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Farewell to cheap capital? The implications of long-term shifts in global investment and saving

By Richard Dobbs, Susan Lund, Charles Roxburgh, James Manyika, Alex Kim, Andreas Schreiner, Riccardo Boin, Rohit Chopra, Sebastian Jauch, Hyun Kim, Megan McDonald, John Piotrowski
Farewell to cheap capital? The implications of long-term shifts in global investment and saving

By 2020, half of the world's saving and investment will take place in emerging markets, and there will be a substantial gap between global investment demand and the world's likely saving.

The recent bursting of the global credit bubble followed three decades in which capital became progressively cheaper and more easily available. Many people have come to believe that low interest-rates now are the norm. But MGI analysis suggests that this low-interest rate environment is likely to end in the coming years.

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Increasing investment in emerging markets will put upward pressure on interest rates
MGI's Richard Dobbs and Susan Lund discuss how businesses and policy makers will have to adapt to a world of more costly and less plentiful capital.

MGI finds that the long-term trends in global saving and investment that contributed to low rates in the past will reverse in the decades ahead. The primary reason is that developing economies are embarking on one of the biggest building booms in history. At the same time, aging populations and China's efforts to boost domestic consumption will constrain growth in global savings. The world may therefore be entering a new era in which the desire to invest exceeds the willingness to save, pushing real interest rates up. Higher capital costs would constrain investment and ultimately slow global economic growth somewhat, but they also would benefit savers and perhaps lead to more restrained borrowing behavior than we saw during the bubble years.

Among MGI's key findings:

1.The investment rate (investment as a share of GDP) of mature economies has declined significantly since the 1970s, with investment from 1980 through 2008 totaling $20 trillion less than if the investment rate had remained stable. This substantial decline in the demand for capital is an often overlooked contributor to the three-decade-long fall in real interest rates that helped feed the global credit bubble.

2. The world is now at the start of another potentially enormous wave of capital investment, this time driven primarily by emerging markets.

3. We project that by 2020, global investment demand could reach levels not seen since the postwar rebuilding of Europe and Japan and the era of high growth in mature economies.

4. The coming investment boom will put sustained upward pressure on real interest rates unless global saving increases significantly. In most scenarios of future economic growth, our analysis of saving suggests that it will not increase enough, leaving a substantial gap between the willingness to save and the desire to invest.

5. This difference between the demand for capital to invest and the supply of savings will likely increase real long-term interest rates. That, in turn, will reduce realized investment and may prompt more saving, bringing the two into equilibrium. We do not predict how much interest rates will increase, but we find that if they were to return to their average since the early 1970s, they would rise by about 150 basis points. And real long-term rates may start moving up within five years as investors start to price this long-term structural shift.

These findings have important implications for business executives, financial institutions, consumers, investors, and government policymakers. All will have to adapt to a world in which capital is more costly and less plentiful, and in which more than half the world's saving and investment occurs in emerging markets. Business models will have to evolve, investors may develop new strategies, and government could play an important role in easing the transition.

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