15 Nov The G20 Global Financial Regulation Summit Today, and Transnational Government Regulatory Networks
Today is the global financial crisis summit in Washington DC, with attendance by leaders of the G20. Bloomberg reports that the most likely results are:
- agreement to a global fiscal stimulus aimed supporting aggregate demand while waiting for monetary stimulus (i.e., interest rate cuts by central banks) to take effect;
- reform of the IMF to put it at the center of addressing liquidity issues particularly in developing countries (and soon-to-be ‘developing’ economies such as Iceland, we could add);
- agreement for domestic regulators to strengthen financial regulatory controls;
- creation of some form of centralized exchange to provide clearing and currently over the counter swaps; and
- some vague and unclear form of transnational financial regulatory body.
World leaders meeting in Washington today are moving to shore up the deteriorating world economy, while papering over differences on additional regulation of financial markets.
Members of the Group of 20 will endorse steps already underway to fight a global recession by pursuing active monetary and fiscal policies and propose ways to bolster the role of the International Monetary Fund, French officials told reporters on condition they not be named.
They will hide disagreements between the U.S. and European governments over the future shape of the international financial system. Leaders will commit to toughening domestic market regulations before the end of April and meet again to discuss joint efforts by May after U.S. President-elect Barack Obama takes office, the French officials said.
I have previously remarked upon the mismatch of national expectations that has characterized the run-up to this G20 summit. Expectations of European publics have been stoked by their leaders, Sarkozy and Brown particularly, to see this as the step to creating a new Bretton Woods – i.e., a binding global regulator. Although as things got closer to the actual summit itself, even in Europe expectations were ratcheted down, what Sarkozy and Brown have urged is far beyond Bretton Woods in several important ways:
- Bretton Woods was about monetary policy; the new regulatory bodies proposed by Europeans are directly about financial market regulation, something that extends far beyond central banks. After all – uncomfortable as it is for European politicians to acknowledge – one reason Europe is in this situation is far from US actions spilling over; it is European banks regulated by national authorities undertaking precisely the same kind of leverage. It was not by accident, after all, that when the European Central Bank was created, European governments pointedly declined to give it power to regulate financial markets. Monetary policy and financial regulation are two very different things, as the mandate of the ECB, what it encompasses and what it does not, makes clear.
- Bretton Woods was about a qualified gold standard in which the US dollar, as the reserve currency, enjoyed certain privileges, as De Gaulle correctly pointed out, but also certain limitations in the form of gold convertibility, as De Gaulle also correctly took advantage of. Without any connection to gold today, new monetary and financial regulation is far more in the hands of fiat bankers than Bretton Woods. (I have always found the gold standard intellectually bizarre, but in fact it has operated to constrain money creation by pure fiat, even if by a purely irrational mechanism. Peter Bernstein has a lovely history of gold in finance, very readable.)
- Bretton Woods was an exercise in what I have elsewhere called “robust multilateralism” – countries could, if they wanted, exit the system, among other things. it benefited from a hegemon (in the Western bloc, anyway) to underpin it – exchanging the costs of holding the system together (until Volker and Nixon ended it when finally completely unsustainable) for the extra-economic benefits of stability in a hegemonic world and the privilege of being the reserve currency (i.e., being able to externalize US dollar inflation). Bretton Woods as a system was not a supranational regulator in the sense that the strongest versions are being proposed today. The move to a supranational system, able to impose a single standard on everyone to avoid moral hazard, beggar thy neighbor, free riding, and so on, is understandable – but also mad, if only from the standpoint of economic rationality, because national economies are simply in such different economic circumstances that no supranational regulation could deal with the inevitable clashes involved. Think of the problems in monetary policy alone for the ECB to manage – with economies as different and so completely out of synch as Italy and Britain and Germany – and then multiply that worldwide.
The United States, by contrast, has consistently downplayed what could conceivably be accomplished in such a meeting, for obvious reasons. The US in the middle of a presidential transition, an administration with a few weeks left, being replaced by an administration uncertain of what it intends but with the certainty that it intends things different from the current one. Obama will not attend – on pragmatic grounds that there is little to be gained except elevating already stratospheric expectations, and on correctly principled grounds that the United States has one president at a time; his representatives are, presumably deliberately, not finance or economic experts. The New York Times titles one column today “Meeting’s Key Decision May Be to Keep Talking,” which is almost certainly about right. The Washington Post has more sensible advice on what you can get out of these kinds of meetings in its editorial today; columnist David Ignatius merely channels what, after everything that has come out in the last month about lending standards by European banks, can only be counted as Continental propaganda in his Thursday column (America “having fouled the global economic nest” – more than, say, the City of London? Please.)
President Bush delivered a speech at the Manhattan Institute on Wednesday in which he both urged greater regulation but also cautioned against grandiose plans for global regulators. The press, being the press, picked up mostly on the cautions against over-regulation – channeling European reaction, plus ca change – but in fact it is filled with regulatory proposals, simply that they are proposed for national domestic regulators acting in global coordination:
In addition to addressing the current crisis, we will also need to make broader reforms to strengthen the global economy over the long term. This weekend, leaders will establish principles for adapting our financial systems to the realities of the 21st century marketplace. We will discuss specific actions we can take to implement these principles. We will direct our finance ministers to work with other experts and report back to us with detailed recommendations on further reasonable actions.
One vital principle of reform is that our nations must make our financial markets more transparent. For example, we should consider improving accounting rules for securities, so that investors around the world can understand the true value of the assets they purchase.
Secondly, we must ensure that markets, firms, and financial products are properly regulated. For example, credit default swaps — financial products that insure against potential losses — should be processed through centralized clearinghouses instead of through unregulated, “over the counter” markets. By bringing greater stability to this large and important financial sector, we reduce the risk to our overall financial systems.
Third, we must enhance the integrity of our financial markets. For example, authorities in every nation should take a fresh look at the rules governing market manipulation and fraud — and ensure that investors are properly protected.
Fourth, we must strengthen cooperation among the world’s financial authorities. For example, leading nations should better coordinate national laws and regulations. We should also reform international financial institutions such as the IMF and the World Bank, which are based largely on the economic order of 1944. To better reflect the realities of today’s global economy, both the IMF and World Bank should modernize their governance structures. They should consider extending greater voter — voting power to dynamic developing nations, especially as they increase their contributions to these institutions. They should consider ways to streamline their executive boards, and make them more representative.
In addition to these important — to these management changes, we should move forward with other reforms to make the IMF and World Bank more transparent, accountable, and effective. For example, the IMF should agree to work more closely with member countries to ensure that their exchange rate policies are market-oriented and fair. And the World Bank should ensure its development programs reflect the priorities of the people they are designed to serve — and focus on measurable results.
But now, let me switch gears from international business and finance professor to international law professor interested in transnational governmental regulatory networks, of the kind that Jenia Turner’s SMU conference ten days ago rather presciently took up. One of the leading proposals under discussion this weekend – who knows if it will go anywhere, or whether instead like the vast majority of Gxx confab proposals, Gleneagles, etc., serve as a photo op for world leaders and forgotten promptly thereafter – is for a new thing called the “college of supervisors.”
Note the language, and how it is drawn from the language of transnational regulatory networks. “College” has a, well, collegial sense to it. Not a word like “tribunal” or even “council” – let alone, oh say, “Supranational Financial Regulation Enforcement Unit of Black Helicopters.” But now the perennial issue for transnational governmental regulatory networks … in the present, the language and intentions are very soft – all about coordination, information sharing, even standard practices, best practices, etc. This is essentially how it was endorsed by the G7:
Big banks welcome a decision by G7 policymakers to set up “colleges of supervisors” to track them more closely but caution that success will depend on U.S. reforms and how well regulators work together.
The Group of Seven gave the green light to over 60 recommendations at the weekend on how to make the world’s financial markets less risky and help avoid a repeat of a credit squeeze that began last year with defaults on U.S. home loans.
Steps include tighter supervision of how top international banks handle complex mortgage-backed investments that have tumbled in value, forcing banks to make huge writedowns — so far totalling about $200 billion — that unnerve investors.
Bank supervisors from countries that oversee a cross-border bank would liaise with each other and more directly and regularly with banks on key issues such as risk management.
The aim is to spot problems before they get out of hand.
The mismatch of expectations enters in what it is anticipated to be, or to develop into, over time. Everyone sees the benefits of trying to spot problems that move across jurisdictions before they “get out of hand.” The question is whether some of those establishing such a network understand it as eventually evolving into something far more powerful.
Of course there is the question of why this matters in the present: If there is common ground today on what is to be done, why worry that some participants have expectations for it in the future while others presume that it will essentially remain the same, at least insofar as its governance authority is concerned? Why indeed? The reason, of course, is that those expectations do come into play in how the network is formed, what its internal rules are, how the players interact together, etc. If you think that the network will never seek to become a mechanism of supranational regulation and governance then, somewhat paradoxically, you might well be inclined to grant it more latitude to act in the present than if you were concerned that other players were going to treat such concessions as ‘give an inch, take a mile’.
Conversely, it want the network to become something more than just a network – you want it to ‘evolve’ into an instrument of genuinely binding governance, then your incentives for how it is formed and how it acts also are changed. Expectations and hopes and fears for the future alter conceptions of a network’s architecture in the present.
And yet the nature of network language is such that it diplomatically accommodates both these views. “College of supervisors” – so diplomatic, so deliberately vague. Will it amount to anything? I should be clear that I am all in favor of “robust multilateralism” on these issues, including very strong networks that gradually create standards for members that are backed by actions by other members to punish free riding, and so on. And which even finally result in binding multilateral institutions such as the WTO. Not supranationalism, but robust multilateralism; there is a difference.
I also think, however, that those kinds of WTO-like institutions do not ever come about as immediate responses to crises, but instead are cautiously and deliberately fostered as states learn to trust repeat play over very, very long runs of time. The summit meeting announcement of heads of state could not be further from the kind of environment that fosters such forward-looking trust. On the contrary, the most natural assumption must always be that such announcements by governments, particularly by heads of state in joint meetings, are merely the usual pattern of multilateralism: extravagant but insincere promising, followed by defection.
And note – I think game theory sometimes underestimates this as applied to international organizations – defection often comes at the worst possible moment. Meaning that the promising goes along, on the surface, while underneath parties are preparing to defect. When the finally do defect, it happens at so late a moment that better responses that might have been available, had everyone more realistically accepted that this or that was not going to happen as promised, are no longer available. Funny, does this special scenario of collective action failure – surface smiles while preparing late defection that forecloses opportunities to stem the deepest losses – remind anyone of anything? The subprime crisis, the collateralized debt obligation market meltdown, the credit default swap failure …?
(I’ll come back later and add some more links.)