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About the project

From 2012 to 2016, the G20 Studies Centre at the Lowy Institute for International Policy produced independent research on global economic governance and the role of the G20, and supported research networks in Australia and overseas. The Australian Government provided funding to establish the Centre.

The archives of the Centre’s quarterly G20 Monitors (as well as other publications from the G20 Studies Centre) are available below. The Monitor brought together opinions from Australia and around the world to discuss developments in the G20 and suggest policy ideas.

The Lowy Institute will continue to comment and publish on economic governance issues.

Latest publications

G20: The case for an inclusive growth target

Earlier this year Treasurer Joe Hockey negotiated a significant commitment among G20 Finance Ministers to aim for an additional 2% of global growth over the next five years. As countries develop their action plans for achieving this goal in the lead-up to the next G20 Finance Ministers' meeting in September, it's worth considering whether this is the right target.

While the 2% target has been highlighted as a major achievement of Australia's chairing of the G20 so far — getting these nations to agree to anything these days is laudable — it is interesting that we have placed GDP growth at the centre of the G20 agenda. This commitment comes at a time when the economic orthodoxy of pursing growth above all else is being challenged.

Whether it is the work of economist Thomas Piketty, the OECD, World Bank, or even the IMF, economists everywhere are talking about the idea of 'inclusive growth'.

Inclusive growth seeks to consider not only the pace of growth but also its distributional impact. The World Bank argues that the 'rapid pace of growth is unquestionably necessary for substantial poverty reduction, but for this growth to be sustainable in the long run, it should be broad-based across sectors, and inclusive of the large part of a country's labour force.'

While the concept of inclusive growth and related ideas of equity economics and social inclusion have been discussed for some time, it really came to the fore in economic theory following the global financial crisis. What has emerged in recent studies is that despite the extraordinary accumulation of wealth and economic growth, inequality has increased, particularly in the US but also in Australia and other countries. This has spurred an urgent debate on broader ideas around growth and its impact.

Of course, growth is a good thing. But what the G20's 2% growth target fails to do is reflect the lessons of recent years that growth alone will not necessarily deliver benefits to everyone. The IMF has argued that tackling inequality is not antithetical to striving for growth. Instead the opposite is true: rising inequality is a drag on growth.

To provide further leadership at the G20, Australia should seek to build on the 2% growth target by adding the additional measure of inclusive growth. One option would be to commit to a 2% improvement in the incomes of the bottom 20% of households over the next five years. This would be simple, measurable, achievable and proportionate. It would incentivise nations to consider the distributional impact of growth and begin to address the inequality that persists in many nations, including our own.

It won't address all issues of measuring inclusiveness, particularly as income is just one measure of the distributional impact of growth, but it would be a start. 

Treasurer Hockey has an opportunity to build on his G20 success when he meets finance ministers again in September. By including even one measure that broadens the discussion from growth to inclusive growth, Australia would be leading the effort to finally grapple with inequality within and between our nations. Now that's a goal worth striving for.

Time to put security issues on G20 agenda

Given developments in the Ukraine and tensions elsewhere in the world, the time has come to put security and geo-political issues directly on the agenda for the meeting of G20 leaders, and for those leaders to bring their foreign ministers to the Brisbane Summit.

Soon after President Bush announced he was inviting G20 leaders to Washington for a meeting in November 2008, there was a phone hook-up by officials to discuss arrangements. The first issue raised was which ministers should accompany leaders to Washington. A number of countries said their foreign ministers should be there. As chair, the US said it was a meeting in response to a financial crisis and only finance ministers should attend.

In the years since, there has been a debate between finance and foreign policy officials as to whether the G20 leaders' agenda should move beyond economic issues. The argument from foreign policy officials was that focusing solely on economic issues was too narrow for leaders in a post-crisis world. Finance officials countered by saying that the legacy of the crisis was still prevalent, the agenda had already expanded too much, and it was better to consolidate the G20 before taking on new issues. As a former finance official, I argued for keeping the G20 focused solely on economic issues.

But when the facts change, you should reconsider your position. And in the light of developments, I now believe the G20 leaders' summit must move beyond economic issues and explicitly discuss security and political matters.

The focus on whether Australia should exclude President Putin from the Brisbane Summit has changed the character of the G20. While it is not up to Australia alone to determine whether Putin should attend a G20 summit, the mere discussion of whether he should come to Brisbane has brought security issues within the ambit of the G20. This is not a new development. The crisis in Syria dominated the St Petersburg Summit in 2013. But with geopolitical tensions rising across many fronts — Ukraine, Syria, Iraq, Gaza, North Korea, the South China Sea — the time has come to put security matters directly on the G20 Leaders' agenda.

In commenting on whether Putin should attend the Brisbane Summit, my colleague Michael Fullilove said he doubted Putin would want to confront a hostile public response at the Brisbane Summit. However, Putin may not show his hand as to whether he is coming to Brisbane until the last minute. Meanwhile, in the lead-up to the summit the Australian Government may be under significant public pressure not to let Putin come. Yet if Australia sought to exclude Putin, this may bring into question the attendance of some other countries. It would certainly be a contentious and distracting issue prior to the Brisbane Summit.

Another colleague, Sam Roggeveen, asked last week: 'if his (Putin) intransigence continues, will Abbott be able to greet Putin with a handshake in Brisbane before the world's media? That will make for an awkward photo-op'.

But there is an alternative approach to handling this matter. If geo-political and security issues were explicitly placed on the leaders' agenda for the Brisbane Summit, the Australian Government's position could be that Putin must come and account for Russia's actions in the Ukraine and elsewhere. In such circumstances, a stern-faced Abbott meeting Putin in Brisbane would make a very different photo-op.

Bruce Jones from Brookings previously suggested that leaders should bring their foreign ministers, national security advisors or relevant diplomats to Brisbane and be available in the event of a crisis which would demand leaders' attention. There are now sufficient geopolitical tensions demanding leaders' attention that security matters should explicitly be on the agenda for the Brisbane Summit. As Jones notes, 'there is no question that a phase of mounting geopolitical tensions has begun'.

Is the G20 the right forum to deal with security and political matters? The UN Security Council has its role, but it also has its limitations. The strength of the G20 is that it is a leader's level meeting and it is more representative than the G7. Moreover, escalating regional tensions are directly related to the performance of the global economy. As Nobel Laureate in economics Michael Spence has noted, 'at this moment in history, the main threats to prosperity — those that urgently need world leaders' attention and effective international cooperation — are the huge uncontained negative spillover effects of regional tensions, conflict, and competing claims to spheres of influence.'

Australia should be proactive. It should signal now that geo-political tensions will be discussed at the Brisbane Summit. But expectations should be managed. There should be no suggestions in advance that major breakthroughs or landmark agreements will be reached in Brisbane. Rather, it should be presented as an opportunity for some frank exchanges between leaders on issues of global importance. Moulding the G20 summit to cover such matters could be the legacy achievement for Australia's turn as G20 president.

Will Putin go to the Brisbane G20 Summit?

One consequence of the tragedy over MH17, apparently at the hands of Russian-backed separatists, is that it raises the question of whether President Putin should attend the Brisbane G20 Summit in November. Some newspapers are reporting that Australia is threatening to ban Putin.

The predominant view among the Australian public is probably that Putin should not be invited to the Brisbane Summit. But things are not straightforward and Australia may be placed in an invidious position. Moreover, depending on how things develop, the character of the G20 may change significantly.

The G20 is an informal forum. There are no rules on membership or revoking membership. Decisions are based on consensus. As such, it is not really up to Australia to decide not to invite a G20 member to a summit. This was made clear to the Australian Foreign Minister in March. In response to comments from Julie Bishop suggesting that Russia's participation in the Brisbane Summit could be brought into question because of events in Ukraine, the BRICS (Brazil, Russia, India, China, South Africa) foreign ministers issued a communique saying that they 'noted with concern, the recent media statement of the forthcoming G20 Summit to be held in Brisbane in November 2014. The custodianship of the G20 belongs to all member States equally and no one member State can unilaterally determine its nature and character'. The Russian Foreign Minister went further and said 'we altogether not just Australia formed the G20'.

But to repeat, there are no formal rules, and events have moved on since March. There are a number of scenarios as to how things could play out in the lead-up to the Brisbane Summit. The preferred outcome would be for Russia to co-operate on all fronts, including the investigation of the crash of MH17, bringing the perpetrators to justice, and resolving the situation in the Ukraine. In such a situation, tensions over Putin's attendance in Brisbane would decline.

Another scenario is that Russia's belligerent attitude continues and intensifies in coming months. All G20 members are outraged and agree that Russia's actions are such that they should not participate in the G20, including official meetings, the G20 finance minister meetings in September and October, along with the leaders' summit in Brisbane.

Such an outcome would change the character of the G20.

It would move from being purely an economic forum. A precedent would be set and political and security considerations would be a factor in determining future attendance, and would likely be discussed at the summit.

A third scenario is that Russia's attitude is considered less than acceptable to many countries but that some G20 members oppose excluding Putin from the Brisbane summit. The view of the BRICS will be particularly important. So far China has warned Western nations against rushing to implicate Russia. At the BRICS Summit on 16 July, leaders condemned the sanctions imposed on Russia to date. The position of some other European countries may also not be straightforward. Much of Europe's response to imposing sanctions on Russia prior to the crash of MH117 was weak, primarily due to the close economic interactions between Europe and Russia. Europe failed to present a united front on sanctions against Moscow and the Netherlands was among the European countries least inclined to challenge Russia.

If the last scenario develops, Australia could be in an invidious position.

Australian public opinion, and that in some other countries, may remain strongly opposed to allowing Putin to attend the Brisbane Summit. It is possible that, given such controversy and the prospect of a hostile reception in Australia, Putin may choose not to come. But if Australia did not let Putin attend, other countries may oppose and conceivably bring into question their attendance. Should this eventuate, the future of the G20 could come into question, particularly if those not attending were major emerging markets. The strength and significance of the G20 is that it brings together the leading advanced economies and emerging markets. In addition, political and security issues would be brought front and centre in G20 deliberations, overshadowing the economic agenda.

The coming months could be very tricky ones for Australia, given its role as G20 chair for 2014. At this stage the Prime Minister's approach is appropriate. He has been firm in his condemnation of the situation, acknowledged that Russia's attendance at the Brisbane summit is an issue, but said Australia would be reluctant to act unilaterally because it is an important international gathering and that it is necessary to see how things develop.

Photo by Flickr user Bohan_Shen.

Infrastructure: An opportunity for emerging economies

Low global interest rates since the 2008 global financial crisis seem to provide an ideal opportunity for boosting infrastructure investment. Bond rates have been historically low, so many governments can borrow at less than the rate of inflation.

There is spare productive capacity in most advanced economies, but weighed down by a heavy legacy of debt, few advanced economies have been in a position to support their slack economies by expanding the stock of infrastructure. Emerging economies, less hobbled by debt, have seized the opportunity, but have their own constraints. This graph tells the story.The constraint for advanced economies has been an overload of government debt. Despite the strenuous efforts to get budget deficits down, deficits persist and thus debt continues to rise. Former US Treasury Secretary Larry Summers, worried about secular stagnation, sees infrastructure spending as a key response and cites a list of US infrastructure inadequacies. So far, debt concerns have overridden his argument.

The emerging economies, on the other hand, had quite low debt, and have used the opportunity to expand infrastructure spending, albeit from a low base. China, as usual, is a special case. Much of its expansion was in the form of a huge financial stimulus in 2009, to offset the global crisis. Other emerging economies didn't match China's expansion but have also boosted infrastructure funding.

Most of this has been in the form of syndicated bank loans. Bank loans have the advantage of flexibility that suits the construction phase, but bonds are often a more appropriate form of longer-term infrastructure funding once the project is operational.  

Global financial markets, however, still have limited capacity to accommodate emerging economy bonds. Pricing anomalies are common. It's a puzzle why Indonesia has to pay 8% to borrow while Greece, with its dismal repayment record and patently unsustainable debt level, was able to issue 10-year bonds at 5%. More needs to be done, both by the national authorities and by financial markets (especially rating agencies), to develop these bond markets. The G20 may have something to say about this in November.

Of course there is a danger that low interest rates will encourage projects which aren't viable when funding costs return to normal. The Bank for International Settlements (the source of the graph above) is warning of the urgent need to shift interest rates back towards normal, with this sort of cheap-funding distortion in mind. No doubt there are white elephants among these projects. China is routinely mentioned in this context, but it seems pretty likely that Brazil has spent too much on football stadiums.

That said, the cost of the inevitable mistakes has to be weighed against the debilitating effect of inadequate infrastructure. Budget strictures are crimping maintenance in advanced economies, and most of the emerging economies (with the possible exception of China) have a long way to go before they have adequate infrastructure.

G20: dealing with too-big-to-fail banks, corporate tax avoidance, and development

This issue of the G20 Monitor addresses the ‘too big to fail’ dilemma of major financial institutions, combating tax evasion and avoidance through ‘base erosion and profit shifting’ (BEPS), and a report from the ‘G20 and Development’ conference hosted by the G20 Studies Centre and Griffith University.

When should the IMF apologise?

If you make a mistake, common courtesy says you should apologise. The IMF made a mistake in its forecasts for the UK economy — a high profile mistake. It admitted it got it wrong. But should the IMF have apologised?

In 2013, IMF chief economist Olivier Blanchard publicly said that UK Chancellor George Osborne was 'playing with fire' with his tight fiscal austerity measures. And in its 2013 annual report on the UK, the IMF forecast UK GDP growth at 0.9% in 2013 and 1.5% in 2014. The IMF called for an easing of fiscal austerity in order to support what it assessed as a 'nascent recovery.' The UK government's official response to the Fund's advice, as stated in the IMF's report, was 'any deviation from the announced plans for fiscal consolidation would be too risky.'

The Fund's forecasts were off the mark. The British economy grew by 1.7% in 2013 and the IMF is now forecasting growth of 2.9% in 2014. This would make the UK the fastest growing G7 economy.

In an interview in the UK, IMF Managing Director Christine Lagarde admitted that 'We got it wrong. We acknowledged it. Clearly the confidence building that has resulted from the economic policies adopted by the government has surprised many of us'. When asked by the BBC's Andrew Marr whether she should apologise to Osborne, Lagarde said 'Do I have to go on my knees?' The UK Telegraph called this a 'grovelling apology'. Was it appropriate?

Ashoka Mody from Princeton University has lambasted Lagarde's apology, saying that while it was unprecedented and courageous, it was wrong. Mody has two reasons. First, the Fund was wrong to suggest that fiscal austerity has boosted confidence and, in turn, growth. According to Mody, 'fiscal austerity does what textbook economics says it will do: the more severe the austerity, the greater the drag on growth'. His second concern is that the Fund is paying deference to one of its major shareholders.

Stephen Grenville recently commented in The Interpreter on the poor forecasting record of economists. If they had to go down on their knees for every forecasting error, they would have pretty sore knees. Grenville also noted that forecasters tend to cluster together. It was the same with UK forecasts. Her Majesty's Treasury publishes a comparison of independent forecasts and in March 2013, the average of 17 forecasters for UK GDP growth was 0.9% in 2013 and 1.6% in 2014, the same as the IMF. Everybody got it wrong.

Mody is right in saying that Lagarde was premature to conclude that the unexpected growth in the UK economy demonstrates that austerity measures led to greater confidence. Chris Giles from the Financial Times has noted that Britain's recovery is the subject of great fascination around the world. He summarises that the unexpected recovery was driven by either confidence, policy or a combination of both.

There is no single decisive force at play; the answer is normally 'all of the above'. The recovery was initially driven by a rise in household consumption, and policies were included in the 2013 budget to boost house price and mortgage lending. They appear to have been effective. Confidence did return and private investment has picked up.

Ajai Chopra agrees with Mody that Lagarde's apology was not warranted. Chopra believes the IMF was right to criticise UK fiscal policy, although he would say that, being the IMF's mission chief to the UK from 2008 to 2012. Notwithstanding the recent growth, Choppa points out that GDP has just returned to its 2008 level and the UK recovery has been one of the slowest in the G7, with only Italy doing worse.

Mody's second concern with the apology — that it shows favourable treatment towards a large shareholder — is disturbing, if true. But I think Mody is reading too much into Lagade's apology. For a long time the IMF has been criticised for being too soft on the major economies. However the forthright criticism the IMF directed at UK fiscal policy in 2013 demonstrated that this may be changing.

The IMF should acknowledge when it makes mistakes, but the most important thing is to assess and analyse why it was wrong. The IMF is meant to include in its annual country assessments a section on how authorities have responded to previous Fund advice. It wold be an improvement if there was also a section where the IMF reviewed the accuracy of its assessment of the outlook for each country and the appropriateness of its previous advice. If the IMF was wrong, the report should say why.

Such an approach would remove the need for knee-jerk apologies, and rather than undermining the credibility of the IMF, everyone might learn something.

Photo by Flickr user CarbonNYC.

G7 in Brussels: Mood matches sombre setting

The G7 leaders' meeting in Brussels concluded yesterday, the first such summit for fifteen years.

It was to have been a G8 summit hosted by President Putin at an idyllic golf resort in Sochi, the home of the last Winter Olympics. But G7 members boycotted the G8 summit following Russia's annexation of the Crimea. So instead of enjoying the delights of Sochi, the G7 leaders met in the sombre, unadorned European Council building in Brussels, surrounded by construction sites and rain.

This was also the first summit in the 40-year history of the G7/8 hosted by the EU. Who knew the EU was in the G7/8? Notwithstanding the EU claiming for several years that it was a full member, it had previously never been recognised. One G7 host once forgot to provide a chair for the 'European' representative. Unlike the G20 (19 countries plus the EU), the EU's presence is not reflected in the name of the G7/8 club.

Hence one unexpected consequence of the boycott of the Russia boycott was to elevate the EU to full G7 membership. This comes at a time when many are questioning why there are so many Europeans represented at international meetings such as the G20 (namely, European national governments plus European institutions).

Was the Brussels G7 summit a success? Not surprisingly, the focus was on Ukraine and the headline was that the G7 was willing to step up sanctions on Russia over Ukraine. But it is not clear what the trigger will be for tougher sanctions, or their nature. President Putin did not appear perturbed, although his pride would have taken a hit at not being able to host the summit. When asked how he felt, Putin said 'I would like to wish them bon appetit'.

For Putin, there is always Brisbane; Prime Minister Abbott has said that the Russian president is still welcome at the November G20 summit. And while Putin was excluded from the summit, Prime Minister Cameron and President Hollande did meet with him after the G7 summit, although apparently Putin and Cameron did not shake hands. Prime Minister Harper and President Obama were reported to have opposed these meetings. But if a negotiated solution is the objective, it is always best to have the relevant parties around the table.

The G7 released a 43 paragraph declaration following the summit, which has implications for the demarcation of issues covered by the G7/8 and the G20.

Since the elevation of the G20 to be the 'premier forum for international economic cooperation' at the 2009 Pittsburgh summit, there has been speculation about the relationship between the G7/8 and the G20. In addition to the Ukraine, half the G7 statement is devoted to commenting on security trouble spots across the globe: Syria, Libya, Mali and Central African Republic, Iran, North Korea, Middle East, Afghanistan, tensions in the east and South China sea and the kidnapping of the school girls in Nigeria. None of this would be found in a G20 declaration. So a clear demarcation between the two forums is the coverage of geopolitical and security issues.

But the criticism made of the G7 in this area is that it is 'big on words, no new action'. In part, this is because if any progress is to be made, the relevant players should be involved. For example, little progress was expected on Syria without the presence of Russia.

On the economic side, the G7 declaration suggests that issues dealing with the global economy, financial regulation and tax evasion are being left to the G20. The G7 declaration largely endorses the G20's initiatives in these areas. However the G7 does appear to be setting the pace when it comes to energy, climate change and development. It outlines a more ambitious set of objectives and commitments compared with the G20.

What has attracted headlines is the G7 commitment to a 2015 climate treaty, building on the momentum of the recent renewed efforts by the US to curb emissions. Furthermore, G7 leaders reaffirmed their commitment to mobilise US$100 billion per year by 2020 to address the climate mitigation and adaptation needs of developing countries. But the wording of the statement reflects tensions in the group. While the declaration says 'we will communicate our intended nationally determined contributions well in advance of the 21st session of the…(COP21) in Paris by the first quarter of 2015', qualifying words are added: 'by those parties ready to do so'. No doubt this was included to accommodate Canada.

The G7 statement will put pressure on Australia to cover climate change at the Brisbane Summit. So far Prime Minister Abbott has said climate change will not be on the G20 agenda because it is an economic summit, although he has conceded that it may be raised. The Brisbane G20 communique would look very odd without some reference to climate change.

So is the G7 back as the world's steering committee? Notwithstanding inevitable tensions within the group, the Brussels summit did demonstrate that, because G7 members are relatively like-minded, they can take positions on issues that would be very difficult in the G20. And every picture of the nine leaders sitting around an 'intimate' small table at the G7 summit stands in stark contrast to the large G20 summits. But the G7 inevitably suffers from the fact that its weight in the global economy has declined, and if leadership is going to be provided on some difficult global issues, then a more representative forum is required.

Photo by Flickr user Number 10.

The Indonesian economy: Back to the future after presidential elections?

With the Indonesian presidential race now reduced to two candidates, their economic programs are coming into sharper focus. The prospect is not reassuring.

Both Joko Widodo ('Jokowi') and Prabowo Subianto promise to be more dirigiste and inward looking. Jokowi, in particular, talks in terms of returning to Sukarno's concept of 'Trisakti', where the central economic principle is self-sufficiency ('standing on one's own feet'): 

In the economic field Indonesia must free itself from its deep dependence on foreign investment/capital/assistance and technology, and reliance on imports for food and other basic goods. Liberal economic policies which emphasise the market have left Indonesia dependent on foreign investment, while our natural resources have been drained away by multinational companies and their Indonesian compradors...The irony is that, for all its natural wealth, Indonesia still has to import foodstuffs...Food and energy security are two things that can't be bargained about any longer. 

This kind of language (check Das Kapital for 'compradors') has been absent from the mainstream Indonesian economic debate for 50 years, and with good reason. These are the policies that were implemented in the first two decades of independence, with abysmal results. Economic growth failed to keep up with population increase and by 1965 the economy was bankrupt.

In one of those unexpected disjunctures that history sometimes throws up, Soeharto — who might have been expected to favour command-and-control — delegated economic policy-making to a group of academic economists (the 'Berkley Mafia' or, more accurately, the 'technocrats'). Under the strong leadership of Professor Widjojo Nitisastro, they implemented sensible mainstream macro-economic policies (balanced budget, low inflation, small external imbalance) and encouraged a market-oriented environment. In the economic watershed of 1967, the economy was opened up to international commerce, with nationalised foreign companies returned to their former owners and new foreign investment welcomed. 

Thus began three decades of 7% annual growth which transformed the Indonesian economy and demonstrated that even basket cases could prosper, given competent macro-economic policies. Indonesia could have done better still with a less corrupt and more competent administration, but the absence of such things made it all the more important to rely on the market to determine prices and allocation wherever possible.

These market-based policies, reliant on imported capital and technology to drive exports and facilitate labour-intensive manufacturing, pre-dated the formalisation of the Washington Consensus.They were, in fact, the forerunners which demonstrated its validity. The technocrats were not doctrinal free-market ideologues. State-owned enterprises still dominate the 'commanding heights' and the technocrats were ready to nudge the economy and soften the sharp edges of capitalism. But they had a well founded suspicion of too much state interference.

These market-oriented principles did not go unchallenged. Habibie's aircraft manufacturer and Ibnu Sutowo's Pertamina empire building were diversions from the Washington Consensus precepts. But by and large the technocrats ran policy in the Soeharto era, to Indonesia's huge benefit.

The post-1998 democratic era brought new challenges to good economic policy-making. Business vested interests and self-interested politicians found new opportunities to divert decision-making to their own advantage. Democracy created new imperatives for fundraising. Devolution of responsibilities to the regions diluted policy coherence.

Whenever these departures occurred, the results have been unhappy. When Australia's beef export ban paved the way for monopolistic import quotas, the process was subverted and abused. Foreign mining investors were required to increase local ownership, but finding the domestic capital has been problematic. The ban on exporting unprocessed mineral ores is undermining foreign exchange earnings. Bank ownership rules were tightened, leaving Indonesia with a financial sector lagging behind its regional peers.

Despite these departures, the core planks of globally open and market oriented policies have, until now, remained in place. The economy remains open to foreign investment. Widjojo's technocratic successors still hold most of the key economic portfolios.

Will Jokowi, if elected, turn the clock back and reinstate the failed policies of the 1950s? He comes from a practical business background and has shown himself to be an adept administrator. His vice presidential running mate, Jusuf Kalla, is deeply experienced in both business and politics. The bureaucracy, too, will exert some inertia to prevent policy slipping the wrong way too quickly. 

In the meantime, Jokowi may learn a key lesson of politics: good economics sometimes requires pre-election promises to be broken or at least re-interpreted. Perhaps Australia should offer some bipartisan technical assistance on how it's done.

Infrastructure, tax, energy

This issue of the Monitor focuses on the role of the G20 in infrastructure, tax and energy governance. The Monitor opens with a reflection on a conference jointly hosted by the Reserve Bank of Australia, the Productivity Commission and the Lowy Institute, titled ‘Financial Flows and Infrastructure Financing’. There is also a note on trade.

Review: Tim Geithner's 'Stress Test' can't take the strain

Tim Geithner's Stress Test: Reflections on Financial Crises will be read mainly for its take on the 2008 financial crisis, as the author was head of the New York Federal Reserve and then US Treasury Secretary during this dramatic period. But Geithner was also present at the scene of all the financial crises of the past twenty years (starting with Mexico in 1994). He should have something interesting to say about the common threads that run through them. What did he learn from the early ones that helped him handle 2008?

In this aspect, his book is a disappointment. It records the struggle of hard-working and talented bureaucrats (he is fawningly laudatory of nearly all his colleagues) striving to make the problematic world a better place, battling the forces of unstable financial markets and a recalcitrant Congress. But it is a Sisyphean task. If the early crises provided him with any lessons in 2008, Geithner doesn't draw them out. Each crisis is faced anew, with policy combining first principles with ad hocery to weave a path through the thicket of complexity, half blinded by the fog of war.

Others are dissecting Geithner's  narrative of recent events. I'll focus here is on the earlier episodes: Mexico and the Asian crisis. What might we learn?

  • When a financial crisis arrives, it's always bigger than previously experienced or anticipated. Mexico had an IMF quota of just US$2.6 billion as a crisis backup, but needed US$40-50 billion to restore confidence. 
  • Cobbling together this sort of support on the fly creates challenges and hostages to future policy-making. In putting together the Mexican rescue package, Congressional approval was bypassed. This so incensed Congress that the US had no funds to draw on when Thailand and Indonesia needed help in 1997. This didn't stop the US from taking the leading role in directing the rescue. For example, the US strongly opposed the formation of an Asian Monetary Fund which might have mobilised much greater funding from Japan, motivated by the self interest of channeling funds to its own ailing banks.
  • Financial markets are powerfully pro-cyclical, with ignorant over-confidence replaced by total funk in the blink of an eye. Contagion spreads quickly and widely. The Mexican 'Tequila Crisis' was felt in Brazil and Argentina. We saw this repeated in Greece and the European periphery in 2010.
  • The success of the 1994 Mexican rescue was a victory for what Larry Summers called the economic version of the Powell Doctrine: decide who matters to you, and support the ones who matter with overwhelming resources. Mexico had just joined NAFTA, was a US neighbour (with potential for huge additional cross-border migrant flows) and was a test bed of the Washington Consensus market-oriented economic policies.
  • The Asian crisis may have been a demonstration of the economic Powell Doctrine too: Thailand and Indonesia received inadequate rescue packages, but South Korea (with 35,000 US troops on the ground) got an adequate package and additional measures (see next dot-point). But was the absence of the US in the Thai rescue (and the empty promise on the Indonesian pledge) simply an unfortunate consequence of Congressional anger at being bypassed on Mexico, or an application of the Powell doctrine? A clue may be found in the background comment of Ted Truman, US crisis veteran, on Indonesia: 'The quicker this f…ing regime goes, the better.' 
  • When you really want to help, ways can be found. IMF assistance to Korea easily broke all previous records, at 19 times its quota. Korea also required a US-orchestrated concerted standstill of foreign bank creditors, where foreign governments leaned on their home banks (including an Australian bank) to delay calling in the money owed, giving Korea crucial breathing space.
  • Doctrine has to be cast aside: the Korea standstill went against the strong antipathy towards any form of capital controls. Before the crisis, free-market advocates gave stern 'Old Testament' warnings about the dangers of 'moral hazard', the virtues of 'market discipline' and the logic of 'bailing in' creditors to punish foolish lenders. When the crisis arrives, these principles are cast aside with arguments about the 'least-worst solution' (this from Alan Greenspan, free market cheerleader). A rescue inevitably helps some who don't deserve it ('collateral beneficiaries'), often the very people who argued most vehemently against any interference in the market. 
  • 'Bailing in' creditors remains logically attractive but elusive in practice. When the crunch comes, the creditors are a vocal lobby. Their threat of spreading the contagion to other vulnerable situations usually wins the day (as it did so often in 2008). Was it a matter of high principle or Japanese self interest that prevented bail-in being a part of the Thai rescue? 
  • Geithner acknowledges that the fiscal lever was pushed the wrong way (towards more austerity) in the Asian crisis, but glosses over it as a minor issue. At the same time, he regrets that the US didn't 'sustain the initial power of the (fiscal) stimulus' after 2009. 
  • Similarly, no one would now repeat the sharp rise in interest rates and harsh tightening of liquidity that was a central plank of policy in 1997. Now the US can't get interest rates low enough and has to flood the financial system with liquidity through quantitative easing (QE). It is now acknowledged that trying to restore collapsing exchange rates with higher interest rates would be like trying to get the audience to return to a burning theatre by offering discount tickets.
  • We've come to understand that exchange rates, when under pressure, overshoot. We're ready now with intervention to support an overshooting exchange rate. We're even ready to weaken the exchange rate with QE, if that suits. 
  • Imposing economic reforms as part of rescues ('conditionality') is problematic. 'In general, crisis managers have to be careful about tying too many strings to emergency assistance', Geithner says. He says efforts to abolish the clove and cashew monopolies as part of the Indonesian rescue package were excessive. The nearest he comes to criticising one of his close colleagues is to say that David Lipton (now one of the most senior IMF officials) was 'playing General MacArthur, trying to reshape the Indonesian economy'.
  • When the crisis arrives, the safety net has to be drawn more widely. In Indonesia, the initial depositor guarantees covered only the banks which had already been closed. In 2008, just about everyone in the financial sector was covered.
  • Above all, the lesson is that it's cheaper to rescue than to clean up afterwards. Indonesia still bears the scars of the 1998 collapse.

Crisis rescue underwent a revolution during Geithner's time at the centre of the action. Mexico was the initial step towards expanding the scope and scale of the rescue process, which has now been extended to hopelessly insolvent countries (Greece in 2010) and to a country which seems to be in the process of dismemberment, the Ukraine.  How did we get here and where is this going? You won't learn the answers from Stress Test.

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