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Economic Governance and Crisis Management

Economic Governance and Crisis Management

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Economic Governance and Crisis Management

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  1. Economic Governance and Crisis Management Jean-Frédéric Morin Université libre de Bruxelles

  2. The Twin Financial Crises Currency crises Deficit in the balance of payments Run of official foreign exchange reserves Downward pressure on exchange rate • Banking crises • Massive deposits withdraw • Bank runs • Credit crunch

  3. How to Strike Back?

  4. Frequent Assumptions 1) Wise decision-makers could avoid crisis; 2) The IMF coerces developing countries; 3) The US controls IMF decision making; 4) IMF policies weaken borrowing States; 5) Crises strengthen multilateral economic governance. 1. Can States avoid crises? 4. What impact IMF has on borrowers? 5. Do crises strengthen IMF? 2. Does the IMF coerce borrowers? 3. Does the US control the IMF?

  5. 1. Can States avoid crises? .

  6. The First Generation “Sudden crises in the balance of payments may not be so hard to model after all [..] [A speculative attack] is justified by a change in relative yields, for when the government is no longer able to defend the exchange rate the currency begins depreciating” -Paul Krugman “A Model of Balance-of-Payments Crises”, Journal of Money, Credit, and Banking, vol. 11(3), 1979, p. 312

  7. The Unholy Trinity Free capital flow Canada France Fixed exchange rate Sovereign monetarypolicy China

  8. Public Debt Source: UNCTAD, Responding to the Challenges Posed by the Global Economic Crisis to Debt and Development Finance, New York, United Nations, 2010, p. 36

  9. The Second Generation “Speculative attacks appear to be self-fulfilling, since they may occur even when the level of reserves seems sufficient to handle normal balance-of-payments deficits […] Such crises are apparently unnecessary and collapse an exchange rate that would otherwise have been viable” • Maurice Obstfeld, “Rational and Self-Fulfilling Balance-of-Payments Crises”, The American Economic Review, vol. 76(1), 1986, p. 72

  10. The 1997 Asian Crisis King, Michael R. “Who Triggered the Asian Financial Crisis?”, Review of International Political Economy, vol. 8(3), 2001, p. 450

  11. The State or the Market? “Recent events highlight the importance of sustainable public finances and the need for our countries to put in place credible, properly phased and growth-friendly plans to deliver fiscal sustainability […]. Those countries with serious fiscal challenges need to accelerate the pace of consolidation. […] We agreed the financial sector should make a fair and substantial contribution towards paying for any burdens associated with government interventions, where they occur, to repair the financial system or fund resolution, and reduce risks from the financial system. We recognized that there are a range of policy approaches to this end. Some countries are pursuing a financial levy.” - The G20 Toronto Declaration, June 2010

  12. Trust: An Intervening Variable Aykens, Peter, “(Mis)trusting Authorities: A Social Theory of Currency Crises”, Review of International Political Economy, vol. 12(2), 2005, p. 321.

  13. Political Regime and Trust • Probability of currency crisis increases with new democracies, unanticipated cabinet dissolutions, government turnovers, and divided governments • Probability of currency crisis is higher in autocracies than democracies. Leblang, David & William Bernhard “The Politics of Speculative Attacks in Industrial Democracies”, International Organization, vol. 54(2), 2000, p. 291-324. Leblang, David & ShankerSatyanath, “Institutions, Expectations, and Currency Crises”, International Organization, vol. (60), 2006, p. 245-262.

  14. Trust-Building Institutions

  15. Central Bank Independence Bernhard, William, Lawrence Broz and William Roberts Clark, “The Political Economy of Monetary Institutions”, International Organization, 56(4), 2002, p. 698

  16. Fixed Exchange Rates Bernhard, William, Lawrence Broz and William Roberts Clark, “The Political Economy of Monetary Institutions”, International Organization, 56(4), 2002, p. 701

  17. Trust and Transparency Central bank independence and fixed exchange rates are not policy substitute • Central banks are opaque and difficult to monitor • Exchange rate pegs are easily observed The selected institution’s transparency is inversely related to the political system’s transparency • Autocracies are more likely to have fixed exchange rates • Democracies are more likely to have independent central banks Broz, J. Lawrence, “Political System Transparency and Monetary Commitment Regimes”, International Organization, vol. 56(4), 2002, p. 861-886

  18. 2. Does the IMF coerce developing countries with conditionality? .

  19. Does the IMF coerce? No! • No significant correlation • Some borrowers have alternatives • IMF is flexible • Post Washington consensus • Borrowers have interests in conditionality Yes! • Asymmetry of power • Increasing use of conditionality • Capacity to monitor and to sanction

  20. Does the IMF bargain? Yes! • Conditions vary greatly • Domestic politics can increase bargaining power No! • Not time for bargaining • False alternatives

  21. Does the IMF socialize? Yes! • Several socialization opportunities • The “ownership” paradigm • Developing countries are receptive to IMF arguments No! • Surveillance and peer-review are not designed for socialization

  22. 3. Does the US control the IMF decision making?

  23. An Autonomous Bureaucracy? A homogeneous bureaucracy of liberal economists... …relatively independent from the executive Board… …With their own preferences

  24. A K-Group Hegemony ? • We should not forget the Europeans • A G5 coalition can have major impact • But a split in the G7 favors IMF autonomy

  25. The “G1” as the Principal Anecdotal evidences • Turkey 1998 (Önis, 2006) • Egypt 1987 and 1991 (Momami 2004) Statistical evidences (Stone 2008; Thacker 1999; Dreher & Jensen 2007; Oatley & Yackee 2004; Broz & Hawes 2006; Barro & Lee 2002) • US allies more likely to have loans • US allies receive fewer conditions • US allies are punished less severely for non compliance • Strategic countries receive larger loans

  26. Congress is key • Congress has constitutional power and uses it • Constituencies and interest groups influence Congress votes Broz, Lawrence and Michael Brewster Hawes, “Congressional Politics of Financing the International Monetary Fund”, International Organization, vol. 60 (2006), p. 367-399 Broz, Lawrence “Congressional Politics of International Financial Rescues”, American Journal of Political Science, vol. 49(3), 2005, p. 479-496

  27. 4. Does conditionality politically weaken developing countries ?

  28. According to the IMF… “The results show that the presence of an IMF-supported program does not reduce public spending on either health or education—measured as a share of total public spending, GDP, or in per capita real terms. In fact, we estimate that during program periods, and with all other factors being the same, public spending in each of the health and education sectors increased by about 0.3 to 0.4 percentage points of GDP compared to a situation without a program” - IMF Independent Evaluation Office, 2003, p. 8

  29. The cost of Crises Keefer, P. “Elections, Special Interests, and Financial Crisis”, International Organization, vol. 61, 2007

  30. Regime Type Matters • The effect on social spending is particularly pronounced in democracies (Nooruddin & Simmons 2006) • Autocracies react to crisis with higher decisiveness (Haggard and MacIntyre 1998)

  31. So Autocracies Are Better Off? • Credibility is as important as decisiveness (Keefer, 2007) • A wide dispersal of veto authority increases rigidity but a centralization of veto authority increases volatility. • A balanced distribution of authority is optimal (MacIntyre 2001)

  32. Philippines: A Balanced System Source: MacInyre, Andrew, “Institutions and Investors: The Politics of Economic Crisis in Southeast Asia” International Organization vol. 55(1), 2001, p. 83

  33. 5. Do Crises Strengthen multilateral economic organizations?

  34. Crises and Multilateralism • IMF faces harsh criticisms during crises • The lack of crises is even more challenging • Some multilateral institutions benefit more from crises than others

  35. Crises and Regionalism • The European model • The Asian model

  36. Crises and Unilateralism

  37. Frequent Assumptions 1) Wise decision-makers could avoid crisis; 2) The IMF coerces developing countries; 3) The US controls IMF decision making; 4) IMF policies weaken borrowing States; 5) Crises strengthen multilateral economic governance.

  38. Conclusion • Regime type has a strong influence on the conditions, the management, and the impact of financial crises. • Institutions that increase transparency and clarify expectations benefit both to the state and the market. • Loans negotiation is a two-level game, both for the borrower and the lender

  39. Economic Governance and Crisis Management Jean-Frédéric Morin Université libre de Bruxelles