World Economic Crisis: Lessons and Consequences

1. World Economic Crisis:Lessons and Consequences Joseph E. Stiglitz Tunis January 2010

2. Some Key Lessons of the Global Economic Crisis • Markets are not self-adjusting, self-correcting • Markets are not necessarily even efficient • There is an important role for government to play • In providing a safety net for the economy • Without government intervention the world would have been in a major depression • In providing social protection for individuals • And in preventing crises in the first place • Need to strengthen state capacities

3. Neo-liberal Policies Did Not Even Work in the Home of Neo-liberalism • Imposing huge costs on homeowners, taxpayers, workers, and society more generally • National debt in US trillions of dollars larger than it otherwise would have been • Compromising other social objectives • Lost output in the trillions of dollars • If government is to bail out banks (which it has done repeatedly), it has to reduce the likelihood of the occurrence of these disasters • Regulation essential • Self-regulation won’t work

4. Problems Going Forward • Bailouts and stimulus packages were not designed with a vision of where the economy and the financial sector should be going • Financial system less able to fulfill its critical social role • Another crisis may be even more likely in the not too distant future • Other problems have continued to fester • Including problems associated with growing inequalities

5. Exit • Too soon to begin exit • But huge debt and expansion of monetary base leading to political demands for exit • Policies were not designed with an eye to exit • Result is that exit will be difficult • Implication: Risk of a double dip

6. Some Implications for Developing Countries • IFI’s talked about countries adopting good policies and institutions • Less clarity now about what that means • Inflation targeting achieved neither growth nor stability • New frameworks required for monetary policy • Capital and financial market liberalization contributed to the creation of the crisis and its rapid spread • There needs to be more focus on issues of risk management and information asymmetries

7. Some Implications for Developing Countries • A more balanced developmental model • With a more balanced role for government • Other failures of “old model” • Growing inequality—trickle down economics didn’t work • Instability—this is one of many crises • Low growth—countries that followed a more balanced role grew faster (East Asia) • Failures universal (Eastern Europe, Latin America, Africa)

8. Some Implications for Developing Countries • Risk of crises in the future • Developing countries have to be prepared • To manage risk • Diversification (sectoral and geographic) • Circuit breakers (restrictions in capital flows) • Reserves • Macro-economic policies (automatic stabilizers, surpluses in good times) • To protect their citizens • Social protections

9. Some Implications for Developing Countries • Way that developed countries have responded to crisis poses some threats to developing countries • In short run, there is a problem of speculative capital flows inducing bubbles and instability • And slow recovery may lead to more protectionist pressures • Further problems in the long run • High levels of borrowing may lead to high rates of interest in the future • Contributing to problems of highly indebted countries • And making growth more difficult

10. Some Implications for Developing Countries • But global meltdown not the only crisis • While attention was focused on meltdown, other problems may have become worse • Climate change • Energy • Food shortages • Poverty • Terrorism

11. Copenhagen: A Missed Opportunity • Addressing problem of global warming could have helped fuel robust recovery • Uncertainty about future price of carbon will weaken investment in energy sector • Potential large costs to Africa • Region likely to be affected by global warming • With fewer resources to finance adaption

12. A New Geo-Politics and Geo-Economics • New Global Governance • The move from G-8 to G-20 is an important step • But there are still 172 countries not represented • Only one sub-Saharan country in G-20 • G-20 lacks political legitimacy and representativeness • Failed to mobilize adequate funds to help the poorest countries • Most of the money was in the form of short-term loans • And G-20 turned to the same institutions that played a key role in the failures • Though the IMF has made marked changes in some of its stances

13. Failure of G-20 • Recognized importance of dealing with global imbalances • Imbalances weren’t responsible for this crisis but could cause next • But solution was not well thought out • US needs to save more • But if China were to consume more, would have little effect on US exports • Real problem is not too much global savings • Real problem is too little investment directed at global needs • Climate change • Development

14. Failure of G-20 • Failed to recognize/address key global problems • Growing inequality • Weakening global aggregate demand • High levels of risk/failure of financial markets and international institutions to manage risk well implies high demand for reserves • Weakening global aggregate demand • Uncertainty about the price of carbon

15. A New Global Balance of Economic Power • Growth in Asia continues to be robust • With benefits to commodity exporters around the world • U.S. and Europe likely to remain strongest economies for foreseeable future, but China’s role will grow

16. China’s Growing Influence • As countries recognize the need for diversification • Countries that were more diversified did better • China played large role in debate over global reserves • Without agreement with China, a deal in Copenhagen was not possible • China is playing an increased role in Africa • Impact on aid already evident • Impact on investment likely to grow • China’s economic model has obviously worked • And many find its policy of non-intervention attractive • Though there may be long-run consequences for civil rights, democracy

17. The Developmental State • Not just preventing “bad” things from happening (through regulation) • Not just creating a good environment for the private sector • But actively promoting development

18. Markets on Their Own Won’t Lead to Africa’s Development • Government will need to take a role • Including by pursuing Learning, Industrial, and Technology Policies (LIT) • Recognizes that what separates developing countries from developed is not only a gap in resources but also a gap in knowledge • Finance can be key instrument (developmental banks) • Private financial markets not developmentally oriented • Typically much too short term focused • Great Recession forcing a rethinking of capital and financial market liberalization policies • Government needs to provide the pre-conditions for private sector • Physical and institutional infrastructure • Education and health • But government has to do more than that • In almost every successful country, governments have pursued such policies

19. Goal: Sustainable Growth with Stability and Shared Prosperity • Before, too much focus on stability, too little on growth • In the end, there was neither growth nor stability • What growth that occurred was not shared and was not sustainable • Globalization can play an important role • But globalization will have to be managed better than it has been • Better global rules • Better national policies