If Nicolas Sarkozy himself had written the prologue to his G20 presidency, he could not have done better. The run-up to the Seoul summit was marred with global monetary chaos and ensuing controversies. Whereas French intentions had initially been received sceptically, events have borne out the priority given to reform of the international monetary system (IMS).
The task is anything but simple. The subject is abstruse. No one has taken any interest in it for the last twenty years, and there are hardly any proposals on the table. The US, for whom IMS reform is synonymous with the decline of the dollar, are not keen and the Chinese, who launched the idea, lack precise ideas. Neither the US nor China is keen to move ahead fast. As for Europe, it is distracted with its internal problems.
But reform of the IMS is a legitimate aspiration. It breaks down into four key questions. The first is exchange-rate relationship. The currencies of the developed world have been floating against each other for several decades but this has only partially been the case for those of emerging and developing countries. Many are de facto linked to the dollar, others to the euro. But fixed exchange rates often lead to under-evaluations (as for China) or over-evaluations (as for Argentina before). The co-existence of exchange-rate systems is also uneasy because volatility tends to affect the floating currencies (often the euro, recently the Latin-American currencies). Thus the system is in need for reshuffle. The touchstone is the exchange regime of the renminbi. Beijing knows that it is not sustainable but is still reluctant to move.
The second problem is disciplining national policies in order to scotch the temptation to export domestic inflation or unemployment. Under the gold standard, or with Keynes’ "bancor" dream, discipline was automatic. With floating exchange rates it is not. An unwritten rule has emerged over the years that each central bank does as it thinks fit as long as inflation is kept stable over the medium term. This rule normally ensures a modicum of coherence and avoids overreactions in exchange rates, but it is insufficient in deflationary times. The Fed is arguing, with some justification, that its quantitative easing is compatible with price stability, while Europe deems it beggar-thy-neighbour behaviour. So what is needed is, according to the jargon, "surveillance". This is the role of the IMF, but its mandate is just that, surveillance, not punishment. It is also the role of the G20, but neither the US nor the emerging countries are keen on collective disciplines.
The third problem is that of international liquidity. Financial flows are excessively volatile. One day the emerging countries are submerged with capital inflows, the next they are faced with abrupt and equally destabilising outflows. In order to avoid their currency appreciating too much in the first case and sinking in the second, they are accumulating exchange reserves, two thirds of which are denominated in dollars. These reserves amounted to six per cent of global GDP ten years ago and now represent fifteen per cent. This unproductive accumulation is putting a brake on demand and has been one of the underlying causes of the crisis. What is needed in order to reverse this is to make such self-insurance unnecessary by guaranteeing access to international credit lines in case of abrupt outflows of private capital. The IMF started to do this when it created credit facilities which are not tied to the famous, and humiliating, conditionality. But suspicion of the IMF persists, and most countries, especially in Asia, still prefer costly self-insurance to a form of mutualisation perceived as uncertain.
The fourth problem is collective anchoring. Very naturally, most central banks are concerned with the inflation which they can control themselves – home-made inflation. But this leaves global inflation, helped by price rises for raw materials, without proper control. This was not an issue in the disinflationary environment of the last decade, but it is becoming more of one in a context of tension over commodity prices. Hence the proposal of Robert Zoellick, the president of the World Bank, to give a role to gold. The notion is absurd – Keynes had already spoken of gold as a "barbarous relic" - but the problem is nonetheless real.
The economist Robert Mundell compared a monetary regime to a political constitution because it establishes the rules of the game. The analogy is apt. But reforming the international monetary order – or rebuilding it from scratch – is likely to be a tougher job than (the routine job of) amending the French constitution.
© Bruegel
Key
Hover over the blue highlighted
text to view the acronym meaning
Hover
over these icons for more information
Comments:
No Comments for this Article