March 8, 2009 6:28 pm
J.K. Galbraith wrote that 1929 stood alongside 1066, 1776, 1914, 1945 and 1989 in its importance. The world today was shaped by the efforts of governments to overcome the economic meltdown of the 1930s – and the consequences of their failures. Even if this economic crisis is not as bad as the Great Depression, it will have epoch-moulding consequences. This week the Financial Times starts a series on the Future of Capitalism. Much, however, depends on the success of next month’s meeting of the Group of 20 in London and how successful governments are at ending this worldwide crisis.
The intellectual impact of the crisis has already been colossal. The “Greenspanist” doctrine in monetary policy is in retreat. It no longer seems clear that it is easier for central banks to clean up after asset price bubbles burst than to prick them when they are small. Monetary authorities will need to be more concerned both about financial stability and global imbalances which allowed a few countries to build up vast surpluses while a few others ran yawning deficits.
Finance has already changed irrevocably. The grand investment banks which once strode alone have either collapsed, or joined the flock of retail banks. Governments are now borrowers, lenders, investors and insurers of last resort for much of the financial system. The future of finance will be determined by their efforts to disentangle themselves from the thickets of guarantees they have been forced to make. The depth of the crisis will determine how easily they manage it.
The fiscal cost of this episode is unclear. In some countries, it may be state-busting. Some nations will need to cope with extraordinary fiscal tightenings in the coming years. The domestic impact of government spending – and its geopolitical ramifications – could yet be colossal. Again, much depends on how soon the downturn ends.
There is one certainty. While recessions are inevitable, deep depressions or slumps – or whatever you call them – are neither necessary nor welcome. They destroy wealth, sap happiness and crush old certainties. What is more, increasing poverty is a grave threat to world stability and democracy. Revolutions often start as bread riots, and economically-stagnant countries make belligerent neighbours. Growth must be restarted.
In 1933, during the last comparable fight to restart the world economy, 66 governments met in London with tariffs and hackles raised. Franklin Roosevelt, newly-elected as US president, sent delegates to the “Economic and Monetary Conference”. But rather than being a staging post for recovery, the conference collapsed. The London G20 meeting must not suffer the same fate. Participants must agree on three points.
First, world demand is in freefall. Stimulus is necessary. The surplus countries with the most leeway to increase domestic spending – Japan and Germany, in particular – are not yet doing enough. They can afford to encourage serious spending and are, in any case, suffering the steepest contractions. In addition, if these habitual exporters were to become serious importers, it would be politically easier to hold back protectionism.
Second, governments must take responsibility for dealing with their financial systems. The toxicity which started in mortgage-backed securities is spreading through the world’s banks as ever more assets go bad in the recession. Politicians must make sure that their banking systems are adequately capitalised and deal with the illiquid securities at the heart of this crisis.
Third, governments must agree to put aside more money for the International Monetary Fund. The recession would enter a new, dreadful chapter if a rash of financial crises broke out across eastern Europe, Asia or South America. The fund’s current funds are clearly inadequate. The idea of a large issuance of SDRs – the IMF’s own reserve asset – is an excellent one. Changes in voting-weights, to raise Asia’s share and lower Europe’s, are also both inevitable and desirable.
What matters is that there is agreement on these three issues so that politicians – even those in weak governments, as in Japan – are given the political cover to do what is necessary. A united front is, therefore, essential. Big questions about the shape of the broad future of the world economy can wait until we are certain that there is a future for globalisation. An impartial commission could be appointed to mull them over. If spats over minutiae – such as the regulation of tax havens or bankers’ pay – were to stand in the way of a deal, the verdict of history would be damning. Electorates are unlikely to be more forgiving. The aim now is simple: end this brutal recession.
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