by Gary Clyde Hufbauer, Peterson Institute for International Economics
Paper for conference on "Financing for Development: Regional Challenges and the Role of Regional Development Banks"
February 19, 2002
© Peterson Institute for International Economics
Devlin and Castro provide an excellent survey of regionalism, and they preview the potential role of regional banks in amplifying the economic gains from regional economic integration. The regional story, since the late-1980s, has been dominated by agreements centered on trade and investment issues. Devlin and Castro call these agreements the "New Regionalism": their inspiration and content differ greatly from agreements negotiated in the "old" Post-War period.
Agreements in the era of New Regionalism come in many flavors—bilateral, plurilateral, subregional, as well as regional. Many are South-South, but a few are North-South. The paper provides a very useful overview of the numerous agreements involving at least one developing country partner. The survey is organized by region—Africa, Asia, and Latin America. By head-count, even though trade and investment was the centerpiece, the vast majority of agreements achieved little in the way of trade or investment liberalization. Africa was especially prolific in creating paper pacts with limited economic substance. A common problem, emphasized by Devlin and Castro, is that many agreements were South-South, covering a small amount of trade, and hence not providing little incentive for the partners to engage in precedent-setting liberalization. Fortunately, the emphasis is now turning to North-South agreements.
A few agreements emerging from the era of New Regionalism dramatically liberalized trade and investment, and these few furnish models for others. Especially noteworthy, in the Western Hemisphere, were Mercosur and NAFTA. Others, while not affecting significant volumes of trade or investment, are noteworthy as templates. The Mexico-Chile agreement can be singled out.1 Devlin and Castro usefully highlight (pp. 3-4) the key objectives and ingredients of successful New Regionalism, as well as the potential downside costs (pp. 4-5). Outside the trade and investment area, New Regionalism accomplishments have been modest. Financial and monetary cooperation has gone nowhere in Africa or Latin America, but Asia is began (in May 2000) a serious conversation under the auspices of the Chiang Mai Initiative.
As Devlin and Castro emphasize, the trade and investment accords of the New Regionalism were operating against a background of multilateral trade liberalization, resulting from the Tokyo and Uruguay Rounds. In addition, many countries embarked on unilateral liberalization, especially when their tariff peaks soared above 50 percent ad valorem. In this respect, the experience of Brazil and Argentina was striking, portrayed in Figure 1 of the Devlin and Castro paper. In other dimensions of economic policy, there was a drift towards liberal reform: monetary and fiscal discipline, privatization of state-owned companies, and independent regulatory authorities. All in all, it is fair to characterize the fifteen years from 1985 to 2000 as a period of global policy liberalization, pursued more energetically in some countries and regions than others. Apart from Africa and the Muslim "stans", liberal reform was a dominant theme in the economic policy agenda. Latin America was at the forefront of developing in adopting policy reforms that came to be labeled the "Washington consensus" and "Anglo-Saxon capitalism".
Policy Reform vs. Economic Performance
Yet the two decades 1980-2000 did not on average yield better economic results for developing countries than the preceding two decades 1960-2000. Particularly disappointing was economic performance in Latin America and the Caribbean where, according to one set of critics (Weisbrot, et alia, 2000) who draw on UNDP Human Development Reports, per capita income grew 75 percent in the first period and only 6 percent in the second period.2 At the other end of the economic spectrum, per capita income in China grew by 300 percent in the second period, against 85 percent in the first period. Apart from China and its East Asian neighbors, per capita income growth among developing countries generally lagged in the second period.
Critics who follow the banner of Dani Rodrik (1999) put the blame for poor performance variously at the foot of the IMF, the World Bank, and the liberal economic agenda.3 By association, the regional development banks also number among the guilty. These critics claim the international financial institutions and official Washington go overboard in promoting a "one size fits all" agenda.4 Another set of critics, to which I belong, views lagging growth as a consequence of insufficient reform, gaps in the reform agenda, and the time required for a new economic model to bear fruit. Devlin and Castro, one suspects, also belong to this second group of critics. But we cannot be sure, since their paper does not explicitly address the debate over the "growth dividend" (or is it "growth deduction"?) emanating from regional economic integration and parallel reforms. The "dividend vs. deduction" debate exactly provides the context for the role of the regional banks—especially in Latin America. This context is what I miss in the paper by Devlin and Castro.
Gaps in the Reform Agenda
Let me elaborate. In my view, there are two major gaps in the reform agenda. The first is the regrettable correlation between the transition from autocratic state capitalism to market economics and the rise of corruption. Why the correlation? Well, privatization provides a hunting ground for insider deals; liberalization of foreign direct investment invites joint ventures with politically connected partners; and a market economy empowers numerous government officials to demand, and private firms to supply, bribes to facilitate all sorts of transactions.5 Once corruption has been institutionalized, it matures into a heavy and variable tax on capital, very discouraging to economic progress. A major gap in the reform agenda, therefore, is its failure to establish institutions that curtail the choking grasp of corruption.
A second and related gap is the general weakness of financial institutions in developing countries. Weak characteristics include: connected lending for doubtful projects; slow recognition of non-performing loans; mismatched term and currency structure of bank assets and liabilities; poor accounting standards throughout the corporate sector (as if Enron was the norm); and limited shareholder rights when it comes to voting out management. In spectacular episodes, these weaknesses combine with unsustainable exchange rate regimes and public debt dynamics to explode in financial crises. Equally damaging is the persistently high cost of dollar credit in developing countries—well above levels prevailing in the United States or Europe—partly as a consequence of lurking future crises.
Role of Regional Banks
Besides their obvious importance in building hard infrastructure to support regional economic integration (for example, the Puebla-Panama Plan), the regional banks can do a great deal more. This is particularly true in Latin America where the scope of the Inter-American Development Bank's operations coincides with the planned FTAA. It is less true in Asia (where AFTA is stalled, and ASEAN+3 is a distant prospect) and Africa (where trade and investment agreements are largely paper pacts, and basic development needs far exceed the modest resources of the African Development Bank).
Here is where I urge Devlin and Castro to strike bold notes. The regional banks, in particular the IDB, can do much to promote regional economic integration and faster growth by addressing the two gaps in the reform agenda. The regional banks can help curtail corruption by a variety of means:
The regional banks—again with emphasis on the IDB—can also help strengthen financial institutions and practices. As Rojas-Suarez (2001) argues, this does not mean slavish adherence to the capital standards formulated at Basel. Instead, the regional banks should advocate institutions and practices adapted to regional needs. The acid test will be diminished frequency of financial crises, lower interest rates across the credit-risk spectrum, and deeper financial markets measured by ratios of bank assets to GDP and capital market values to GDP. Here are a few suggestions for regional bank action:
Dobson, Wendy and Gary Hufbauer. 2000. World Capital Markets: Challenge to the G-10. Washington DC: Institute for International Economics.
Rodrik, Dani. 1999. The New Global Economy and Developing Countries: Making Openness Work. Washington DC: Overseas Development Council.
Rojas-Suarez, Liliana. 2001. "Can International Capital Standards Strengthen Banks in Emerging Markets?" Washington DC: Institute for International Economics, Working Paper Series, Number WP01-10.
Stiglitz, Joseph. 2000. "The Insider: What I Learned at the World Economic Crisis." The New Republic, April 17, 2000.
Weisbrot, Mark, Dean Baker, Robert Naiman, and Gila Neta. 2000. "Growth May be Good for the Poor—But are IMF and World Bank Policies Good for Growth?" London: Center for Economic and Policy Research (CEPR) draft, August 7, 2000.
1. In the near future, a U.S.-CACM agreement could be added to the list of successful North-South agreements. This depends on whether Washington and the Central American nations energetically pursue the suggestion thrown out by President Bush in January 2002.
2. The second period data in the Weisbrot (2000) paper refers to 1980-1998. Performance in the years 1999 and 2000 will add only a few percentage points to Latin America's cumulative two-decade growth record.
3. Weisbrot and his colleagues (2000) are prominent in this group of critics. More prominent, from the media standpoint, are various anti-globalization NGOs, such as Public Citizen, but their self-assigned role is exaggeration and misstatement, not analysis. Joseph Stiglitz (2000) is on the periphery of this group, since his criticism is directed at the short-term crisis policies of the Fund, rather than the long-term success or failure of policy liberalization.
4. The "one size fits all" criticism is, in my view, preposterous. The international financial institutions (IFIs) do not attempt, and could not succeed, in molding all countries into a single economic model. The size and structure of the public sector, the degree of independence of monetary and other regulatory authorities, the extent of state ownership—all these features and others differ enormously from country to country. The IFIs have never conceived their mission as designing an "approved template" of development. A fairer criticism is that the IFIs have been too tolerant of local idiosyncratic features, such as the nepotistic syndicalism of the Suharto regime, or the chaebol groups in Korea.
5. To be sure, primitive economies that are endowed with minerals and other natural resources frequently descend into systems of economic plunder. This happened in much of Latin America under Spanish and Portuguese rule, in parts of Africa under colonial rule (e.g., the Belgian Congo under King Leopold I), and in much of Africa under post-colonial military regimes. This unhappy phase is largely past in modern Latin America.
6. This theme is developed in Dobson and Hufbauer (2000). They advocate a more forceful "supply side" role by G-10 financial supervisors, but this is an area where regional banks can make a useful "demand side" contribution.
Op-ed: Who Should Lead the World Bank? February 17, 2012