The summit and global recession
THIS year's summit of the G- 20 countries was held with much fanfare. In spite of the deep divides over how to the tackle the recession the leaders seemed to be quite happy about the final outcome. President Obama, who made his debut on the world stage at this summit, described the meeting as a "turning point" in the world leaders' fight to rescue the world economy.
Prime Minister Brown declared: "This is the day the world came together to fight against the world recession." Even President Sarkozy, who had sounded a discordant note about "remaking capitalism" before the start of meeting, seemed to be pleased with the results.
Unlike the London economic summit of 1933, which ended in acrimony, the atmosphere at the 2009 London summit was much friendlier. Gordon Brown deserves much of the credit for creating this atmosphere of mutual trust and respect.
But behind these friendly gestures and congratulatory statements, doubts lingered in the minds of many participants and observers about excessive expectations and the adequacy of the measures adopted at the meeting.
The summit had two principal objectives -- to make concerted efforts to fight world recession and to take concrete measures with a view to restoring public confidence in the financial system.
Although, from the beginning, the participating countries had no disagreements over the goals of the summit, there were serious discrepancies over how to achieve these goals and how far to go. Basically, there were two schools of thought. The US and Britain, following the economic theories of John Maynard Keynes that advocated "deliberate public deficits either in the shape of public works or subsidies to afflicted groups" in cases of severe contraction in aggregate demand, proposed huge stimulus packages to reactivate the economy.
But Germany and France felt that since, in their opinion, Wall Street's unfettered capitalism had brought on the recession it was first necessary to tame capitalism's wild side before committing huge fiscal stimulus packages. They called for "the establishment of a charter of good practice for international finance and the creation of a world economic council as an oversight body."
Europe also wanted to bring greater unification of international accounting standards, and closer regulation of tax havens, hedge funds and the rating agencies. Some EU members who were already burdened with significant budget deficits did not feel very comfortable with the idea of increased deficit spending without tighter controls. Besides, the spectre of double-digit inflation had always haunted Europe.
In the end, a compromise of sorts was reached. The group promised to fight protectionism, and committed $1.1 trillion (of which $750 billion will be channelled through the I.M.F.) in additional loans and guarantees to finance cross-border trade and bail out troubled countries. In spite of President Obama's appeal for immediate injections of massive fiscal stimulus into the economic bloodstream, the European leaders only made vague promises of future actions for "sustained growth."
In order to avoid conflict with the European allies, President Obama decided to surrender the point. But it should be pointed out that most major European countries are in the process of introducing stimulus packages, albeit more modest than that of the US, on an individual basis.
The US accepted most of Europe's demands regarding tighter regulations on hedge funds, rating agencies and tax havens. The group agreed to create a Financial Stability Board to monitor the financial system for signs of risk, but the US, more at ease with capitalism's risk-taking, laissez faire philosophy rejected the idea of having a global regulator with cross-border authority.
So, what is the conclusion? The financial package of $750 billion will, no doubt, provide huge financial resources to the IMF and, if administered well, it will stimulate the economies of the troubled countries. But because of its past record, some analysts feel that the IMF is probably not the right organisation to administer these funds. The additional $250 billion in trade credits will help cross-border trade, which has already declined nearly 10% as a result of the credit crisis.
True, not every thing was achieved at the summit, but it was perhaps naïve to expect too much from a group of so many nations with such diverse national interests and complex political constraints. As if to prove this point, on the same day the London summit was being held, the US Financial Accounting Standards Board voted to give significant discretionary powers to banks for reporting the value of mortgage securities. This change would, in effect, allow banks to report higher profits than before.
It is difficult for an outsider to understand this change because mortgage securities were the financial instruments which created such havoc in the global financial system. Some analysts have suggested that the US should not only ban the entire process of mortgage securitisation but also make a complete overhaul of the US financial system.
It remains to be seen whether the Obama administration is willing and/or capable of taking on this fight. I am afraid, until then full confidence in the US financial system will not be restored.
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