It is crunch time for global policymakers, and poor mid-term results mean the pressure is much greater for the final exam. Although they all aspire to get an A for Eco-Policy 101, I think the issues are still too muddled for them to breeze through the final.
As things stand, the global financial infrastructure looks embarrassingly exposed. For a number of reasons, the path ahead cannot simply be a re-packaging of free-market fundamentalism. First, the engine of global economic growth is shifting from US consumers to the Asian giants, but these behemoths are being careful not to upset the status quo. Two, the mythical concept of decoupling may finally become a reality. And third, regulators are still unable to take a view on the impact of dollar carry trades that are flowing into Asia.
At the risk of being insensitive, let me list some facts, which I hope will give me enough structure to secure a solid B-plus for the course. The US and Britain are worried; there are growing differences between these Anglo-Saxon countries and western Europe; China and India are leading the recovery but are wary about how they could shape the global economy; competition for global resources is taking on a distinct geopolitical dimension; there is latent protectionism even if not in letter; and the global climate is suffering as countries favour national gains over global concerns.
To get a handle on the causes of the economic crisis, I will borrow from the chief economist of Standard Chartered Bank, when he talked about the three Gs in a recent speech: Glass-Steagall, Greenspan and greed. Behind this is another G: globalisation. But I would not include this as it simply facilitated the interplay of the other Gs. Repealing the Glass-Steagall Act in 1999 allowed investments banks to use (and perhaps abuse) the large balance sheets that commercial banks provided. Creative money-making ideas came from investment bankers; funding came from commercial banks. This was the compost that was needed for the mushrooming of financial derivatives and hedge funds. Regulators failed to understand and manage financial risks, while investment bankers were too busy creating extra risk to earn extra profits to secure extra large bonuses. So much for self-regulating markets.
Alan Greenspan, the former chairman of the Federal Reserve, has some responsibility for the previous point and also for the low interest rate environment that allowed these excesses. But then again, with China exporting deflationary pressures on the rest of the world (especially the US), Mr Greenspan could be excused for assuming the "punch" was not strong enough. That covers the globalisation angle, which brings us to greed.
An axiom of economic theory is "more is better", which basically means it is impossible to have enough of a good thing. Clearly, no one likes to pull the plug on a good time but that is precisely what a regulator must do. Even today, investment bankers are fighting to secure their super-sized bonuses and threatening to leave the sector if denied. This is not only an apt reflection of the enduring power of human greed, but also raises a simple question: can frustrated investment bankers become wildly successful entrepreneurs (or inventors) and earn as much as they did? I think not.
So where does that leave us? As things stand, there are many uncertainties, which are not the run-of-the-mill issues that accompany normal boom-bust cycles. If what we saw last year and this year has been compared to the Great Depression of the 1930s, the questions are equally profound: 1. Do the varying opinions on dollar carry trades suggest that the lessons of the past have not been learnt? 2. Will the global economy remain vulnerable to increasingly large boom-bust cycles?
3. Will the engine of global growth shift from US consumers to Asian households? 4. Will this transition be smooth? 5. Will US consumers start saving and will Asian households start spending? 6. Will the Anglo-Saxon banking model survive? 7. Could this be the beginning of the end for the US dollar as the global reserve currency? 8. Will the new financial infrastructure include a bigger role for the public sector?
9. Could the World Bank and IMF be replaced by regionally focused institutions? 10. Could the growing scarcity of food and energy result in barter trade arrangements? 11. Could the perceived threat to western living standards force governments of the Organisation for Economic Co-operation and Development (OECD) to impede labour flows? 12. Is there enough global unity to protect this small planet? I, for one, have no firm answers. But assuming I'm a policymaker, does this mean I will fail the course? Grading on the curve, I am increasingly confident that I will secure a B-plus because asking the right question is an indispensible first step to finding the right answer.
To conclude, policymakers need to approach these issues through an open dialogue and an open mind-set. The vaunted regulators in the OECD have disappointed, and stakeholders want to see a tangible change in the rules of the game. Hence, policymakers must adapt to the changing world order and the demands of an increasingly informed electorate. Asia cannot be denied its rightful place in the world order and the incumbents must be accommodating. What we saw in the past two years is perhaps the tipping point to the New Asian Century, which should not be confused with the short-lived New American Century courtesy of Bush Jr. In the final analysis, Asia will drive global growth and is perhaps the likely saviour of the global climate.
If I were a policymaker, I would think I just nailed the final. Dr Mushtaq Khan is chief economic adviser of the State Bank of Pakistan