(Joint conference with the Herbert Quandt Foundation)
In partnership with the Herbert Quandt Foundation we met over a glorious autumn weekend to analyse the economic crises in different parts of the world during the last decade and to see whether systems could be devised to give early warning of future crises and what sort of pre-emptive action might be appropriate.
In examining the crises of the past for possible lessons, a mixture of factors relevant to the particular problems of a country or region were identified, together with some common threads. The “Asian Crises” appeared in retrospect to show how difficult it was to distinguish at the time whether the underlying problem was insolvency or illiquidity. The ignorance of Thai authorities about the true level of their foreign reserves and the concealment of the fact that some of those reserves were already committed to cover short term debt were noted. These were thought to be symptomatic of the wider problem of inadequate transparency, which if corrected might have alerted the authorities themselves to the impending crises. It also raised the whole question of adequate reporting and data collection systems in developing countries.
Contagion was identified as another aspect of the globalised financial system which had played a part in the Asian crises. Countries in the area which had been pursuing relatively prudent economic policies had also been affected. This in part resulted from the herd-instinct which drove markets at times of intense pressure and, in part, from the speed and ease with which short term funds could now be moved around the world. Put in historical perspective, however, the Asian crises had not turned out to be a major systemic break-down in the world economic system. Others, while perhaps conceding the historical point, maintained that at the time the crisis had caused real nervousness because of its speed and its scope. If the gloom had been overdone at the time perhaps complacency was overdone now.
Defences against contagion were considered. The best protection, it was claimed, were sound domestic economic policies. Other measures were also identified. Large foreign currency reserves, like those held by China or being built up by Korea, were deterrents to speculative attacks. Chile’s policy of not paying interest for the first three months of any deposit and regional groups, or currency areas like the Euro, might also help. More intelligent ways of “putting sand on the tracks” might help to avoid a general slide next time.
Some called for a major increase in the funds available to the IMF which, given the enormous increase in world liquidity, had declined in proportion to the potential risks. Others took the view that countries and foreign investors, whether public or private, would only learn and apply the lessons of prudence if they were obliged to bear a greater degree of pain than was at times the case when rescue packages were put in place. One participant pointed out that to give priority to settling the debts of short-term creditors gave exactly the wrong signal.
“Moral hazard” preoccupied the conference and became entwined with the related questions of “too big (too nuclear, too important to a major country, etc) to fail, or too small to matter”. Policies undertaken to rescue Mexico might have sent the wrong signals elsewhere in the global financial community. At the other end of the scale it was argued that there should be some underpinning of emerging markets to enable them to join the global financial system. Many of these countries were too small to cope adequately with the demands for data and country programmes laid on them by the ever increasing pressure for transparency by the free market they wished to join. They looked to the international institutions for help and were at times prepared to move faster than some of the bigger countries in making information available, such as publication of IMF Article IV reports.
Confidence was considered in relation to transparency. Crises, it was claimed, came about through a collapse of confidence. We examined whether at times it might improve crises management, or even crises pre-emption, if full disclosure was avoided. On balance, however most participants were in favour of more transparency. The earlier markets were alerted to impending problems the earlier they would be able to react with smaller movements. The later the true position was revealed the greater the collapse of confidence and the more violent the market swing. Risk was built into the free market system. It was unavoidable and arguably the dynamic in the system. Risk management, not risk avoidance, should be the overriding aim.
At the conclusion of the analytical phase of the discussion three underlying tensions were identified. There was a desire to learn lessons from past crises and possibly to put in place some rules and regulations to guide future operations. But we were living in a world which was dominated by rapid change. Would any general rules be relevant to future crises or to the many different levels of development of the countries participating in the market? How should crises be resolved? Should the market be allowed to exact its full penalties on those whose judgement had been at fault (“cold Turkey”) or should some weight be given to the social factors involved? Finally should international institutions like the IMF be made independent or should political considerations also be taken into account?
In considering what might be done about future crises we considered the merits of major new architecture as against “incremental tinkering”. The latter approach seemed to gain slightly more adherents on the grounds that the complexity of the market and the individual character of the crises would make grand designs hard to conceive and difficult to agree. Proponents of the market argued that whenever there was doubt, markets should be given the benefit of it. Others maintained that uncontrolled market activity would be destabilising and could lead to rejection of the system by developing countries. They might conclude that the relatively controlled and opaque systems in India and China had survived the crises better than those which had been more transparent. It was also argued that a global system would not work unless all the players identified with the decisions made in their name in the international bodies responsible for regulating the markets and had some incentive to comply with them. One participant pointed up the fundamental difference between the UN system where each country had one vote and the IMF where votes were weighted according to financial contributions. The resulting dominance of the US, and behind that the role of Congress, was noted as a significant factor.
We discussed the respective roles of the public and private sectors. The conditions for bailing out and bailing-in the private players were contentious. The question of lending to countries in default (lending into arrears) which might make sense in economic terms, raised the question of the priority of different classes of debtor in a particularly acute form. Collective action clauses in bonds were also considered a useful way of helping to control volatility in a crisis, but expectation for their universal adoption was not high.
A long list of measures to pre-empt or mitigate future crises was worked up including the publication of financial ratios and data describing a country’s ethical, legal and competitive practices. It was noted in discussion that progress was being made, albeit slowly, on some of them. Cooperation between the US Federal Reserve and the European Central Banks in reducing interest rates to sustain financial markets was also thought to have helped in recent crises. There was no consensus on stand-still agreements. Regional groupings were considered as a way of finding solutions among countries with a more homogenous level of development, but the problems of global operations and global pressures were acknowledged. Strong domestic savings might also help countries through periods of international financial turbulence. As far as data collection was concerned private rating agencies could play an increasingly useful role since their reports should be apolitical (but not much help in the Asian crises, commented some).
We ended the conference by noting the growing problem of corruption and illegality in some parts of the world on a scale to impact on a country’s overall performance. Nevertheless no one at the conference had questioned the primacy of private capital markets We considered whether the new world, with its accent on instantaneous communications and market forces might not be a rather colder place for those engaged in it than the system it had replaced. Had we moved to managing crises and away from managing the system. The assertion that no one could buck the market left little comfort for regional variations. Crises were coming more frequently and seemed to be testing the limits of the system. Could we achieve a soft landing in some modified new system or would it require a major global crisis to force through change?
These thoughts and reflections on the intrusiveness of the free market financial and trade systems on both the economic and political arrangements in countries around the world left the Director pondering whether to arrange a conference in a few years time entitled “Fukuyama right or wrong. Has history really ended?
This report reflects the Director’s personal impressions of the conference. No participant is in any way committed to its content or expression.
Chairman: Sir Jeremy Morse KCMG
Chancellor, Bristol University, former Executive Director, Bank of England
PARTICIPANTS
CANADA
Mr Peter Cook
European Columnist and Chef de Bureau, The Globe and Mail
Dr Peter J Nicholson
Senior Vice-President for Corporate Strategy, BCE Inc
Mr Grant L Reuber OC FRSC
President, Canadian Ditchley Foundation; Chairman, Canada Deposit Insurance Corporation
FRANCE
Monsieur Philippe Lagayette OLH
Chairman, J P Morgan & Cie SA
Monsieur Jean Daniel Tordjman
Executive Vice President, HebdoMag International
GERMANY
Professor Armin Bohnet
Professor of Comparative Economics & Public Finance, Institute for Public Finance and Studies in Economic Systems, Justus-Liebig-Universität
Professor Gert Dahlmanns
President, Frankfurt Institute for Public Policy Research
Dr Hartmut Fest
Director and Head of Taskforce on Structural Aspects of Globalization, Federal Ministry of Economics and Technology
Dr Michael Hüther
Senior Economist, Deutsche Girozentral DeKaBank
Professor Gerhard Illing
Professor, Department of Economics, University of Frankfurt
Dr Kai Schellhorn
Executive Director, Herbert Quandt Stiftung
Herr Hans Peter Schiff
Director, International Economic Policy, Federal Foreign Office
Herr Stefan Schönberg
Director, International Relations, Deutsche Bundesbank
INTERNATIONAL MONETARY FUND
Mr John Hicklin
Assistant Director, Policy Development and Review Department, International Monetary Fund
JAPAN
Mr Katsuhiro Fujiwara
Managing Director, Keidanren
Mr Takeshi Ohta
Chairman, Advisory Council, Daiwa Bank
SWITZERLAND
Dr Costa Vayenas
Director, Group Economic Research, UBS AG, Zurich
UNITED KINGDOM
Sir Leonard Appleyard KCMG
Vice Chairman, Barclays Capital
Mr Creon Butler
Chief Economist, Foreign and Commonwealth Office
Mr George Graham
Banking Editor, Financial Times
Mr Christopher Huhne MEP
Liberal Democrat Member, European Parliament
Dr DeAnne Julius
Monetary Policy Committee, Bank of England
Mr William Keegan
Economics Editor, The Observer
Sir Nigel Wicks KCB CVO CBE
Second Permanent Secretary (Finance), HM Treasury
UNITED KINGDOM/NEW ZEALAND
Dr Ngaire Woods
Fellow in Politics and International Relations, University College, Oxford
UNITED KINGDOM/WORLD BANK
Mr David Peretz CB
Senior Adviser, World Bank
UNITED STATES OF AMERICA
The Honorable Harrison J Goldin
Senior Partner, Goldin Associates LLC
Professor Harold James
Professor of Economic History, Princeton University
Dr Glenn A Pitman
Dean, School of Management, Binghamton University, State University of New York
The Honorable Daniel B Poneman
Partner, Hogan & Hartson LLP
Mr Daniel H Rivkin
Manager, Broadcast and Production Services, Reuters, London
Mr Elliot Stein
Managing Director, Commonweal Capital Partners LP; Chairman, Caribbean International News Corporation
Mr Richard K Thomas
Chief Economics Correspondent, Newsweek Magazine