From global imbalances to global reorganizations: towards a more stable & equitable IFS Robert Wade LSE Sep 09
The current world situation • Sep 08 – Mar 09 = panic stage: talk of 2 nd Great Depression • Now clear: no 2 nd Grt Depression • Also clear: return to ”normal” growth & high empt will take long time in West. Dev’ing c’ies – many face ”new development crisis” (NDC) • Goals for global policy community: define (a) shape of new economic world, (b) means of achieving. DIIS conference
GROUNDS FOR PESSIMISM • Conference prospectus says there is now ”a determination to cooperate interationally & to take bold measures” to reassert public authority in global finance. • Who are the ”agents” of bold measures? • G 20 F has been almost silent on financial reforms. •
GRNDS FOR PESSIMISM • Financial Stability Board (FSB) – no reason to think it will become effective global regulator. • Same modus operandi as predecessor, FSF. • Staff of only 9 = no independent analytical capacity. • Dependent on views of member states
GROUNDS FOR PESSIMISM • UN Commission on the World Financial and Economic Crisis (= Stiglitz Commission) • Came up with radical ideas • US and other G 7 eviscerated it almost completely before approving as UN document
CONCLUSION ON INTERNATIONAL COOPERATION • Not much sign of major states being willing to cooperate to push real reforms. • US and UK especially resistant • G 20 F and G 20 L have achieved little consensus beyond platitudes • FSB unlikely to be effective global regulator • UN marginal • However, grounds for optimism in regional arrangements
GROUNDS FOR OPTIMISM • Debate about reform of IFIs has to rest on understanding of how financial mkts work, & causes of fin crises in gen & GFC in particular • 2 new lines of argt abt fin crises: (1) micro theory of momentum trading, based on assumption of rationality; (2) macro theory of global imbalances. • They have implications for mandate & scope of IFIs.
DRIVERS OF FINANCIAL INSTABILITY: MICRO STORY • The efficient-mkt hypothsis (EMH). No momentum trading (bubbles & trubbles) • Bernanke: house price increases “largely reflect strong economic fundamentals” (2005) • Greenspan • EMH underpins IMF’s objective: “restore confidence of financial mkts” • Recent criticisms of EMH assume investor irrationality
MICRO STORY: RATIONAL MOMENTUM TRADING • New theory shows how rational individual endinvestors can produce collective irrationality (inefficiency, momentum trading, fragility) • Key: (a) information gap b/w end-investors & their agents (fund managers, brokers, company directors); (b) employment contract of agents. • Implication: IMF wrong to presume that financial mkts make correct judgements about countries & their policies, & hence that its job is to restore “confidence” of fin mkts.
DRIVERS OF FINANCIAL FRAGILITY: MACRO STORY • Many commentators ignore or deny role of global imbalances. • GFC results fr confluence of (a) micro failures of fin mkts, and (b) macro global imbalances & their associated capital flows. Two blades of scissors. • The global economic growth model of past decade: US consumers are main source of enddemand; debt is main way consumers finance consumption.
MACRO STORY • US deficits, US borrowing from surplus countries, growth of creditor-debtor relations around the world increasing fin fragility. • External deficit implies capital inflows and “currency recycling”; currency recycling implies “credit recycling”, in form of fiscal deficit or borrowing by households & firms. • The GFC caused by rupture in credit recycling, not in currency recyling.
CONCLUSIONS FROM THE MICRO-MACRO STORY • The ”globalization” growth model was flawed. Depended on rising US indebtedness. • Flexible exchange rates do not curb imbalances • Export-led growth model unviable. Need more emphasis on domestic demand.
WHAT SHOULD BE DONE? • Key: (1) establish ways to curb external surpluses & deficits; (2) develop a global currency. • International Clearing Union. • Multilateral coordination of exchange rates, so as to stabilize real exchange rates. • Capital account management (CAM)
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