Preventing global economic meltdown
By Jon Fernquest[Introduction|Vocabulary|Article]
[Reading Questions|Answers]
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The heads of state of the largest countries in the world
currently face some very difficult decisions in setting their economic policy.
The funny thing is that we probably won't hear about their policy success, if they do succeed.
If they don't succeed, and there is a global economic disaster, we certainly will hear about it.
Being a head of state is a difficult job indeed. The interests of the people in the country have to be balanced against the interests of the world as a whole.
Without international compromise and international cooperation everyone in the world will be worse off.
The article was written by Harvard economist and former IMF research director Kenneth Rogoff.
World War II is this century's worst example of economic disaster followed by a major war. Our grandfathers who were young when this catastrophe happened many years ago would probably share these stories with us if we asked them to, but each new generation, young, full of energy, and confidence, believing they fully understand the whole story, risks repeating the same mistakes. History is often cyclical, repeating the same patterns over and over again. For those who want to read more on this topic, I would suggest the highly acclaimed story of Southeast Asia at war: Forgotten Armies: The fall of British Asia 1941-1945.
Reading Questions
Here are some questions to guide your reading (See answers at end):1. Who is participating in a series of meetings starting on September 18th?
2. What is the most important issue that these meetings face?
3. How is the US financing its trade deficit?
4. Has this situation ever happened before? (i.e. of the US financing its trade deficit with the rest of the world's savings?)
5. What exactly are the risks posed by the massive trade imbalances of the US? What are policymakers worried about?
6. Is an econmomic catastrophe considered more or less likely than gradual adjustments that solve the problem ("a soft landing")?
7. Why is it difficult to get the large economies (China, US) that lie at the root of the problem to take policy action towards solving the problem?
8. Is the UN more effective in solving problems between large countries or smaller countries?
9. What actions might the IMF demand of the US, China, and oil exporting nations to alleviate the problem?
10. What recent failure in international economic negotiations is not a good sign for the future of these IMF negotiations?
11. Why did WTO talks fail?
12. What will be the impact of the failure of WTO negotiations?
13. How can addressing global imbalances be a "win-win" situation for the largest economies that have to make the policy adjustments?
14. Country by country, list the ways that the proposed IMF adjustments can help domestic economies also?
15. Whose fault will it be if the IMF ideas are not adopted and there is a global economic catastrophe, according to the author? The IMF or the world's major economic powers?
Bangkok Post Article
Can the IMF avert a global meltdown?
Kenneth RogoffWhen world financial leaders convene in Singapore on Sept 18 for the joint World Bank/International Monetary Fund meetings, they must confront one singularly important question. Is there any way to coax the IMF's largest members, especially the United States and China, to help reduce the risks posed by the world's massive trade imbalances?
This year, the United States will borrow roughly $800 billion to finance its trade deficit. Incredibly, the US is now soaking up roughly two-thirds of all global net saving, a situation without historical precedent.
While this borrowing binge might end smoothly, as US Federal Reserve chairman Ben Bernanke has speculated, most world financial leaders are rightly worried about a more precipitous realignment that would likely set off a massive dollar depreciation and possibly much worse. Indeed, if policymakers continue to sit on their hands, it is not hard to imagine a sharp global slowdown or even a devastating financial crisis.
Although Mr Bernanke is right to view a soft landing as the most likely outcome, common sense would suggest agreeing on some prophylactic measures, even if this means that the US, China, and other large contributors to the global imbalances have to swallow some bitter medicine. Unfortunately, getting politicians in the big countries to focus on anything but their own domestic imperatives is far from easy.
Though the comparison is unfair, it is hard not to recall the old quip about the IMF's relative, the United Nations: When there is a dispute between two small nations, the UN steps in and the dispute disappears. When there is a dispute between a small nation and a large nation, the UN steps in and the small nation disappears. When there is a dispute between two large nations, the UN disappears.
Fortunately, the IMF is not yet in hiding, even if some big players really don't like what it has to say. The IMF's head, Rodrigo Rato of Spain, rightly insists that China, the US, Japan, Europe and the major oil exporters (now the world's biggest source of new capital) all take concrete steps towards alleviating the risk of a crisis.
Though the exact details remain to be decided, such steps might include more exchange-rate flexibility in China, and perhaps a promise from the US to show greater commitment to fiscal restraint. Oil exporters could, in turn, promise to increase domestic consumption expenditure, which would boost imports.
Likewise, post-deflation Japan could promise never again to resort to massive intervention to stop its currency from appreciating. Europe, for its part, could agree not to shoot its recovery in the foot with ill-timed new taxes such as those that Germany is currently contemplating.
Will the IMF be successful in brokering a deal? The recent catastrophic collapse of global trade talks is not an encouraging harbinger. Europe, Japan, and (to a much lesser extent) the US, were simply unwilling to face down their small but influential farm lobbies. The tragic result is that some of the world's poorest countries cannot export their agricultural goods, one of the few areas where they might realistically compete with the likes of China and India.
Fortunately for Mr Rato, addressing the global imbalances can be a win-win situation. The same proposed policies for closing global trade imbalances also, by and large, help address each country's domestic economic concerns.
For example, China needs a stronger exchange rate to help curb manic investment in its export sector, and thereby reduce the odds of a 1990s-style collapse. As for the US, a sharp hike in energy taxes on gasoline and other fossil fuels would not only help improve the government's balance sheet, but it would also be a way to start addressing global warming. What better way for new US Treasury Secretary Hank Paulson, a card-carrying environmentalist, to make a dramatic entrance onto the world policy stage?
Similarly, the technocrats at the Bank of Japan surely realise that they could manage the economy far more effectively if they swore off anachronistic exchange-rate intervention techniques and switched whole-heartedly to modern interest-rate targeting rules such as those used by the US Federal Reserve and the European Central Bank.
With Europe in a cyclical upswing, tax revenues should start rising even without higher tax rates, so why risk strangling the continent's nascent recovery in the cradle? Saudi Arabia, with its burgeoning oil revenues, could use a big deal to reinforce the country's image as a major anchor of global financial stability.
If today's epic US borrowing does end in tears - and if world leaders fail to help the IMF get the job done - history will not treat them kindly. Instead, they will be blamed for not seeing an impending catastrophe that was staring them in the face.
Let's hope that on this occasion in international diplomacy, the only thing that disappears are the massive global trade imbalances, and not the leaders and institutions that are supposed to deal with them.
Kenneth Rogoff is a professor of Economics and Public Policy at Harvard University, and was formerly chief economist at the IMF. Project Syndicate, 2006, www.project-syndicate.org
Vocabulary (in discussion above)
compromise - when people settle a disagreement by each person giving something of what they wanted to the other people, so that everyone feels that they've gained something and there is no longer any reason to disagree
a global meltdown - a global economic disaster or catastrophe (like a meltdown in a nuclear power plant, like Chernobyl)
convene - meet (come together for a meeting)
singularly important - very important
posed by - created by
trade imbalances - trade not in balance (some countries have a large surplus, others large deficits)
soaking up - receiving, flowing into in large quantities (like a sponge soaks up water)
without historical precedent - has never happened in history
borrowing binge - borrow money in a wild and uncontrolled fashion
a precipitous - sudden and sharp (like a cliff)
sit on their hands - do nothing
a soft landing - when a problem ends without a disaster
prophylactic measures - actions to prevent problems
have to swallow some bitter medicine - painful policy to solve a difficult problem
their own domestic imperatives - problems within their own country that determine policy
an old quip - an old critical saying or proverb
alleviating - eliminating, getting rid of, making a problem less severe
commitment to - will not change, will not abandon for something else (for example his commitment to his wife was absolute)
fiscal restraint - controlling government spending (so there is not a large budget deficit)
post-deflation Japan - after a collapse in stock and real estate markets at the beginning of the 1990s Japan was trapped in a long recession during the 1990s (See Wikipedia on Japanese asset price bubble)
intervention to stop its currency from appreciating - governments often intervene in foreign exchange markets to keep their exchange rate at a certain value (this can be dangerous as it was for Thailand in 1997; read Paul Krugman's essay on the 1997 Asian Economic crisis in Thailand translated into Thai, look for "The Return of Depression Economics" at the Paul Krugman archives under "Crises")
shoot its recovery in the foot - do something stupid that stops your economic recovery
contemplating - thinking about doing
brokering a deal - negotiating a deal between two parties (countries)
harbinger - sign of things to come in the future
face down - face a problem, take actions to control the problem (challenge a powerful group, the farmers, and be strong enough to not give them what they demand)
farm lobbies - people trying to influence politicians to give farmers want they want
a win-win situation - everyone gains (the opposite of a zero-sum situation in which one only gains at the expense of someone else)
curb manic investment - stop crazy investment (investors are over enthusiastic and over-confident, pouring money into the export sector without thinking)
fossil fuels - fuels like oil or coal, that come from ancient dinosaur remains (fossils), that will run out in the future (exhaustable)
technocrats - scientists, engineers, and other experts who have technical knowledge as well as political power
swore off - you will never do it again (you claimed or swore this)
anachronistic - old and out-of-date, old-fashioned, no longer in use
exchange rate intervention techniques - when a country buys or sells it currency to keep its exchange rate at a target level, so that market forces will not make it appreciate or depreciate (in Japan's case appreciation would make its exports more expensive) (See Wikipedia on foreign exchange market and fixed exchange rates)
interest rate targeting rules - the central bank sets borrowing rates for banks and conducts open market operations selling government for money that it injects into the economy, or buying government bonds and taking money out of the economy, and it does this to achieve a set target interest rate (See Wikipedia on monetary policy and open market operations)
cyclical upswing - good economic times, the business goes up and people prosper
nascent - just born, newly born
in the cradle - still not very old, hasn't existed for very long
burgeoning - increasing a lot
history will not treat them kindly - they will look bad, in the future when the history of these events is finally written
impending - about to happen, on the verge of happening
Answer Key:
1. Who is participating in a series of meetings starting on September 18th?
The World Bank and the IMF.
(They are "joint" meetings)
2. What is the most important issue that these meetings face?
How to pressure the largest members, China and the US, to "reduce the risks posed by the world's massive trade imbalances."
3. How is the US financing its trade deficit?
The US is financing its trade deficit with the savings of the rest of the world ("soaking up roughly two-thirds of all global net saving").
4. Has this situation ever happened before? (i.e. of the US financing its trade deficit with the rest of the world's savings?)
No. (It is "a situation without historical precedent")
5. What exactly are the risks posed by the massive trade imbalances of the US? What are policymakers worried about?
They are worried about a sudden and sharp realignment that triggers a very large dollar depreciation. A sudden global economic slowdown or financial crisis might result from this.
6. Is an econmomic catastrophe considered more or less likely than gradual adjustments that solve the problem ("a soft landing")?
A catastrophe is considered less likely than gradual adjustment. ("Mr Bernanke is right to view a soft landing as the most likely outcome")
7. Why is it difficult to get the large economies (China, US) that lie at the root of the problem to take policy action towards solving the problem?
Both countries will have to "swallow some bitter medicine." In policy, however, both big countries are focused on domestic problems. ("their own domestic imperatives")
8. Is the UN more effective in solving problems between large countries or smaller countries?
Between smaller countries.
There is a saying: "When there is a dispute between two small nations, the UN steps in and the dispute disappears. When there is a dispute between a small nation and a large nation, the UN steps in and the small nation disappears. When there is a dispute between two large nations, the UN disappears."
9. What actions might the IMF demand of the US, China, and oil exporting nations to alleviate the problem?
The IMF might demand from:
a. China: More "exchange-rate flexibility."
b. The US: "Greater commitment to fiscal restraint."
c. Oil exporters: An increase in "domestic consumption expenditure" to "boost imports."
d. Japan: Refraining from exchange rate intervention "to keep its currency from appreciating."
e. Europe: No new taxes.
10. What recent failure in international economic negotiations is not a good sign for the future of these IMF negotiations?
The collapse of the Doha round of WTO negotiations.
11. Why did WTO talks fail?
"Europe, Japan, and (to a much lesser extent) the US, were simply unwilling to face down their small but influential farm lobbies.
12. What will be the impact of the failure of WTO negotiations?
The "world's poorest countries" will not be able to "export their agricultural goods."
If one wants these countries to pull themselves out of poverty (who doesn't?) this is essential because it is "one of the few areas where they might realistically compete with the likes of China and India."
13. How can addressing global imbalances be a "win-win" situation for the largest economies that have to make the policy adjustments?
These policy adjustments can also help them solve internal domestic problems.
14. Country by country, list the ways that the proposed IMF adjustments can help domestic economies also?
a. China: Exchange rate appreciation ("stronger exchange race") would slow over-investment in export industries ("manic investment"), one of the factors that led to the 1997 Asian Financial Crisis.
b. US: An oil tax would help balance the government deficit and also help global warming.
c. Japan: Interest rate targetting rules in monetary policy, like the US and European central banks use, would be more effective than the exchange rate intervention that Japan traditionally uses.
d. Europe: Tax revenues will be generated automatically from economies that are now in an upswing. New taxes are not needed.
e. Saudi Arabia should spend its large oil revenues and become "a major anchor of global financial stability."
15. Whose fault will it be if the IMF ideas are not adopted and there is a global economic catastrophe, according to the author? The IMF or the world's major economic powers?
It will be the fault of the world's major economic powers.
