The communiqué is completely silent on global imbalances and exchange rate misalignments. These are seen by some, along with the monumental regulatory mistakes in the financial sector, to be the fundamental causes of the present crisis. The Chinese will also be happy at the possibility of Chinese leadership in either of the two Bretton Woods institutions when these positions come up for being filled next time round.
The London Summit in that sense can be seen as the rites of transition for China to emerge as a major player on the global scene. The Chinese media has gone to great lengths to show the US and China working together to help achieve common ground and bring about convergence.
The London Summit has thus been about the emergence of the G2, as the new power relationship between the US and China will be the most influential factor in global issues in the coming period. This reflects ground realities as well as the fact that a successful recovery from the current recession is contingent upon the US and China meeting their respective challenges successfully.
The unfreezing of credit flows in the US will happen only when all toxic assets in the US banking system have been fully identified and taken off the banks’ balance sheets. This is at the heart of the recently announced Tim Geithner plan.
Second, the unprecedented slow-down in the US consumption demand has to be compensated by a similar rise in domestic demand in China. This will allow the Chinese to switch their production capacities to cater to domestic demand. The success of these plans is far from guaranteed.
Can the US banks fully identify their toxic assets when these continue to rise either because of housing foreclosures or worsening state of consumer credit? Moreover, the Geithner plan could well flounder in its attempt to use private bidders for making the price discovery for toxic assets rather than simply quickly have nationalized the banks. The Chinese effort to switch production to meet domestic demand may run into problems of the needed absorptive capacities at level of the provinces and counties who have so far encouraged savings.
Moreover, transactions costs of supplying to domestic markets can be significantly higher than servicing foreign export markets. Thus, China could find it difficult it to achieve the seamless transition from its extreme export orientation to domestic demand-led growth. The rest of the world will do well to figure out the fall back options in case one or both of these challenges proves more intractable than presently envisaged.
Apart from the emergence of the G2 on the world scene, the other tangible result from the London summit has been the phoenix-like rise of the IMF. This has happened through a trebling of its resources to $750 billion and the communiqué stating that it will be responsible along with the Financial Stability Board for developing an early warning system and as a provider of emergency financing for beleaguered economies.
It was not that long ago that the principal task of the then newly appointed managing director was to prune staff and somehow keep the Fund afloat financially. But it is not clear how the Fund has restructured its capacities and redesigned its diagnostic tools for it to play a more effective role than in the past, in pulling individual economies out of the crisis.
I have not so far seen any evidence of the Fund having drawn some lessons from the current crisis and made a self appraisal that shows that it is now better prepared both analytically and institutionally to handle the present or future crisis. Throwing money at the crisis may be a necessary but certainly not a sufficient condition for engendering a sustained recovery.
For me this has been perhaps the greatest weakness of the G20 process so far. The leaders, for reasons best known to them, have chosen not to ask for a complete overhaul or restructuring of existing institutions or given them new mandates or fresh instruments with which to tackle the challenges that they are and will be faced with. This surely implies that we will continue to treat the present crisis and others to follow, simply as repetition of past episodes and therefore apply the same worn out methods to handle them.
One would have thought that a crisis of this magnitude at the very center of global capitalism would have goaded the leaders to look for fresh ideas and insights. Instead we have ended up with three times the old wine in the same old bottles. The beltway bureaucracy, which Obama professes to fight, wins yet again!
This article originally appeared in India’s Financial Chronicle on 16 April, 2009, and can be found here.
This is a sober analysis of the G20 meeting and should be commended, though many people may feel either uncomfortable or offended. If some people including those with vested interests are unable to face the reality rationally and still like to spin around and to rap them in glory irrespective their real success or failure, and are unhappy with a somewhat truer description, let it be. History will move forward and leave those unwilling to move behind.
A few comments on some points in the article.
The two mentioned clear winners, IMF and China, and G2. As the author suggested, it reflected both reality and compromises. China, the world third largest economy and a leader of emerging economies, still with a respectful, though much lower than otherwise, growth prospect, along with other emerging economies, will prove a real hope and much needed stimulus to possible and doubtful speedy world recovery. The emergence of China reflects the beginning of the rise of not only China but the emerging economies as a whole, with China as a representative of the group. An implication of this is that any new arrangement of world economic governance has to take this group into account to be meaningful.
The boost of funding to IMF is a welcome step, but it is likely to be a temporary gap-filling measure. It reflected a compromise based on the uncomfortable, current reality. The existing main world economic governing institutions are largely a product of the post war era with some changes like moving away from the golden standard. It reflected the dominance of the US as the world economic powerhouse and its main allies of the west half of Europe. Although the US is undoubtedly still world largest economy, its role in the expansion of the world economy has changed significantly and irreversibly (only in some aspects for this), such as from a credit country to a debt, its declining shares in world economy and its growth. The world is at a crossroad with a need to reform its governance, economic chiefly. But it may be uncomfortably and unsubtly diplomatic for new comers to the table to ask themselves very directly for greater responsibility without the willingness of existing leaders. It was much easier to prop up the role of still dominated by old powers but somewhat more neutral organisations such as the IMF as an alternative. This gave rise to the boost of IMF funding. But as the author asked, has the IMF done a good job in detecting or preventing crisis in the last two decades or so? And will it be suddenly capable of changing its way and doing a good job? Probably no one knows. That is why it was a temporary compromise, but a good one perhaps. Hope IMF will not disappoint its limited time left in its current form.
G2, as I said, is a reflection of the current reality. One is the leader of old powers and the other a leader of emerging economies. The shift of the relative strengths is likely to have a long term implications for global economic affairs. Let’s hope that the development over the coming decades well after the current crisis will be a good one and benefit all members, at the table or not.
Now the author’s disappointment about the greatest weakness of the G20 meeting. First the existing world governing bodies are unlikely to be capable to lift the world out of the current recession, even though IMF will have much more funding power. They are not designed for this big but a much smaller role. Hence it would be unrealistic to hope them to play such roles. Just think that IMF funding, though respectful, is far from what might be needed were the world in a prolonged recession. More countries would be likely to be in trouble and in need of funding, not to mention those countries that may be able to fund themselves albeit with unwelcome large deficit with long term budgetary and economic consequences. As a result, it was not too bad and probably a good outcome of the meeting that they have not been mandated with new roles, especially considering their past performances.
Fresh ideas, they are definitely and badly needed. This does not necessarily need to be related to the world economic governing institutions. Yes, there is a need to reform them or establish new ones for better effectiveness in detecting, warning and preventing possible problems and under some circumstances to deal with them. But it is the more pressing issue to lift the world out of the current abyss that would require more urgent attentions and fresh ideas to deal with. In this respect, the world needs to extend existing Keynesian approach. The US, UK, and possibly some other European countries, need to fix the problems with their banks in a clever way. The key is to restore credit flows to normal levels with as little costs as possible. Some conventional rules or regulations may need relaxed temporarily to accommodate achieving this, before they are strengthened to prevent possible future similar problems. Some countries, mainly the US, need to fix other related problems, such as problematic mortgages and foreclosures. Some of these problems are temporary in nature and could be solved if circumstances change. For example, when people have suddenly lost their jobs they may face mortgage problems now. But if the recovery is underway and they go back to work again, those problems may go away. They need to temporary reliefs. But there are risks that some among them may not be able to find jobs even when the economy is fully recovered and some foreclosures will be inevitable. It will be a difficult job to identify who are likely to be in which category. But aggregately, there can be a rationale for the government to step in do something about some of the problems.
Other countries and including the US may need other fiscal and monetary measures to boost demand and lower financing costs. Most have taken measures already. Although it is preferable for these actions to be coordinated and done simultaneous, countries have different circumstances and it is difficult to have a common standard, like a fixed ratio to GDP. That would be unproductive and unhelpful and costly for the world as a whole with a differential impact. So coordinated actions but differential measures with different magnitudes will be the right approach. This point, I think was one of the main reasons that G20 members had different views and priorities for that meeting. Of course, there were other politics too.
It will not be easy to get the world out of the current quasi depressional recession very speedily, but at the same time by no means it has to continue to be a prolonged recession and be very costly to do that. I concur with the author that the leaders need to look for fresh ideas and insights. It is also time for bearcats to fulfil their roles, even though it might mean everyone has to learn new ways of doing their business. Let’s hope that will happen soon and world welfares will be enhanced as a result.
From my perspective, Mr. Kumar underestimates the ability of the IMF to evaluate its shortcomings and take meaningful steps to overcome them. I challenge him to find another international organization that approaches the IMF in this regard. My appreciation of this aspect of the IMF, however, should not be viewed a blanket approval of all the IMF does. Far from it, as I have spelled out in a Brookings Policy Brief last fall: http://www.brookings.edu/papers/2008/10_global_governance_rieffel.aspx
Also, quite a few of the perceived shortcomings of the IMF are really the result of constraints or requirements emanating from its major shareholders despite the objections of the staff and management. Finally, Mr. Kumar seems totally unrealistic about what the Obama Administration is able to do sensibly. Not even half of the new foreign policy/financial policy team has been confirmed by the Senate. Rushing to judgement prematurely will benefit no one.