Financial Daily from THE HINDU group of publications
Friday, Mar 05, 2004
What causes Stiglitz's discontents
Mr Joseph Stiglitz... Globalisation has not brought the promised benefits to a lot of countries, especially to the poor.
What are his major points? One book which sums up his views, in addition to numerous articles, is Globalization and Its Discontents (Penguin).
Stiglitz is not against globalisation. He makes it very clear that globalisation freer international trade and global integration of economies can potentially bring enormous benefits to everyone in the world. In fact, export-led growth has enriched much of Asia and a lot of people are enjoying better standard of living. New foreign firms have introduced new technologies, provided access to new markets and introduced new products. Global connectedness has spread new ideas, forced improvement in working conditions throughout the world and has even helped foster anti-globalisation movement on a global scale! He is a strong believer in the importance of markets and incentives. But he also emphasises the importance of institutions and governance without these, markets cannot function efficiently.
His major discontent is about the way globalisation is being forced on many developing and transitional economies by the trinity of international organisations IMF, World Bank and WTO irrespective of the specific needs of those countries. He is against `one size fits all' approach. There is a huge imbalance of power between these institutions and the `client' states. So, while negotiating, the representatives of the client governments often keep silent in the fear that they may incur the wrath of IMF who would then not only cut off international assistance but also, indirectly, their access to global capital markets. Private capital flows depend a lot on whether a country is following the IMF policy prescription and would come to their rescue in the event the country comes to the brink of debt default. In the end, according to Stiglitz, globalisation has not brought the promised benefits to a lot of countries, especially to the poor people. He believes that in many cases the agenda of these institutions is dictated by the US Government in the interest of Wall Street, rather than in the interest of the people of these countries.
His sharpest criticism is directed against the functioning of IMF. Some of Stiglitz's critics detect a bias here in that Stiglitz has mostly spared the World Bank where he was a senior policy advisor though both the Fund and the Bank are involved in furthering the agenda of `Washington Consensus'.
What is this Washington Consensus? To put it simply, when a country is having serious economic difficulties, it should cut fiscal deficit, reduce subsidies, privatise state-owned enterprises, remove restrictions on international trade and capital movements. The term `Washington Consensus' was first used by economist John Williamson in 1989 to describe what he thought was a minimal policy package for Latin America that would be acceptable to Washington. A better income distribution objective was not explicitly mentioned by him as it may not be palatable to either Washington or to vested interests in Latin America. As a result, cuts fell heavily on food subsidies rather than subsidies for the rich. Then, this package, through repeated trials, became part of IMF-World Bank orthodoxy which came to be recommended for almost any country applying for IMF assistance, irrespective of the basic cause of economic crisis. Income distributional considerations may have been mentioned in IMF documents but it was never given the due importance.
The central problem in Latin American countries was often excessive and wasteful government expenditure and consequent inflationary pressures. Even if that policy package was somewhat appropriate (leaving aside the question of its actual implementation in terms of placing the cost of adjustment mainly on the poor through rise in food prices and unemployment) for Latin America, the same medicine was prescribed to tackle the East Asian financial crisis in 1997. According to Stiglitz and many other analysts, the problem in East Asian economies was not one of high fiscal deficits, subsidies or excess demands.
These were all high-saving economies, often with fiscal surplus and no balance of payment problems. Their number one problem was capital account convertibility, coupled with exchange rate rigidity and absence of prudential regulation in the financial sector.
Cheap short-term dollar funds were borrowed massively to finance investment in real-estates and secondary stock markets, fuelling a bubble. When it became evident that the bubble would burst, the investors (both domestic and foreign) resorted to capital flight before the domestic currency depreciates further.
Financial companies went bust one after another and massive capital outflow led to large exchange rate depreciation, causing the effect to spread to many other sectors and countries.
IMF responded by raising interest rate and fiscal discipline, which led to even higher cost and lower availability of funds for beleaguered banks and business firms facing a liquidity crisis. It did not allow exchange control to stop the capital flight, the loss of foreign exchange reserves and currency depreciation. In the process, it worsened the crisis. Malaysia was one country, which imposed temporary exchange control, without paying heed to IMF advice. It stemmed the crisis better than others. China and India, which did not have full capital account convertibility, remained largely unscathed.
Supporters of IMF policy, however, argue, that no one could predict that a crisis was coming in East Asia. It was a totally new situation for them. But they could not wait and watch. They had to act fast and in the absence of any precedent to go by, they followed their standard recipe. It may have been a mistake but it was not a conspiracy by Western powers. Stiglitz's point would be that in such a case, instead of acting in haste, they should have better said that they did not know the answer. Even if there was no full scale conspiracy, possibly IMF found it convenient to follow the standard prescription as it coincided with the vested interests of international bankers and shareholders who would like to get their funds out of a country in crisis as fast as possible.
They would also like IMF to have a handle on the policies of the government so that they do not go for default. IMF and US Treasury also took this opportunity to bend policies in client states (such as South Korea) to suit the interests of US business and finance. Most IMF economists trained in US universities with models of developed economies may not also have the time or expertise to study the objective economic, social and political conditions of so many different developing countries they would be advising.
Similar problems arose in reforming transitional economies such as Russia. IMF went for privatisation and markets almost overnight (`big bang'), without realising the importance of putting in place appropriate institutions for the markets to work. In the absence of proper institutions, the privatisation process degenerated to selling off shares at throw-away prices to vested interests and control by mafia-like organisations.
Again, the trouble was that the IMF policy-makers (unlike the Chinese) were too confident. They did not want to go slow (may be partly because they wanted to change the regime irrevocably before the communists could regroup to reverse the course) while trying out untested theories on millions of guinea pigs with disastrous results.
What are Stiglitz's remedies? He advocates democratisation and transparency of policy-making at IMF and World Bank. Instead of voting rights being proportional to economic power and contributions as at present, he recommends moving towards a more equitable one-nation, one-vote system.
It does not seem achievable in the near future. Perhaps, a greater degree of transparency and a wider debate are more likely to happen. He also proposes a plan by which any new global money creation by IMF (known as creation of SDRs) would be used to create global public goods and for projects specifically aimed at the poor. He has not, however, spelt out the details. As it often happens, the diagnosis of the ills of a system is the easier part, but solutions are not that simple or feasible.
(The author is Professor of Economics, Indian Institute of Management, Calcutta.)
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