Provided it stays within reasonable bounds, financial de-globalization may make the system safer without unduly harming economic growth. But is that, together with initiatives such as the G20’s MAP, the FSB’s peer reviews and Basel III, the best we can hope for? Is there no way to strengthen international institutions commensurately with the challenges of the world financial system, as Soros, the Palais-Royal group and others have dreamed? What would it take to achieve such an objective?
Having expressed so much dissatisfaction with the status quo, I am obliged to end this book with proposals of my own. In the same spirit that Keynes acknowledged his Bretton Woods proposals might be too “complicated and novel and perhaps Utopian,” I harbour no fantasies about the political practicality of what follows.
Taking a Leaf From The WTO
The place to start is a list, akin to the Ten Commandments, of “thou shalt nots,” which international institutions would hand down to countries specifying actions that, if taken, could adversely affect other countries or the overall global financial system. Conveniently, the IMF recently produced a serviceable list, in its decision on surveillance, issued in mid-July 2012, which replaced the 2007 decision. Its jargon-filled prose bears no resemblance to the simplicity of the tablets Moses brought down from Mount Sinai. But by spelling out what the Fund will focus on as it scans both the world economy and individual national economies for trouble, the new decision “encourages countries to be mindful of the impact of their policies on global stability.”29
29 See IMF (2013), “Factsheet: Integrated Surveillance Decision,” March 15, available at: www.imf.org/external/np/exr/facts/isd.htm.
As before, countries should “avoid manipulating exchange rates...to gain an unfair competitive advantage,” and beyond that, they should “avoid domestic economic and financial policies that give rise to domestic instability,” as well as “exchange rate policies that result in balance of payments instability.” Other frowned-upon practices include “fundamental exchange rate misalignment,” “large and prolonged current account deficits or surpluses,” “large external sector vulnerabilities...arising from private capital flows,” “official or quasi-official borrowing that...is unsustainable,” “excessive and prolonged...accumulation of foreign assets, for balance of payments purposes,” and “protracted large-scale intervention in one direction in the exchange market.”
One major virtue of this list is that it’s symmetrical. The “thou shalt nots” apply to practices by both surplus and deficit countries, peggers and floaters, that have fuelled crises in the past and could easily do so again.
But when it comes to preventing countries from doing those things, the Fund’s capacity looks as feeble as ever — yet another illustration of international institutions’ impotence. The decision is careful to state that “no new obligations are created for members.” It envisions the possibility of “discussions” and, if necessary, “ad hoc consultations” between the managing director and the authorities in countries where the specified practices arise. It also authorizes the managing director to organize a multilateral consultation when an issue arises that “requires collaboration” among a number of countries. Although dismissing this initiative as pointless would be far too cynical, the odds that the Fund could use these procedures to effect significant change in one or more major economies should strike any reader of chapters 4 and 5 as fanciful.
The next step, therefore, is to devise a way of overcoming the potency deficiency that plagues the Fund and other international institutions. For that, the Fund needs two things it currently lacks: enforcement power, and sufficient credibility and neutrality to umpire effectively, especially in the debate over global imbalances and currency policy. The one solution that would endow the Fund with those capacities would entail a radical change in its modus operandi — adoption of a dispute settlement system resembling that used by the WTO, with independent tribunals rendering judgments on matters of contention about international macroeconomic policy.
The IMF can’t use tribunals for major decisions such as whether to extend emergency aid during a crisis; nothing that extreme is being advocated here. The Fund could, however, establish tribunals solely for the purpose of deciding when countries are violating the terms of its new surveillance decision — in other words, when their policies pose a major risk of fomenting “global instability.” If governments could feel reasonably confident that their policies — and those of others — would be judged by neutral parties according to objective criteria, perhaps they would be more willing to submit to such judgments.
Under such a system, the United States could, for example, lodge a complaint against China for its currency policy if Beijing reverts to a cheap RMB approach, and China could lodge a complaint against the United States for its unsustainable borrowing and consumption. The rules would be symmetrical, but the “judge and jury” would not be the IMF executive board or IMF management. Instead, it would be a group of experts from other countries, whose impartiality and professional credentials would be as close to being above reproach as possible. The board could retain the right to overturn a panel’s decision, of course, so as to avoid handing matters over to unelected and unaccountable technocrats.
In cases where a tribunal finds a country “guilty” of fomenting instability, enforcement of that decision could come in the form of sanctions against the offender, although these would vary depending on the nature of the offence. A country with a large current account surplus and heavily undervalued currency could face the prospect that its trading partners would raise tariffs on some of its products. Imposing similar punishment on a country with a large current account deficit would make little sense, since doing so would only aggravate the deficit. Rather, the country would have to accept some other penalty — and perhaps the most sensible one would be a surcharge on the capital requirements for its banks, since its policies would presumably be increasing the risk of a financial crisis.
Handing these decisions over to panels that are under WTO auspices would, in my view, be a mistake. Others have proposed having the IMF work jointly with the WTO on disputes over foreign exchange rates, which makes some sense given that deliberate cheapening of a currency can be tantamount to protectionism. But the policies I believe should be subject to this new mechanism are much broader — and much further from the WTO’s core competency — than just those affecting foreign exchange rates. They may include fiscal policy and monetary policy; they are, in short, the sorts of policies that Mark Allen and his allies believed should be subject to IMF surveillance for purposes of symmetry. Admittedly, finding expert consensus on macroeconomic issues of this kind may be considerably more difficult than doing so on matters of trade law. But they are surely better left to independent panels than to the IMF management and board.
This proposal would be a very tough sell in many capitals — nowhere more so than Washington. Although US policy makers may be somewhat more humble after the financial crisis than before, they would hardly welcome the prospect of submitting American economic policy to the judgment of an international regime with sanction powers.
But one way or another, the United States is going to have to deal with the implications of its reduced economic clout. The global rebalancing needed to help sustain US economic growth will entail robust multilateral cooperation, which is unlikely to materialize in the absence of ambitious rules, tough surveillance and the threat of enforcement. For the American body politic, adjusting to this new reality will take considerable acclimation. Hopefully, political leaders can help the public understand the national interests that are at stake.
Aside from the political obstacles, the approach proposed here has many practical limitations. WTO-type tribunals can’t be used to discourage countries from taking actions during crises that may protect narrow national interests at the expense of global stability; there isn’t enough time. And while the use of tribunals could help overcome the impotency problem of institutions like the IMF, that sti
ll leaves the other fundamental infirmity cited above, namely institutions’ lack of acuity over how crises are likely to arise. A small panel of independent experts can’t be expected to perform any better in this regard than groups of officials from around the world. There is some appeal to the idea of giving such tribunals the power to make broad judgments about whether a country may be allowing a bubble to develop in its financial markets, instead of leaving such issues to FSB peer reviews. I confess to having once proposed such a scheme,30 but upon reflection I have come to recognize it as unwise. Given that the FSF, CGFS and IMF were all so oblivious to impending disaster in 2006-2007, there would probably be little value in second-guessing them with small, specially designated panels, and one obvious pitfall is that the panel members would be so fearful of looking foolish that they would invariably err on the side of sounding loud alarms.
30 See Paul Blustein (2012), How Global Watchdogs Missed a World of Trouble, CIGI Papers No. 5, July, Waterloo, Canada: CIGI.
This is not to say that approaches of this kind have no place in international financial regulation. Eric Helleiner, perhaps the world’s foremost academic authority on the FSB, has suggested giving it hard-law powers, with the ability to enforce a few broad rules. This would presumably entail other governance reforms that would bestow the FSB with legitimacy and corporate identity, including opening membership to all countries, with a constituency system for national representation like that used on the IMF board. If the FSB is to enforce rules, WTO-like tribunals would help instill the judgments with objectivity. One possible issue that tribunals could render judgments on is the imposition of countercyclical capital charges on banks. The Basel Committee left it up to individual governments to decide if and when their banks should maintain extra capital; it would be better to remove such decisions as far as possible from political considerations.
One last reform is in order, in light of the FSF’s Amsterdam episode and the other harrowing events of fall 2008: starting with Carney’s successor, the FSB should choose a full-time chairman, or at least one who can put all other duties aside during a crisis. To help minimize the risk that countries will take measures detrimental to global stability, and improve communication so as to reduce the chance of misunderstandings and unnecessary suspicion, the world needs strong and credible actors who are working solely in the interest of globally optimal outcomes. As good as Carney may be, his new role as governor of the Bank of England could dramatically increase the chances that he would be distracted during an international crisis by his central bank responsibilities. Moreover, if Britain’s national interests were in conflict with those of other nations, his impartiality would obviously come into question, undermining his effectiveness. Even a person of great stature, unencumbered by national loyalties, may be unable to prevent sovereign governments from acting in ways harmful to others amid turmoil and panic. But such a person might make a big difference, and the FSB’s top spot is the logical post.31
31 A similar proposal was advanced by a distinguished group of experts. See High-Level Panel on Governance of the Financial Stability Board (2011), “Recommendations from the High-Level Panel on the Governance of the Financial Stability Board,” Brookings Institution, September, available at: www.brookings.edu/~/media/research/files/opinions/2011/9/23%20fsb%20recommendations%20lombardi/recommendations_final.pdf. For an insightful analysis of various proposals to reform FSB governance, see the paper that accompanied those recommendations, Domenico Lombardi (2011), “The Governance of the Financial Stability Board,” Brookings Institution, September 23, available at: www.brookings.edu/research/papers/2011/09/23-financial-stability-board-lombardi.
In Closing, No Illusions
Objections to the policy recommendations above are easy to imagine, and I doubt I will be able to rebut all of them. My proposals offer no substitute for actions that major governments must take on their own — notably in the United States and the euro zone, where enormous challenges still loom that, if ineptly handled, could destabilize the global economy anew.
The policy recommendations are, in any case, the least important part of this book, much less so than the historical narratives about the IMF and FSF. The proposal for WTO-type tribunals is not within the realm of serious possibility; modestly enhancing the G20’s current cooperative approach may well be the only practical route to success. My main purpose in offering drastic solutions is to make the point that unless something of that nature is adopted, optimism is hard to justify.
The G20, IMF and FSB have full and urgent agendas, so it may be wise to leave their essential structures alone. Distracting them with plans to establish enforceable rules might be counterproductive. There is a compelling case against letting the perfect be the enemy of the good.
This depends, though, on the meaning of “good.” Striving for perfection in the international institutions overseeing the global financial system may be a bad idea, but so is entertaining delusions about their adequacy. Governing a world of globalized capital requires formidable institutions. The historical narratives on the IMF and FSF presented in this book delve at such length into their failings in order to shed light, in ways simple explications cannot, on how far the world has to go.
Much of the world’s ability to mitigate the consequences of its periodic financial crises depends on the capacity of its multilateral institutions to bridge the gap between the sovereignty of nations and the inevitable globalization of their economies. Paul Blustein’s extensive experience and his ability to explain the complex in human terms drives this point home in no uncertain terms.
The Right Honourable Paul Martin, former Prime Minister of Canada
Who knew that a detailed account of the regulation of global finance could actually be...spellbinding. Only Paul Blustein — journalist, forensic economist and financial detective extraordinaire — could have possibly written it. The new revelations based on confidential documents alone are well worth the price of entry, although there is much more for the specialist and general reader alike. Highly recommended.
Barry Eichengreen, George C. Pardee and Helen N. Pardee Professor of Economics and Professor of Political Science at the University of California, Berkeley
Blustein combines the journalist’s storytelling skills with the historian’s perspective to relate a story that is still being played out in the G7, G20 and the Bank for International Settlements, as well as in the IMF and the FSB. His conclusion is sobering: despite the failings demonstrated before and during the 2008 crisis, the current judgment is “mission unaccomplished.”
Stephen Grenville, Visiting Fellow, Lowy Institute for International Policy and former Deputy Governor and board member, the Reserve Bank of Australia
Award-winning journalist and author Paul Blustein has received wide acclaim for his books about the inner workings of international economic institutions, notably the International Monetary Fund and World Trade Organization. In Off Balance, he weaves a compelling narrative detailing the failings of such institutions in the global financial crisis that erupted in 2008. Based on interviews with scores of policy makers and on thousands of pages of confidential documents to which Blustein obtained exclusive access, the book focusses mainly on the IMF and the Financial Stability Forum in the run-up to and early months of the crisis. Blustein exposes serious weaknesses in these and other institutions, which lead to dispiriting conclusions about the governability of the global economy.
Paul Blustein, a CIGI senior fellow, is a former staff writer for The Washington Post and The Wall Street Journal, and nonresident fellow at The Brookings Institution.
www.cigionline.org
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