the near future. World oil discoveries already peaked in the 1960s. About 28 significant oil producing countries (together accounting for about 50 percent of world oil production) have passed the peak and their oil production is in decline. Of the world's 20 largest oil fields, 16 have passed the peak and are now in decline. [11]

Figure 6 shows the "world oil supply curve", the relationship between world oil supply and real oil prices. In recent years, world oil supply has become highly inelastic. From 2004 to 2008, despite surging oil prices, world oil production failed to increase to match the growth of demand.

Sources: BP, Statistical Review of World Energy 2010; US Energy Information Administration, http://eia.doe.gov.

Chris Skrebowski developed an analysis based on the oil megaprojects data. According to Skrebowski, world oil supply capacity could peak in 2014 and lead to the next round of world oil price surges. This could trigger the next global economic crisis. [12]
|
How is peak oil likely to impact world economic growth? Table 3 reports results from bi-variant regressions that study the relationship between GDP and real oil price using data from 1980 to 2009. GDP is in logarithmic values and first differenced. Real oil price is the average of real oil prices over the previous three years and first differenced. [13]

Table 3. Oil Price and Economic Growth, 1980-2009
(Dependent variable: logarithmic value of GDP)

Standard errors are in parentheses.
**Statistically significant at 5 percent level.
***Statistically significant at 1 percent level.
Data sources: World Bank, http://databank.worldbank.org; BP, Statistical Review of World Energy 2010.

Oil price has a significant impact on both the world economy and the OECD economies. An increase in real oil price by ten dollars reduces world economic growth rate by 0.7 percent and OECD economic growth rate by 1.4 percent. However, oil price seems to have no impact on the growth of Asian and Pacific developing economies.

The insensitivity of the Asian and Pacific developing economies may result from the following factors. The two largest economies in the area, China and India, depend on coal rather than oil as the major source of energy. In the 1980s and early 1990s, China was a net oil exporter. Over the past decade, the Asian economies have accumulated huge foreign exchange reserves allowing them to maintain economic growth despite rising oil import expenses.
Table 4 reports regression results that study how oil consumption is determined by GDP and real oil price. Both oil consumption and GDP are in logarithmic values and first differenced. [14]

Table 4. Oil Consumption, Oil Price, and GDP, 1980-2009
(Dependent variable: logarithmic value of Oil Consumption)

Standard errors are in parentheses.
**Statistically significant at 5 percent level.
***Statistically significant at 1 percent level.
Data sources: World Bank, http://databank.worldbank.org; BP, Statistical Review of World Energy 2010.

The world economy has an "autonomous" oil reduction rate of 1.3 percent a year and the OECD economies have an autonomous oil reduction rate of 1.1 percent a year. The autonomous oil consumption reduction may have reflected structural improvement in energy efficiency. On the other hand, the Asian oil demand does not seem to experience autonomous reduction.

In the long run, real oil price should neither rise indefinitely nor fall indefinitely. Table 5 considers the possible impact of peak oil by calculating the GDP growth rate that is consistent with stable real oil price based on different scenarios of oil consumption growth. The calculations are based on the regression results reported in Table 4. [15]

From 1998 to 2008, world oil consumption grew at an average annual rate of 1.4 percent. Table 5 considers four possible scenarios for world economic growth in the coming years. If the world oil consumption continues to grow at an annual rate between 1 and 2 percent, global economy would be able to grow at a solid pace. If world oil consumption ceases to grow or starts to decline, global economy will stagnate (global economic growth rate less than 2 percent is usually considered as global recession).

Table 5. Alternative Scenarios of Oil Consumption and Economic Growth
(Economic growth rates consistent with stable real oil price are reported)

Standard errors are in parentheses.
**Statistically significant at 5 percent level.
***Statistically significant at 1 percent level.
Data sources: World Bank, http://databank.worldbank.org; BP, Statistical Review of World Energy 2010.

From 1998 to 2008, OECD oil consumption grew at an average annual rate of 0.1 percent. In the coming years, if OECD oil consumption stays unchanged or grows at an annual rate of 1 percent, then the OECD economies will be able to grow at 2-3 percent a year. However, if world oil production peaks and declines, and the Asian oil demand keeps rising, then the OECD countries will bear the main burden of adjustment resulting from peak oil. In that case, the OECD economies will stagnate or decline.

From 1998 to 2008, the oil consumption of the Asian and Pacific developing economies grew at an average annual rate of 4.6 percent. In the future, the Asian economies will be able to keep growing rapidly if their oil consumption grows at 4-5 percent a year. However, if the oil consumption growth rate falls below 3 percent, the Asian economies may suffer a significant slowdown.


Peak Oil and the Global Imbalances

Peak oil will have significant impact on the future evolution of the global imbalances. Currently, both the world's trade surpluses and reserve assets are concentrated in the East Asian economies. The Asian economies have more or less tied their currencies to the US dollar to maintain export competitiveness. As a result, they have accumulated their reserve assets primarily in the form of US dollar assets. The Asian economies' currency interventions have sent capital flows back to the US, helping to finance the US current account deficits. This was a crucial mechanism that had allowed the US to function as the world's borrower of last resort up to the Great Recession.

As oil price surges in the future and the Asian oil demand continues to increase, global trade surpluses are likely to shift away from the Asian manufacturing exporting economies and towards the oil exporters. Unlike the Asian economies, the oil exporters are likely to have little or no incentive to keep their currencies tied to the US dollar to stimulate exports. Instead, they may have greater incentive to diversify their reserve assets. This will make the management of global imbalances much more complicated and potentially highly unstable.

Peak oil is likely to accelerate China's transition from a net exporter into a net importer. As the advanced capitalist economies are likely to bear the main burden of adjustment, the coming peak oil crisis will further depress China's main export markets. China currently consumes about 9 million barrels of oil a day. This could rise to 20 million barrels of oil a day by 2020, implying an import demand of 15 million barrels of oil a day. If oil price stays around 100 dollars a barrel, then China's oil import bill will rise to 550 billion dollars. If oil price rises to 200 dollars a barrel, then China's oil import bill will become 1.1 trillion dollars. This will certainly more than offset any plausible manufacturing trade surplus China is likely to run by the end of the decade.

It has been argued that for the global capitalist economy to function well, it needs to have either a lender of last resort or a borrower of last resort. If the Chinese economy keeps growing rapidly and China starts to run large trade deficits after about 2020, is it conceivable that China could become the leading stabilizer of the global economy by acting as the world's borrower of last resort?

In the 1990s and the early 2000s, the US was able to function as the world's borrower of last resort because the US dollar had been established for many decades as the world's leading reserve currency. The US had developed financial markets and institutions that were far larger, deeper, and more sophisticated than those in the rest of the world. Because of these advantages, as the Asian economies pursued export-led growth, they tended to keep their reserve assets in the form of US dollar assets. The accumulation of dollar assets in turn discouraged the Asian economies from diversifying away from the dollar due to concern over capital losses. The US, being the world's unchallenged military super power, had a geopolitical clout that probably had a significant influence on many economies' currency and reserve accumulation decisions.

In the coming one or two decades, it is highly unlikely for China to develop its financial markets and institutions to a level that could match the US markets and institutions. It is not even clear whether the Chinese currency could become a significant reserve currency, let alone the leading reserve currency. It is also highly unlikely for China to match the US geopolitical clout.

As the global trade surpluses shift away from China and the rest of Asia and towards the oil exporters, there will be little incentive for the oil exporters to tie their currencies to any particular currency. Thus, China cannot count on the accumulation of official foreign exchange reserves in the form of the Chinese currency by the rest of the world to finance its future trade deficits.

China's trade deficits will have to be primarily financed by drawing down China's own foreign exchange reserves or private capital inflows. China's own foreign exchange reserves are limited and eventually will be depleted. Private capital inflows are inherently unstable and carry the significant risk of financial crisis. Therefore, China will have to face balance of payment constraints.

If the Chinese economy grows more rapidly than the rest of the world, it is likely to lead to increasingly larger trade deficits which cannot be sustained and could trigger a balance of payment crisis. Alternatively, if China attempts to keep its trade balance stable, it may have to accept much lower growth rates and in that case China will be unable to function effectively as the world's borrower or last resort.

As the US economic and geopolitical decline continues, the US is also likely to face balance of payment constraints in the coming years. Thus, after about 2020, both of the world's two largest economies will lose the capacity to function either as the world's lender of last resort or the world's borrower of last resort. This will leave the neoliberal global economy in a fundamentally unstable condition. The unrestrained competition between national capitalist economies could generate powerful pressures towards global race to the bottom in terms of effective demand. Without powerful counter tendencies, it is difficult to see how the neoliberal global economy can be sustained.

Minqi Li is Assistant Professor of Economics at the University of Utah. His publications include The Rise of China and the Demise of the Capitalist World-Economy.

Endnotes

1. This asymmetry between surplus and deficit countries was first theorized by John Maynard Keynes. For a recent paper discussing the relationship between the surplus-deficit asymmetry and global imbalances, see Jan Kregel, 'An Alternative Perspective on Global Imbalances and International Reserve Currencies', The Levy Economics Institute of Bard College, Public Policy Brief, No.116., 2010.
http://www.levyinstitute.org/pubs/ppb_116.pdf

2. This approach of analyzing capitalist profit was first proposed by Michael Kalecki, and was used by Hyman Minsky in analyzing the capitalist macroeconomic relations. See Hyman Minsky, Stabilizing an Unstable Economy (New York: McGraw Hill, 2008), 160-171.

3. Barry Eichengreen, Global Imbalances and the Lessons of Bretton Woods (Cambridge, Mass.: The MIT Press, 2007), 12-13.

4. On how neoliberal globalization led to a global race to the bottom in term of wages and taxes, see James Crotty, Gerald Epstein, and Patrica Kelly, 'Multinational Corporations in the Neo-liberal Regime', in Dean Baker, Gerald Epstein, and Robert Pollin, eds., Globalization and Progressive Economic Policy (Cambridge: Cambridge University Press, 1998), 117-143.

5. On the devastating impact of the neoliberal policies on people's living standards in the former socialist countries and developing countries, see Michel Chossudovsky, The Globalization of Poverty: Impacts of IMF and World Bank Reforms (London and New Jersey: Zed Books Ltd, 1998).

6. David Felix, 'Why International Capital Mobility Should Be Curbed, and How It Could Be Done', Conference paper prepared for Financialization of the Global Economy, December 7-8, 2001.
http://www.peri.umass.edu/fileadmin/pdf/financial/fin_Felix.pdf

7. Dimitri B. Papadimtriou, Greg Hannsgen, and Gennaro Zezza, 'Sustaining Recovery: Medium-Term Prospects and Policies for the U.S. Economy', The Levy Economics Institute of Bard College, Strategic Analysis, December 2009.
http://www.levyinstitute.org/pubs/sa_dec_09.pdf

8. The long-equilibrium debt-GDP ratio is determined by the ratio of the deficit-to-GDP ratio over the growth rate of GDP, assuming the deficit-to-GDP ratio and the economic growth rate are held indefinitely.

9. On the Chinese economy's dependence on foreign technology, see Martin Hart-Landsberg, 'The Chinese Reform Experience: A Critical Assessment', Review of Radical Political Economics, published online before print, September 28, 2010.
http://rrp.sagepub.com/content/early/2010/09/24/0486613410383954.abstract

10. The energy data are from BP, Statistical Review of World Energy 2010.
http://www.bp.com/productlanding.do?categoryId=6929&contentId=7044622

11. On the evidence that the world oil production is likely to peak in the near future, see Robert L. Hirsch, Roger H. Bezdek, and Robert M. Wendling, The Impending World Energy Mess: What It Is and What It Means to You (Burlington, Ontario: Apogee Prime, 2010) , 29-74.

12. Chris Skrebowski, 'Peak Oil Update', presentation at the 2010 Peak Oil Conference by ASPO-USA, October 8, 2010.
http://www.aspousa.org/2010presentationfiles/10-8-2010_aspousa_PeakOilPicture_Skrebowski_C.pdf

13. For readers not familiar with econometrics, the regressions results presented in Table 3 mean the following: for the period 1980-2009, for the world economy, the OECD economies, and the Asian and Pacific developing economies, the trend economic growth rate was 3.1, 2.5, and 7.1 percent respectively; and for each ten dollar increase in oil price, world economic growth rate would fall by 0.7 percent, OECD economic growth rate would fall by 1.4 percent, but the Asian and pacific economic growth rate would increase by 0.1 percent.

14. For readers not familiar with econometrics, the regressions results presented in Table 4 mean the following: for the period 1980-2009, for the world economy, the OECD economies, and the Asian and Pacific developing economies, the "autonomous" oil consumption growth rate (the part of oil consumption that is independent of economic growth and oil price) was -1.3, -1.1, and 0.4 percent respectively; for each ten dollar increase in oil price, oil consumption would fall by 0.9, 1.6, and 1.6 percent respectively; and for each one percentage point increase in economic growth rate, oil consumption would increase by 0.7, 0.6, and 0.6 percent respectively.

15. For example, for world oil consumption, the regression results presented in Table 4 lead to the following formula: Oil consumption growth rate = -0.013 – 0.009 * change in oil price + 0.722 * economic growth rate. If change in oil price is set to be zero, then an oil consumption growth rate of -1 percent implies a world economic growth rate of 0.4 percent or an oil consumption growth rate of 1 percent implies a world economic growth rate of 3.2 percent.

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