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Asia and the Emerging Global Economic System. Joseph E. Stiglitz Bretton Woods April 10, 2011. Changing Global Economic Landscape. Unprecedented growth in Asia Rapid convergence China already 2 nd largest economy On the way to being largest economy Already largest source of savings

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asia and the emerging global economic system

Asia and the Emerging Global Economic System

Joseph E. Stiglitz

Bretton Woods

April 10, 2011

changing global economic landscape
Changing Global Economic Landscape
  • Unprecedented growth in Asia
    • Rapid convergence
      • China already 2nd largest economy
      • On the way to being largest economy
      • Already largest source of savings
      • “Correcting” a two century long aberration
    • Economic model markedly different from American style capitalism (especially in East Asia)
      • Larger role for government
      • More government controls
      • Especially in financial markets
asian economic model has worked
Asian Economic Model Has Worked
  • Not only to promote unprecedented growth
  • But also for stability
    • Avoided the excesses of the US
    • And even to manage the instability foisted on them
Combination of their success and their economic role (in trade, finance, reserves) implies Asia should/will have a larger role in setting the rules
    • Differences in interests, economic circumstances, ideology should imply a difference in rules
  • Before the crisis, Asian countries were put under pressure to adopt “unfettered” financial markets (fully flexible exchange rates—except in East Crisis, when it was recognized that would be destabilizing)
    • Financial and capital market liberalization
      • 1997 attempt to change charter of IMF
    • Sometimes embedded in trade treaties
after the crisis
After the Crisis
  • Recognized that excessive deregulation was responsible for the crisis
    • And financial and capital market liberalization may have contributed to the rapid spread of crisis around the world
  • Countries that had maintained regulations (including on cross-border capital flows) fared better
    • But US Treasury does not seem to have fully learned the lesson
new balance of global economic power
New Balance of Global Economic Power
  • Rules governing global economic system have largely been written by advanced industrial countries, for advanced industrial countries—or for special interests within those countries
    • Based on “free market” ideology
    • But justified in terms of “economic principles”
  • Similarly, for international institutions governing globalization
    • Marked by flaw governance
  • Question is: Will emerging markets be able, willing to rewrite these rules? To reflect:
    • Their countries’ interests
    • Broader interests within their society
    • To promote global stability and growth
    • Including development of the poorest countries
a new global order reflecting lessons of past and new balance of power
A New Global Order—Reflecting Lessons of Past and New Balance of Power
  • A global reserve system
  • A global monetary policy
  • A global regulatory system
global reserve system
Global Reserve System
  • Dependence of global system on the currency of a single country in the multi-polar world of the twenty first century is a historical anachronism
    • Especially given problems of economic management in the US
    • Dollar is not a good store of value
dollar reserve system is unstable deflationary and inequitable
Dollar Reserve System Is Unstable, Deflationary, and Inequitable
  • New version of Triffin paradox
  • Economic circumstances in reserve currency country may differ from those of others—conflicts of interests in “supply” of reserves
  • Money that is put aside in reserves is money not spent—contributing to lack of global aggregate demand
  • Developing countries lend money to reserve country (countries) at low interest rates and borrow at high interest rates
reform good even for us
Reform Good Even for US
  • Though it has advantage of being able to borrow at low interest rate
  • Accumulations of reserves mean US is exporting T-bills rather than automobiles (i.e. gives rise to trade deficit)
  • In past, contractionary effects could be offset by government spending
  • More difficult now
new global order
New Global Order
  • Still, US has resisted change
  • But with China holding almost $3 trillion in reserves, China’s voice (and that of other holders of reserves) should be more important
  • China knows that it is earning negative return on dollar holdings
    • And will experience large capital losses as it revalues
  • Long term: Annual emissions of a new global reserve currency
  • Short term: Annual emissions of SDR’s, combined with reforms in SDR system to make SDR’s more usable
global monetary system
Global Monetary System
  • Financial and capital market integration changes way national monetary policies work
    • Without regulatory or other barriers, increase in liquidity in one part of world seeks highest return in world—no reason for it to stimulate domestic economy
      • Especially when credit channel (banking system) is clogged
      • Except through competitive devaluation
        • “Portfolio effect” from increase in relative supply of “dollars”
intellectual incoherence
Intellectual Incoherence?
  • QE II was announced as a temporary purchase of long-term government bonds—raising prices and lowering long-term interest rates
    • But if “adding” demand raises prices (from what they otherwise would have been), then later subtraction of demand will return them to previous level
    • But anticipating this, buyers will not be willing to pay higher price
    • Suggesting at most a limited effect
intellectual and policy incoherence
Intellectual and Policy Incoherence?
  • If it is permissible for one Central Bank to add dollars, why should it not be permissible for another Central Bank to subtract dollars
    • Which is what they have been doing through exchange rate interventions
  • More generally, other governments attempt to limit potential impacts by imposing constraints on the free flow of capital
a new global regulatory regime
A New Global Regulatory Regime
  • Without global regulation, there is a risk of regulatory arbitrage, circumvention
  • But likelihood of an effective global regime is limited
  • Each country has a responsibility to protect its citizens and economy
    • Adopting regulatory regime appropriate for their circumstances
    • Recognizing the large role that special interests (especially finance) has played in setting national rules in the West and international rules
cross border capital flows
Cross Border Capital Flows
  • A critical part of the regulatory regime (largely ignored in G20 discussions) concerns cross-border capital flows
    • Short term flows major source of volatility
      • Flows often pro-cyclical
      • Economic theory (taking into account information imperfections and/or life cycle effects) explains why that should be expected
    • With little (possibly adverse) effect on real growth
    • A variety of effective capital account management techniques
recent imf report represents major policy shift
Recent IMF Report Represents Major Policy Shift
  • Recognizes role of capital flows in creating/enhancing volatility
    • Evident in the post-crisis period
  • Recognizes that some nations resorted to capital controls with some success
recent imf report represents major policy shift1
Recent IMF Report Represents Major Policy Shift
  • But didn’t go far enough
    • Recommended that they be used only as a last resort, as temporary measures, and that they be non-discriminatory
    • But capital account management techniques can enhance scope for domestic policy, discourage destabilizing short-term capital flows
    • There are differences between domestic and foreign flows (based on information asymmetries, preferences, etc.)
      • Though with globalization, some of these differences diminishing
    • A global regulatory system (controlling outflows and inflows, reducing scope for regulatory arbitrage, circumvention) would be desirable
      • Worse, some trade agreements may inhibit ability to adopt appropriate regulatory system
financial market liberalization
Financial Market Liberalization
  • This too may have contributed to volatility
  • Without offsetting benefits in terms of economic growth
    • International financial institutions especially less interested in lending to domestic SME’s
      • Results not surprising—given information asymmetries
      • Long-time source of concern—reluctance in US to have national banks
        • Hamid Rashid, “Credit to Private Sector, Interest Spread and Volatility in Credit-flows: Do Bank Ownership and Deposits Matter?” working paper, 2011
        • Detragiache, Tressel and Gupta, 2006, “Foreign Banks in Poor Countries,” IMF Working Paper, WP/06/18
global imbalances
Global Imbalances
  • US tried to shift blame for crisis to Asia—“savings glut”
    • Real failure was the failure of financial markets to manage risk and allocate capital to address large investment needs
      • Retrofitting the global economy to face global warming
      • Development needs (e.g. infrastructure)
  • Asia should not be encouraged to imitate America’s profligate consumption pattern
    • Though China needs a change in its “supply driven” economic model
  • Real challenge is how to recycle savings in a more productive way than has been used in the past
    • Necessitates creating a risk mitigation facilities
concluding remarks
Concluding Remarks
  • New global order provides new opportunity to design a new global financial and monetary system
    • Old system hasn’t worked well
      • Problems manifest in crisis
      • Globalization has made matters worse
    • Principles underlying it based on flawed theories
      • Though may have served special interests well
    • Asia should work to help create this new system
concluding remarks1
Concluding Remarks
  • But in the meantime, it should resist allure of “financialization”
    • China attracted by the prestige of having its currency becoming used internationally
      • Will inevitably happen as China becomes largest trading economy
      • Does not require full liberalization of financial and capital markets
      • Internationalization of currency is less important for its economy than developing good financial markets domestically—e.g. to provide credit to SME’s
    • Notion that once its capital and financial markets have become more developed it should fully liberalize is wrong
      • Unfettered financial markets have never worked well
      • And the most recent crisis has provided further evidence