by Simon Johnson, Peterson Institute for International Economics
Op-ed in Forbes
November 17, 2008
The G-20 summit on Saturday has received favorable press reviews. Countercyclical fiscal policy was mentioned in favorable terms, more resources for the International Monetary Fund (IMF) were discussed, and an extensive work plan for regulators was specified in some detail.
None of this was really new and most of it could have been arranged without a summit involving heads of government. Still, there was some valuable symbolism in having leaders from emerging markets at the same table as leaders from industrialized countries—apparently for the first time ever on these issues.
And it is possible that the rather vague discussion of fiscal stimulus could provide political cover for various countries to increase spending or cut taxes in the weeks ahead. It is striking that the Europeans—particularly the French—wanted this summit to convene at short notice, but did not end up putting significant immediate macroeconomic measures on the table.
Ironically, China now leads the pack in terms of putting in place an appropriate fiscal stimulus, and is currently the only major country to heed the IMF's call for coordinated global fiscal expansion. For years, China has been told that its economic policies need to support domestic demand and enable the economy to switch away from exports, and they have made a substantial and sensible step in the right direction. Unfortunately, once you sort through how much more China can actually spend in the near term, and take into account that, at market exchange rates, China's economy is only around 6 percent of world GDP, the effect on global growth will be small. Too bad countries like Germany, the United Kingdom, and the United States (under the Bush administration) are signaling that their fiscal response will be somewhere between small and negligible.
At the next summit, in April 2009, we can reasonably expect that Mr. Obama will be fresh from signing a large fiscal package. If the Europeans really have done nothing more on fiscal policy by then—and if the eurozone still has relatively high interest rates—the conversation may be rather more awkward for them.
In terms of providing more funding for the IMF, the $100 billion offered by Japan earlier in the week was most helpful. This roughly doubled the ready resources that the IMF can lend, and removes some short-term worries. But the IMF is indicating more borrowers will appear soon, and the summit failed to produce a more general set of commitments. Additional money for the IMF can be provided in an ad hoc and bilateral manner, but the deeper problem remains—the IMF's resources are now too small and probably need to be increased about ten times for the organization to play a proper stabilizing role.
The main business of the summit, focusing on the regulatory agenda, is also being interpreted positively by some. In his post-summit press conference, Mr. Sarkozy proclaimed triumph—he had brought the United States to the table and forced them to sign up to an extensive global regulatory agenda. There is a strong sense that, taking advantage of an administration rapidly running out of steam, the Europeans got what they came for.
But there is a potential problem lurking here. Most of the regulatory ideas are still expressed in somewhat general terms, so it is hard to be sure if they are reasonable or over-the-top. But there is no doubt that the summit's action plan includes a long list of financial-sector dimensions to be addressed, including: accounting standards, hedge funds, risk disclosures, financial-sector assessments, credit-rating agencies, risk management and stress-testing models, international-standard setters, sanctions for misconduct, reporting to supervisors in different countries, and more. And this clamp down is to happen—or substantial progress is to be made in that direction—by the next summit in five months. Given the time lags involved, this essentially instructs officials to tighten scrutiny of banks and other lenders immediately.
The communiqué repeats the mantra that there should not be procyclical regulatory policy, i.e., that one should not tighten regulations during a credit crunch, because that just leads to further falls in credit. But its admonition on this point is general and couched as a task for the IMF and Financial Stability Forum (FSF), although neither has direct control over regulators.
Most of the impact from any communiqué comes from its specific instructions for officials. The message from this G-20 summit is clear: We must take immediate steps that will prevent the next boom from getting out of hand. But even if these are reasonable objectives, we are now far from worrying about a reckless boom. Slamming the brakes on financial institutions—through precipitate tightening of regulation—is a bad idea when the world economy is tumbling into deep recession.
Simon Johnson is a senior fellow at the Peterson Institute for International Economics and a professor at MIT.
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