Copyright 1998 by Robert Kuttner.
Rethinking Global Capital Movement
By Robert Kuttner
White House talk of a coordinated interest-rate cut to spur the global economy gave stock markets a few days of lift last week, but Federal Reserve Chairman Alan Greenspan, in testimony to the House Banking Committee, quickly threw cold water on the idea.
Even if the central bankers did go along, a rate cut is only the bare beginning of a strategy to stabilize a wobbly world economy. What's required, rather, is a drastic rethinking of conventional wisdom.
For more than a decade now, the United States government and the International Monetary Fund have been giving the same message to developing economies: Open up to global markets.
Supposedly, financial markets accurately price everything from products to currencies. So, by exposing themselves to this discipline, third-world countries will be compelled to exercise fiscal discipline, compelled to stop subsidizing inefficient goods and services, and rewarded by increased inflows of foreign capital. This same cold-bath remedy was offered to formerly communist countries.
The IMF has played the role of enforcer, requiring these policies as a condition of aid. But the underlying ideology was almost entirely American. It was known as the Washington Consensus, referring to the two international institutions headquartered in Washington, the IMF and World Bank, plus the Federal Reserve, Treasury, and U.S. academic economists.
That consensus, however, has proven profoundly wrong. Vulnerable economies, with fragile domestic political and supervisory institutions, can be blown away by speculative global money movements. The west seemed to have learned that lesson in the Bretton Woods era half a century ago, when currency values were stabilized and speculative capital movements were limited, precisely to allow stable domestic growth. But the lesson was forgotten in the recent vogue for free markets.
Interestingly, several key U.S. economists are now drastically rethinking their positions. MIT economist Paul Krugman, scourge of "protectionism," recently wrote in Fortune magazine commending the benefits of controls on capital movements.
Harvard Economist Jeffrey Sachs, an early advocate of the "cold-bath" cure, has an essay in the current Economist calling for the international equivalent of a central bank and encouraging countries to take unilateral steps against speculative capital movements. Sachs, who always tempered his free-market advice with support for debt relief, now declares that "Washington's dream of a quick move to global financial liberalization is in ruins."
Columbia University economist Jagdish Bhagwati, a passionate free-trader and formerly senior adviser to the World Trade Organization, wrote in Foreign Affairs magazine that financial flows are fundamentally different from product flows, because financial markets price things wrong, causing booms and busts.
As if to underscore the point, George Soros, who has made many billions by understanding market irrationality better than the average speculator, recently warned in the Wall Street Journal of the effects of the system that made him rich. "There is an urgent need to recognize that financial markers, far from tending towards equilibrium, are inherently unstable," Soros declared. "'[M]arket discipline' may not be enough. There is also a need to maintain stability in financial markets."
What we need, in short, is a different blend of global discipline and national autonomy, a different set of rules, and a different IMF. Instead of obsessively demanding openness, the system should demand uniform standards--but provide some shelter from speculation in an atmosphere that supports growth rather than austerity.
Global institutions should work with basket cases like Russia, to stabilize their currencies so that domestic growth can resume, even if that requires controls on global capital flows. The system should also impose a tax on short term financial flows, to discourage speculation.
We also need more multilateral public aid, along the lines of the Marshall Plan, so that these economies are not at the mercy of private speculative capital. The system does need a global lender of last resort-- but not the current IMF, which is mainly the agent of utopian economic theorists and austerity-minded creditors.
As Clinton's recent speech suggests, even nominally left-of-center leaders are still bent on reassuring private capital markets rather than harnessing them. Clinton, speaking to the Council on Foreign Relations, mostly repeated conventional wisdom and called for more money for the IMF.
But the IMF doesn't deserve any more funds until it drastically changes its policies. Alas, such a shift will likely await an even more basic rethinking on the part of the IMF's masters--and perhaps an even more serious crisis.
Robert Kuttner is co-editor of The American Prospect and an EPN Featured Columnist.
Copyright © 1998 by Robert Kuttner. Readers may redistribute this article to other individuals for noncommercial use, provided that the text and this notice remain intact. This article may not be resold, reprinted, or redistributed for compensation of any kind without prior written permission from the author. If you have any questions about permissions, please contact The Electronic Policy Network at firstname.lastname@example.org.