south centre bulletin october 2011

8/3/2019 South Centre Bulletin October 2011

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Published by the South Centre ● www.southcentre.org ● 3 October 2011, Issue 56

Comments on thestate of globalfinancial regulation 2

SOUTH BULLETIN

The end of recoveryand start of a new

downturn Pages 4-6

Developing countriesface a lot of uncertain-

ties and volatilities— Dr Reddy (India)

The world is slipping fast into

a new financial and economic

crisis. Prominent experts at a

South Centre conference dis-

cuss how the recovery turned

into a new crisis, how the de-

veloping countries may be af-

fected, and what to do about it.

Pages 2-3

Bracing For A New Global Financial Crisis

Pages 7-9

Three possiblescenarios as South

faces the next crisis— Dr Soludo (Nigeria) Pages 10-11

Report on theConference on GlobalFinancial Turbulence:Options for

Developing Countries Pages 13-18



● South Bulletin ● Issue 56, 3 October 2011

By Martin Khor

I t is now clear that the world is slip-ping – or has already slipped – into a

new economic downturn, and that thiswill have serious consequences for thedeveloping countries. Indeed, someprominent economists have warnedthat this time the crisis will be moreserious and more prolonged than the2008-9 Great Recession.

Firstly, a double-dip recession isnow likely because of the sovereign

debt crisis in the European region andthe weakening of the US economy.Secondly, the tools that helped theworld quickly recover from the 2008-9recession (fiscal stimulus and easymonetary policy) are no longer so easi-ly available in the developed countries(or in some countries they are not avail-able at all). Thirdly, the kind of coordi-nation of policy actions among devel-oped countries (and several developingcountries as well) that fought the lastrecession no longer seems to exist, atleast in the immediate future.

A new global recession, or at best adownturn with slow growth, couldthus be more prolonged than the short2008-9 recession. The developing coun-tries could thus face serious economicproblems. In order not to be caught ashelpless victims to the new crisis, theyneed to take three types of action:

They should prepare themselveswith policy responses to reduce the

impact of the new crisis and the exter-nal shocks that may come with it, par-ticularly a sharp fall in exports(including in commodity prices anddemand), a reversal of capital flowsand a sharp decline in value of theircurrency.

They should review their previ-ous development strategies to see ifthey are still valid or whether changesare needed to respond to the changedinternational situation. In particular,

developing countries that have reliedheavily on exports to lead their growthmay now find a decline in demand es-pecially from the developed countries.

was co-organised with the ThirdWorld Network and the Consumers’Association of Penang and held at theInternational Labour Organisation inGeneva on 25 May. Linked to this con-ference, the Centre also organised anexpert group meeting on financial poli-cy issues on 24 May, and co-organisedan NGO strategy meeting on 26 May.

The Conference brought togethermany experts from the developingcountries as well as from internationalorganisations such as UNCTAD andthe ILO. Diplomats and policy makersfrom developing countries and NGOsspecialising in financial and economicissues also attended.

The theme and tone of the Confer-ence was set by a presentation on thecurrent global situation by the SouthCentre’s Chief Economist, Dr YılmazAkyüz. If the lessons of the last finan-cial crisis are not acted on through co-ordinated global action, there will be abigger crisis soon, and an even biggerone after that, he warned.

The world we face in the next 10years will be different, with the devel-oped countries facing massive publicdebts, said Y.V. Reddy, former Gover-nor of the Reserve Bank of India. Fromthe developing countries’ viewpoint,there will be a lot of uncertainties, andthey must prepare themselves to facethe uncertain future.

Agreeing with this, the former Gov-ernor of Nigeria’s Central Bank,Charles Soludo, said the key lesson forthe developing countries is that theyhave to prepare now for the next crisis,which is caused by coordination failureat the global level. When that happens,commodity prices are likely to col-lapse, and many poor countries mayface new debt crises.

Bracing For A New Global Economic Crisis

They need to examine how to relymore on domestic demand and on re-gional South-South cooperation.

They should also take an active partin the discussions on reform of the in-ternational financial and monetary sys-tem, as well as on the coordination ofmacro-economic policies of systemical-ly important countries. Developingcountries are adversely affected by thedysfunctional global system, and there-fore have an interest in its reform. Un-fortunately there is an absence of anappropriate system of global economicgovernance that enables the developingcountries to participate fully. Thus, thisis also a good time to advocate for es-tablishing such a governance system.

South Centre’s Recent Papers

The South Centre has been analysingthe global financial and economic situa-tion in the past three years. Its researchpapers on the global economy provid-ed suggestions on the policy responses

required to assist developing countriesduring the 2008-9 recession; examinedhow the LDCs were being affected bythe economic recession; and warnedabout how the recovery of 2009 wouldnot be sustainable due to global imbal-ances among key countries that impedethe expansion of global effective de-mand. The papers examined the ex-port dependence of Asian countriesand called for a review of developmentstrategies. And they warned abouthow the unregulated flows of capital

were continuing to cause boom-bustcycles that have devastating effects ondeveloping countries. They predictedthat the boom in capital flows and ineconomic growth could come to an endwhen the global situation changes.The accuracy of these analyses and pre-dictions has been shown by the recentevents.

South Centre conference on Fi-nancial Turbulence

The need for developing countries to

respond to a new downturn led theSouth Centre to organise a Conferenceon “Options for developing countriesin the global financial turbulence.” It

Developing countries are bracing themselves to face the hazardsof a new global financial and economic crisis. Prominent experts at a South Centre conference warned about the coming new crisisand the scenarios of how this would affect the South.

Market players watch as stock markets went

down in Europe as the financial crisis worsened.



was triggered by coordination failuresat the global level, and there will bemore crises if this is not addressed. Hegave three scenarios of what could hap-pen:

First, there would be greater globalpolicy coordination, with a world eco-nomic council setting rules for finance,disciplining major countries and estab-lishing an independent panel for resolv-ing debt crises.

Second, the present situation contin-ues without global governance, eachcountry sets its own policies, but thereis regulation of financial institutionswith cross-border effects, and a fund isset up to provide financing to develop-ing countries hit by external shocks.

In the third scenario, there is onlytalk of reforms but no global action.Each country then tries to protect itselfagainst a future crisis, by building for-

eign reserves, in a race to the bottom.This may be supplemented by regionalfinancial measures.

Need for South to be Pro-active

Reddy commented that there had beentoo much of shadow banking in thepast without the knowledge of whetherthe institutions and financial instru-ments are safe or toxic. The problemsof financial institutions being “too bigto fail” or “too powerful to regulate”remain.

In developing countries, it is neces-sary to design a financial system thatnot only avoids instability but also pro-motes development. Since the marketsdo not ensure stability or development,governments have to take charge andthey must not give up the space forpublic policy.

Therefore countries must be allowedto have the policy space. It is importantthat there be diversity of policies. In thedeveloped countries, the financial insti-

tutions were practicing the same modeland making the same mistakes, and thisled to a failure affecting the system.Those regulators that did not follow

this model were able to avoid a crisis.

Up to now, the developing coun-tries had been reactive (only reacting toothers’ views) in the global debates onfinance. Reddy urged researchers andpolicy makers to examine the realitiesin developing countries and to be pro-active in voicing their views on globaland national policies.

Malaysian researcher and former

banker, Lim Mah Hui, made four poli-cy proposals for Asian countries.

First, Asia should not follow theAnglo-Saxon model of finance butbring back the role of the financial sec-tor as serving the real economy. Se-cond, Asian countries should rebalancetheir economic growth by reducingtheir export dependence and also re-ducing income inequalities.

Third, Asian countries should rein-vest their savings in the region. The

foreign reserves should be invested inthe region itself rather than beingchannelled to the West only to be recy-cled from there to Asia.

Fourth, in view of the volatility ofcapital flows, Asian countries shouldbe prepared to make use of capital con-trols to avoid the adverse effects.

In the rest of this issue of SouthBulletin, the presentations of some ofthe key speakers are published, aswell as a detailed report of the ses-

sions of the Conference.

Martin Khor is the Executive Director of the South Centre


Akyüz said that the developedeconomies face a slowdown in the nextfew years, with the United States hav-ing to respond to their deficits, severalEuropean countries in debt crises, andthe steam going out of their previousreflationary fiscal and monetary poli-cies.

Asian countries will be able to con-tinue with their economic growth butat a moderate rate as most of them arenot so vulnerable to currency or bal-ance of payments problems. Howeverthe situation will be less orderly in Lat-in America and Africa, which are vul-nerable to changes in global financialconditions and commodity markets.

Akyüz warned that there may bebalance of payments crises in somemajor developing countries that havesignificant current account deficits andare thus dependent on the inflow ofcapital flows, since these flows mayreverse.

There is risk of fiscal and sovereigndebt crises in some developed coun-tries. And the sluggish growth andhigh unemployment in the North willincrease tension in the trading system,with the higher risk of protectionism.

Systemic reforms are needed inglobal finance, added Akyüz. There is

a lack of multilateral discipline on fi-nancial, macro-economic and exchangerate policies of major countries. Thereis an absence of control of financialmarkets, capital flows and speculation.And the G20 has failed so far to ad-dress these systemic issues.

According to Akyüz, globalizationhad been oversold to developing coun-tries, which were asked to fully inte-grate into the global financial markets.The lesson is that developing countries

should rethink their integration intothe world economy. They should seekstrategic integration (in areas and waysthat are beneficial) but not full integra-tion.

Three scenarios on the new crisis

Soludo commented that he was in-trigued by the scenario outlined byAkyuz and asked what would happenif the systemic problems are not tack-led. Akyüz replied that we can thenexpect another crisis, and without re-

forms an even bigger crisis after that,and the possibility of conflicts amongcountries.

In Soludo’s view, the financial crisis

Meeting held at South Centre to discuss the global financial crisis.

Producers of agricultural commodities in develop-

ing countries will be affected when a new global

recession reduces demand for their products.

A u b r e y W a d e / P

an o s .




By Yılmaz Akyüz

I will discuss the issues we are facingin the global economy today and

short and medium term prospects. In asense, I would like to give you a cock-tail of a series of papers on the globaleconomic crisis produced by the SouthCentre with some rethinking and re-

flections. I will first look at the currenteconomic conditions and problems inthe major economies, the US, Europeand China; then discuss the vulnerabil-ity of developing and emerging econo-mies to financial risks posed by ad-vanced economies, notably the US andEurope; and finally, global economicprospects with respect to stability andgrowth.

Life after crisis

We are facing renewed risks of instabil-

ity and slowdown before fully recover-ing from the so-called Great Recessionand the chances of averting such anoutcome are becoming quite slim. Thisis largely because the imbalances andfragilities built-up over several years inthe past as a result of misguided poli-cies in the US and Europe cannot beeasily undone, regardless of the policypursued today. These have resulted indistortions and imbalances in economicstructures and private balance sheets

and they cannot be corrected over-night. This is a main reason why re-covery in advanced economies is slug-gish, erratic and jobless.

The strong growth in developingand emerging economies we have beenwitnessing since mid-2009 is not sus-tainable because of the following rea-sons. First, it is the outcome of a strongpolicy response to the crisis whose ef-fects are wearing out in several devel-oping economies particularly in China

which has been a major locomotive tocommodity-rich developing countriesas the number one global commodityimporter. Secondly, the response to thecrisis in advanced economies through

current growth path, there is no wayfor the US to halve its public deficit byhalf by 2013, as it promised to the G20.

The US fiscal response to the crisisfocused on raising private consump-tion though perhaps it should haveemphasised investment, which is need-ed to accelerate export growth. De-

spite that, US consumers have beenretrenching. Any fiscal adjustmentcoming on top of consumer retrench-ment would bring down growth con-siderably unless exports closed thegap. President Obama’s National Ex- port Initiative launched in 2009 targetedto double US exports in five years, butthis is unlikely to be attained – itwould require 15 per cent growth an-nually but so far exports have grownby an average 10 per cent per annum,despite the bounce back from a de-

pressed level. It is unlikely that the UScan shift to an export-led growth in thenear future unless Europe deals quick-ly with its sovereign debt problemsand restores strong and broad-basedgrowth and developing countries, no-tably those in Asia, reduce their de-pendence on exports and maintainstrong growth based on domestic de-mand.

There is a risk that US interest ratesmay rise before full recovery is

achieved. First, the bubble in the com-modity market could be translated intoinflation particularly if oil prices con-tinue to go up, and the Fed may haveto respond in the same way as it did inthe late 1970s to the second oil hikeand rising inflation. Second, growingconcern over public debt and deficitscould lead to a surge in long-term in-terest rates – that current yields are

The End of Recovery And Start

Of A New Global Downturn

excessive liquidity generation andsharp cuts in interest rates is actuallycreating bubbles, not in Europe and US,but in commodity markets and the de-veloping world. This cheap money insearch for yield is a major factor behindthe rapid growth in several emergingeconomies.

That we now have a two-trackworld economy is a fallacy – very muchlike the belief initially held during thesub-prime crisis that the developingeconomies would be decoupled. Theseeconomies are still highly susceptible todestabilising and deflationary impulsesfrom advanced economies even thoughthere is considerable diversity amongthem regarding the channels of trans-mission of such impulses, the degree ofvulnerability and their ability to re-spond.

The US: Maybe no double dip, but many problems

A double dip recession in the US is nowbelieved to have been averted, but thereis little doubt that it is experiencing theweakest recovery in its post-war history– jobless and without much investment.This is often the case in recoveries fromfinancial crises because incomes need tobe used to address excessive debt andbalance sheet distortions before beingspent on investment and hiring new

people.

Growth forecasts in the US havebeen cut down by the Fed and growthis not seen as self-sustaining throughexpansion of private spending and/orexports. The policy of easy money pur-sued to sustain recovery has led to theweakest dollar in effective terms since1973, and is creating bubbles in the de-veloping world and commodity mar-kets. With weak and erratic recovery,the US is facing a growing public defi-

cit, presently at some 10 per cent ofGDP. The IMF expects US public debtto rise to 110 per cent of GDP in 2016,up from 70 per cent in 2008. Under the

The South Centre's Chief Economist Dr Yılmaz Akyüz gave a com-

prehensive and incisive analysis at the Conference of how the glob-al economic recovery came to an end, and why we are on the brinkof a new global downturn.

Dr Y ılmaz Akyüz making his presentation at the

South Centre conference.




very low is no guarantee that they willremain so in the foreseeable future.

Europe: unstable and uneven:

Europe has been grappling with sover-eign debt in the periphery and is en-gaged in fiscal consolidation and mon-etary tightening in its search for stabil-ity. Eurozone growth is anaemic - one

and a half per cent in 2010 – and ishighly uneven - Germany is growingmuch faster, relying on exports. Forthe rest of the Eurozone Germany isnot a locomotive but deadweight – itpursues a policy of competitive disin-flation. Its unit labour costs are lowerthan many other Eurozone countriesnot because of its exceptional produc-tivity growth but because of wage sup-pression. This creates considerabledifficulties in maintaining growth andexternal balance for countries incapableof cutting wages to the same extent.However, German exports and growthmay not be sustained if the rest of theEurope doesn’t do well.

The approach to sovereign debtproblems in Europe invokes memoriesof the 1980s. It cost a decade of devel-opment to learn that debt overhangcould not be removed by getting coun-tries into more debt and cuttinggrowth. Insisting that the debt shouldbe fully paid can make it even less pay-

able. The European periphery, unlikethe Latin Americans in the 1980s, donot have the option of devaluing theircurrencies except through deflation bycreating larger and larger unemploy-ment – a cure worse than the disease,as Argentina knows very well. If thecurrent strategy continues and the ECand ECB pretend that this is a liquiditycrisis, the European periphery will re-main susceptible to speculative attacksand messy defaults.

A growth-oriented adjustment inEurope calls for Germany to start act-ing as a locomotive. There is a need fora real appreciation of the Euro for Ger-many, but not for the others; that isthrough higher German wages. Thiscould generate faster growth in domes-tic demand needed to maintain growthwhile reducing dependence on exportsand allowing other Europeans to growfaster.

Growth and adjustment in China

China introduced a massive stimulusprogramme in response to the crisis,reaching 15 per cent of GDP, threetimes the US. But it focused on invest-

ments pushing it to over 50 per cent ofGDP. Support to household incomeshas remained moderate even thoughthe country faces a problem of under-consumption, with private consump-tion hovering around 36 per cent ofGDP, half the level of the US.

Chinese growth has also been

pushed up because of large amounts ofprivate foreign capital inflows. Beforethe crisis, private capital went almosteverywhere in the developing world insearch for yield. Subsequently, it waswithdrawn from most countries inCentral and Eastern Europe, and Chinahas become the largest recipient. Ac-cording to Chinese official estimations,one third of net capital inflows fromnon-residents are now in “hot money”,meaning not linked to investment andproductions. A quarter of FDI inflows

are in commercial real estate, adding tothe property bubble fuelled by rapidcredit expansion as part of the crisisresponse. The economy has been over-heating and the government is nowapplying monetary breaks to slow itdown.

China needs to reduce its depend-ence on exports and rely on domesticmarkets for growth. Its current accountsurplus fell from a peak of 11 per centof GDP in 2006 to around 5 per cent in

2010; now lower than the German sur-plus. Chinese adjustment needs to bebased on significantly faster growinghousehold income – that is, rapid ex-pansion of wages without a pass-through to prices, and employment.This would appreciate the currencywhile simultaneously creating domes-tic demand to offset the slowdown inexports. By contrast, a nominal appre-ciation of the RMB would not neces-sarily translate into faster domesticdemand. In fact, it could result in aslowdown in domestic demand if theburden is passed on to wages.

China now recognises the needs toshift to consumption-led growth. It hasrecently taken several measures interms of minimum wages, higher wagegrowth, faster job creation, emphasis-ing the services sector, better socialsafety nets etc. The 12th 5-year planenvisages several measures on thesefronts, but a shift from export-led toconsumption-led growth is a slow pro-cess particularly since it requires a sig-nificant redistribution of income fromcorporations to households, increased

government transfers and faster jobcreation.

Before the crisis Chinese exportswere growing at 25 per cent per an-num in real terms. According to mycalculations, around 50 per cent ofChinese growth was due to exports,including spillovers to domestic con-

sumption and investment. But thisfigure was around 90 per cent for Ger-many and between the two for Japaneven though all the attention has beenon China. Now China’s 5-year plan projects a 7 per cent growth, in recog-nition that China cannot keep on rais-ing its real exports 25 per cent per an-num as it did for 7 or 8 years beforethe crisis. If Chinese export growthfell to some 10 per cent, its GDPgrowth rate could indeed come downto 7 or 7 1/2 per cent without a mas-

sive shift to consumption. Attemptsto fill the gap with a new surge in in-vestment could simply amount topostponing the underconsumptioncrisis, to come back even with a greaterforce.

Impact of Chinese slowdown onother developing countries

What will happen if China slowsdown? Its strong growth has been amajor factor in the recent commoditysurge. Commodity stockpiling was a

reason for the emergence of a tradedeficit in the first quarter of this yearfor the first time for many years. Aslowdown from double-digit rates to 7per cent could have a serious adverseimpact on commodity exporters. Onthe other hand, over the longer term, asuccessful shift to consumption-ledgrowth could also shift the Chinesedemand from hard to soft commodi-ties, particularly grains and meat, ag-gravating the global food shortage. It

has indeed already turned from agrain exporter to an importer.

A slowdown in Chinese exports tothe US would hurt other countrieslinked to the Sinocentric productionnetwork even if this is fully compen-sated by increased Chinese domesticconsumption. This is because Chineseconsumption has little foreign content,directly or indirectly. Some countriesin the region are already facing the so-called middle-income trap with low

investment and sluggish consumptionbut large current account surpluses,like Malaysia at 16 per cent of GDP.An interregional redistribution of in-vestment from China to the other




countries in the region is needed.Countries in South East Asia also needto expand domestic consumption, andagain the problem here is worsenedincome distribution. But a shift of Chi-na from exports to domestic demandwould be good for some newcomers in

labour-intensive industries such as Vi-etnam, which could actually makemore headway into US markets.

Capital flows and bubbles

Following a short-lived interruptionafter the Lehman collapse in September2009, private capital flows to develop-ing countries recovered rapidly, partic-ularly to those with higher interestrates and better growth prospects.While almost all emerging economieshave seen their currencies appreciate,

appreciations have been faster in deficitcountries such as Brazil, India, Turkey,and South Africa than Asian surpluscountries. Like China, most deficitcountries are also facing credit and as-set bubbles, with credit growth in therange of 25- 35 per cent per annum,risking a hard landing.

There is a remarkable correlationbetween recent movements in capitalflows to developing countries, com-modity prices and the dollar. After the

outbreak of the subprime crisis untilthe Lehman collapse, capital flows todeveloping countries held up. Similar-ly, commodity prices which had startedrising in 2003 and accelerated in 2006,reached the peak in the middle of thecrisis in summer 2008 when oil hit $150per barrel. Why? The factors whichkept up capital flows to developingcountries also kept the flows into com-modity markets. The downturn wasseen as a hiccup and the growth wasexpected to pick up quickly – in fact,

the IMF was upgrading its globalgrowth projections in the middle of2008. But when Lehman collapsed,commodity prices and capital flows

twin benefits of global liquidity expan-sion, that is, the surge in capital in-flows and the commodity boom. Thisis more or less what happened in the1980s. Mexico which had enjoyed thetwin booms in the 1970s in internation-al lending and oil prices was the firstcountry to get into trouble in LatinAmerica in the early 1980s. Commodi-

ty importers such as Turkey and Indiamay benefit from a downturn in com-modity prices even though they mayget hurt by capital reversal.

In this regard, Asia is less vulnera-ble to balance of payments and curren-cy crises, because of sound balance ofpayments positions and strong re-serves. However, outflows could ex-plode bubbles, notably in the propertymarkets, as happened during the Leh-man collapse. Still, Asia can be ex-

pected to achieve an orderly modera-tion of growth. But adjustment incommodity-dependent and deficiteconomies may not be so orderly. Un-like Asia where reserves are earnedfrom current account surpluses in defi-cit countries they are borrowed, com-ing from capital inflows. Hence, with areversal of capital flows they can dis-appear as fast as they were accumulat-ed.

The global economy is in a very

fragile situation – with mountingbudget deficits and sovereign debt inadvanced economies, asset and creditbubbles and growing current accountdeficits in several major emergingeconomies. It is increasingly recog-nized that the world economy is un-likely to make a smooth transition to astable, sustained and broad-basedgrowth – hence the repeated talk of the“next crisis”.

Many of the current problems origi-

nate from systemic shortcomings inglobal economic governance. Despitegrowing interdependence, in particularin finance, there is lack of multilateraldisciplines over macroeconomic, ex-change rate and financial policies ofcountries that have a disproportionate-ly large impact on global economic andfinancial conditions. Similarly, therhetoric on financial regulations hasnot yielded any meaningful disciplineover financial markets and institutions.Despite a promising start in the coun-ter-cyclical policy response to the cri-sis, the G20 has unfortunately beenhighly ineffective in addressing thesetwo major sources of instability.

plummeted and the dollar shot up as aresult of flight to safety. But, from thefirst quarter of 2009 onwards, all thesewere reversed; dollar started weaken-ing, capital flows began picking up andcommodity prices started rising again.Strong Chinese growth was an im-portant factor in the commodity surge.But commodity speculation has also

played an important role.

How might the capital and com-modity bubbles be ended?

How will all these end up? I can seefour possible scenarios. First, these bub-bles could end with an abrupt monetarytightening in the US. It can happeneven before full recovery for the reasonsI have already discussed – that is, as aresult of rising inflation and/or bondmarket pressures. No matter what,near-zero interest rates are not there tostay forever, but the question is wheth-er they return to “normalcy” gradually(soft landing) or abruptly.

Second, a significant slow-down ofgrowth in China, possibly aggravatedby the bursting of the credit and prop-erty bubble, could bring an end to theboom in commodity markets and capi-tal flows. It could not only depress Chi-nese demand for commodities but alsotrigger a massive exit of speculativecapital flow from commodity markets.

Third, a balance-of-payments crisisin a major developing economy canbring an end to the boom in capitalflows by leading to a contagion acrossemerging markets. For example, Tur-key now has a current account deficitclose to 10 per cent of GDP and deficitsare also high and growing in some oth-er emerging economies. A suddenchange of moods in markets, as in EastAsia during 1997, could trigger a cur-rency and payments crisis in such coun-

tries.

Finally turmoil in the Eurozone re-sulting from sovereign debt difficultiesin the periphery could cause a flight tosafety in much the same way as theLehman collapse resulted in the rever-sal of capital flows even in emergingeconomies with sound fiscal and pay-ments positions and banking sectors.

In any of the four of these scenarios,it is highly likely that the downturn in

capital flows will be associated with areversal of commodity prices. As a re-sult, the most vulnerable countries arethose which have been enjoying the




By Yaga Venugopal Reddy

Let me start with the global financialturbulence. A lot of discussion has

taken place on why it happened. So letus think about what we are trying to doabout it now. There are four broadproblems - macroeconomic imbalances,loose monetary policy, financial sectorregulation and the financial architec-

ture.First, macroeconomic imbalance.

Many people say the reason was mac-roeconomic imbalances and they haveto be corrected. And having said that inthe broadest returns, what is imbalanceand who is responsible for it? There isstill some discussion going on. And theclosest to some sort of agreement at aglobal level is the G20 Declarationabout the indicators and monitoring.So if we take that, and we have indica-

tors given, first is that you pick up thecountries which have a spill-over effect.You better look at those countrieswhich are systemically important. Se-cond, you look at what they do, to theextent it has impact on the rest of theworld collectively and create peer pres-sure. I think this is good news and pro-gress towards defining imbalance. Butthe not so good news is that there isstill not a sufficient agreement as towhat constitutes imbalance before weagree on what to do. And whether

peers are willing to be pressurized bytheir peers is still not very clear. So the-se are the questions.

Having said that, let us look at theindicators that set the progress so far -public debt, current account deficit, etc.When we look at that there are twoaspects: technical and substantive.From a technical angle it is said thatpublic debt is a problem that createsspill-over effects. Did the public debt of Japan create a spill-over effect on the

rest of the world? I am not so sure. Didthe high public debt of India createimbalance either to India or to the restof the world? I am not so sure. The cur-

rent account surplus of Germany byitself, did it create trouble? Or was itmore an internal trouble in Europe? Butdid Europe as a region contribute to theimbalance of the rest of the world? Sowe should look at the evidence regard-ing each indicator and that are relevantto the individual countries under exam-ination. It becomes very difficult howtechnically sound we are in identifying

the imbalances through the indicators,before we say what has to be done.

Again, is the persistent current ac-count surplus a problem? Did Japancreate a problem? Did Germany createa problem? In the recent past at least?In the context of the crisis? Or is it Chi-na which is creating problems? Ourknowledge is not all that great on thismatter. What it means of course is may-be we are still looking at the currentproblems on the basis of the theoretical

framework that we had before the crisiswas caused. So if we are trying to solvethe problem with the same tool whichfailed and the same analytical frame-work which failed, then we may have aproblem. So that’s one at a technicallevel.

Then there are issues at a more sub-stantive level. Is it a good idea to saythat if there’s a country, let’s say China- a lot of people, working hard, saving,trying to create infrastructure, trying to

produce goods in a fairly economicalmanner for the rest of the world, andhere we are telling them please con-sume more. And that’s a good idea thatwe must consume more? If possible,work less, enjoy more? Are these goodvalues that have been agreed to for thewhole world to follow? I don’t know.So basically what I am saying is thatwhen we are discussing economic im-balances there is still confusion about(A) what is the economic framework?economic analysis? And (B), what is the

broader society and values and I thinkthese will have to be looked at.

Then we come to monetary policy.There are three questions that the cen-

tral bankers here know but the an-swers are not clear. What is money?How to measure it? And does it mat-ter? And usually every ten years thereis a committee which works in everycountry to answer these questions. Thequestions remain the same, the an-

swers keep changing.And in the global situation now

there are two issues: the internationalmonetary system and global liquidity.We are still trying to define them. Nowin such a situation, just now you heardthe analysis from my friend (YılmazAkyüz) that the monetary policy in theUnited States, quantitative easing, af-fects everybody else. So we have thissituation that the origin of the problemof the crisis in some ways is loosemonetary policy. So therefore if it isnot loose, should it be tightened in thefuture? If it is to be tightened in thefuture what is tight monetary policy?Again we are not sure about the ana-lytical tools.

The third set of issues we are per-haps less confused about but it doesn’tmean that we are knowing what to doabout it. The third is financial sectorregulation. I think there is a reasonableamount of agreement that unregulatedfinancial markets and less regulatedfinancial markets are the problem andin some countries there is an excess ofderegulation, excess of financializa-tion. The idea that the more the finan-

A Lot of Uncertainties and Volatili ties FacingDeveloping CountriesDr Y.V. Reddy, former Governor of the Reserve Bank of India (the

Central Bank), gave this presentation at the South Centre

conference, on the wide range of uncertainties facing developingcountries and the global economy.

Dr Yaga Venugopal Reddy, former Governor of

the Reserve Bank of India, speaking at the

South Centre conference.




cial transactions the better the pricediscovery, may not be correct. Up to apoint there may be better price discov-ery. Beyond that point if the financialtransactions multiply there will beprice distortion rather than price dis-covery. How do we ensure the bestpoint we do not know. But we do knowthat there are two extremes – not hav-

ing enough transactions will not resultin good price discovery. Having excesstransactions will result in price distor-tion. How do we try to strike a bal-ance? That’s where the regulator andthe institutional structures are sup-posed to come in.

We have seen some action at twolevels. Individual countries where themaximum trouble took place – USA,UK, to some extent Europe – there hadbeen legislative changes. There had

been what we may call the excess ofderegulation. There are some actions tocorrect them. That’s good news. Andrightly, very wisely, other countries arenot attempting any changes to the fi-nancial sector because we still do notknow what is the ideal financial sectorsystem, what is the ideal financial sec-tor regulation and we also do not knowhow to reach there. So it’s good not toact when you are not sure and let wiserpeople who have had better experience

start doing it. And that’s what is beingdone now.

But there is a problem. Yes, it is rec-ognized that there has been too muchof shadow banking, too much of uni-versal banking, too much of financialinnovation without knowing whetherthe innovation is good or bad, toxic ornon-toxic. They then address all theseissues. But the troublesome thing is asfollows: One, there is still a race to thebottom. Some are arguing that, if youintroduce regulation, institutions inLondon will migrate to the USA, peo-ple will go away, and therefore, it isbetter to have self-regulation. If thisargument succeeds, we will return tothe original problem of a race to thebottom at the level of national regula-tion.

Second, the tough part of the regu-lation is diluted in interpretation. Wehave seen what is the interpretation ofthe forex derivatives to be traded onthe stock exchange in the USA or thetimescale where you start with the im-plementation in 2019. So we have thedilution through time and the dilution

through operational detail. So that’s a

disturbing thing.And third is that institutions are too

big to fail - that is the most disturbing.Because once we’ve described particu-lar institutions as too big to fail, thenthere is the temptation to take infiniterisks. And then there is a sub-text ofthat, that this is too powerful to regu-late. And that it is too powerful to regu-late in terms of the political economyconsiderations which have come up. Sothese are the disturbing things in the

way forward. And then we have thewhole of issue of incentives but I leaveit there.

Now a second set of questions.There are three areas – internationalfinancial institutions, G20 and the inter-national monetary system. First, on theinternational financial institutions. Youmust strengthen the resources and therehas to be a variety of instruments. Yes,both the World Bank and IMF havesome instruments but whether they areadequate or not is a different issue. Al-so, there’s a governance deficit. Govern-ance should be improved. The processhas just begun. Perhaps it is the begin-ning of the beginning. We don’t knowwhen it will come to a satisfactorystage. And then what about the ideolo-gy, the ideological irrelevance of someof the policies? There is some question-ing. And more recently, I also helddiscussions but it is still not very clearwhether there is a concession to thenew reality or whether there is a recog-

nition that there should be a fundamen-tal review. I think that is still a questionmark.

Now we come to the architecture

in terms of the G20. It actually startedin 1997. It didn’t stop the crisis but weare now strengthening it. The finan-cial stability forum was started. Nowit was also reconstituted as the finan-cial stability board. So it is only thatthe institutional structures have beenstrengthened, improved but notchanged if we may put it that way.We are to look at that.

What will happen in the future? Itis an ad hoc organization, people

question its legitimacy. But in whatway may we look at it? There arethree possible scenarios. One, as ithappened before, it will be active forsome time and afterwards it will grad-ually become less active. Second, itwill undermine the existing institu-tions, the existing legitimate institu-tions, by having a parallel system andthen these become only the instru-ments of implementing G20, whichmeans in a way the treaty-based or-ganizations themselves are under-

mined through what we may call ex-tra-constitutional arrangements whichwill not exactly be right. So that’s asecond way of looking at it. The thirdis that OK, it will be there, and it willbe contextually used when there is aproblem. We do not know how it willgo.

Overall, what has happened is thedeveloping and emerging marketeconomies are still moving on the ba-sis of debates on the agenda that has

been set as a response to the crisis. Soeverything now relates to financialstability. But is this the most appropri-ate?

Participants at the South Centre/TWN/CAP conference included diplomats, policy makers,

NGOs, staff of UN agencies and academics.




public debt of rich countries has in-creased. Thus, the global allocation ofcapital, between the public and the pri-vate sector, between debt and equity,between advanced and developingeconomies will be a new ball game.

Next, in this new ball game, theeconomically powerful entities namely

the advanced economies, are they go-ing to conduct their policies the waythey conducted before the crisis? Un-likely. Because if you have a large pub-lic debt, that large public debt can bemanaged, as Reinhart and Rogoff hassaid, historically only in three ways –tax, inflation, financial repression. Idoubt whether any country will adoptonly one of them. And if we were go-ing to adopt three of them, there is aramification for global inflation. Thereis a ramification for possible financial

The whole issue now appears to behow to design a system that results infinancial stability and if we recognizethat governments will be an instru-ment that will ensure financial stabil-ity. But from a developing countrypoint of view development is just asimportant. In the past, they assumedthat markets will bring about stability,

will bring about most efficient alloca-tion of resources. Now they are con-ceding that markets do not automati-cally ensure stability. Then why areyou stopping there? Then it is alsopossible that markets do not necessari-ly ensure development. If this logic isright then you have to expand the de-bate about the use of financial sector,the use of state intervention mecha-nisms, use of global institutions tocorrect all market failures so as to en-

sure both growth and stability. So themajor task before developing andemerging market economies is to in-sist on broadening the debate to in-clude and give at least equal im-portance to development along withstability in the financial sector andrecognizing the limitations of the fi-nancial sector in automatically deliver-ing real sector results and insistingthat the debate should be broadened.

The world that we face in the next

ten, fifteen years is going to be verydifferent. Imagine some advancedeconomies having a public debt of ahundred per cent of GDP. Globally,the total public debt as a percentage oftotal GDP is going to rise because the

repressions in more advanced econo-mies because if you have to choose be-tween financial repression and heavytaxation, what will you choose? So thisis a new ball game. Not that we knowthe answers but it creates a lot of uncer-tainties.

So basically, from a developing

country point of view there are a lot ofuncertainties, a lot of volatilities. Wemay have to remember again is whatOliver Cromwell said “Trust in God andkeep your powder dry”. So the uncer-tainties and volatilities will require thatwe may have to trust our global institu-tions and knowledge but I think eachgovernment will also recognize thatultimately it is responsible for its citi-zens, which means many countries can-not afford to give up the space for na-tional public policy.

Dr Reddy (facing camera, extreme right) taking part in a finance expert group meeting

at the South Centre office, before the conference.

Recent Research Papers of South Centre

The following recent South Centre Research Papers can be accessed from the South Centre website at this URL:

http://www.southcentre.org/index.php?option=com_customproperties&task=tag&tagName=Tags%3

AResearch+Paper&Itemid=335&lang=en

Risks and Uses of the Green Economy Concept in the Context of Sustainable Development, Poverty and Equity

By Martin Khor, July 2011

Operationalizing the UNFCCC Finance Mechanism May 2011

The MDGs Beyond 2015 By Deepak Nayyar, May 2011

The Nagoya Protocol on Access and Benefit Sharing of Genetic Resources: Analysis and Implementation Options

for Developing Countries By Gurdial Singh Nijar, April 2011

Capital Flows to Developing Countries in a Historical Perspective: Will the Current Boom End With a Bust?

By Y ılmaz Akyüz, March 2011

The Right to Health and Medicines: The Case of Recent Negotiations on the Global Strategy

on Public Health, Innovation and Intellectual Property

By Germán Velásquez, January 2011




By Charles Soludo

I want to start exactly where Dr Red-dy stopped. But just a few clarifica-

tions. The overall focus of this sessionis on developing countries. But within

developing countries you have a hugespectrum. There are the LICUS coun-tries - the Low Income Countries Un-der Stress. There are the Least Devel-oped Countries. And of course thereare the emerging markets. I think whenwe discuss them in terms of agendas orhow this crisis has affected them andthe way forward we need to keep thisin mind - that they are different. Forsome of them it could be the differencebetween day and night.

Let me just summarize by sayingthat the key lesson for developingcountries is to prepare for the next cri-sis. And therefore the discussionsshould really be about how do we pre-pare the LICUS countries, the LDCs,the emerging markets for the next cri-sis. And that’s why I take from whatboth Reddy and Akyüz said this morn-ing. From all the scenarios on both thecapital flows and the commodity pric-es, this boom can’t continue. It willhave to end sometime. And who are

the ones who are primary commodityexporters? We’ve said it before, in mycountry, Nigeria, when the oil pricecollapses, it may not collapse exactly

for the same reasons that it collapsed inthe 1970s or early 80s but collapsesomeday it may. And how do we pre-pare especially in light of the fact thatmany of these countries today experi-encing boom are actually now involved

in pro-cyclical fiscal policies at times ofboom and that’s when they are alsoaccumulating huge debt and then whenthey are also involved in expansionarypolicies which are unsustainable. Myfocus is really on how do we preparefor the next crisis for developing coun-tries, least developed countries and soon.

If I look at the global financial tur-bulence and ask what is the root of it,my own summary is that it just starts

from the tension that here we have anincreasingly globalized world and theproblems we are facing, a large chunkof these are global but the solutionshave to be by national governments.And this tension will always be there.The fight for autonomy, for the sover-eign nature of states versus the prob-lems that happen to be global withcross-border consequences, contagionand so on.

The global financial crisis is simply aconsequence of the uncoordinated glob-alization - as a result of deficiencies inthe international institutional arrange-ments for crisis detection, prevention,management and resolution. We don’t

Three Scenarios As SouthFaces the Next Global Crisis

yet have it at that level for coordina-tion. And so global coordination fail-ures happen to be at the heart of it. Wecan get into the immediate causes ofthe crisis, about the lax monetary poli-cy and the lax financial regulationswhich are part of booming credit, lev-eraging and the subprime mortgagesand how they spilled over into some

other major economies and of coursethe contagion around the world fromfinancial crisis to global economic cri-sis. But we have got to keep an eye onthe root cause of the problem, namelythat we have now a world where youhave cross-border spill-overs that arevery significant but we don’t have acoordinated mechanism to ensure or-derly transition or where a crisis eruptsto ensure an orderly work-out. That’sthe missing link in the whole globaliza-

tion process both institutionally andotherwise.

Many of the poor countries havesome very nascent capital markets thatare just beginning to come up. The cri-sis led to massive outflows and therewas a collapse of many of the stockmarkets in these very poor countriesand they have not recovered. So thewealth effect of the crisis in many ofthese poor countries will be long last-ing and I’m not quite sure how you getthem to go back into the capital marketand have development as well.

A major point to be made is that fordeveloping countries especially for thepoor ones who had absolutely nothingto do with the crisis, they just woke upone morning and faced something likea tsunami coming from somewhere.They had done all the right things theywere asked to do and they were mak-ing progress. And then they wake upone morning and they see their capitalmarket collapse, and they see the com-

modity prices collapse temporarilybefore resuming. They had the firstimmediate balance of payment shocksand they had to go into distress bor-rowing, accumulating new debt and soon. Of course they don’t have the fiscalspace to have the kind of stimuluspackages undertaken in much of theWestern world. And therefore theyhave to resort to either external bor-rowing or going back again to centralbank financing of deficits with all the

consequences. So these countries arereally in a very bad shape. For severalof them it will take quite a while forthem to get out of this.

Dr Charles Soludo, former Governor of the Central Bank of Nigeria and

a member of the South Centre Board, told the Conference that develop-

ing countries must prepare now for the next financial crisis. He also

gave three scenarios of how policy makers will respond to the crisis.

Dr Jorge Marchini (Argentina), Dr Charles Soludo (Nigeria), Ambassador Marion Vernese Williams

(Barbados) and Dr Yaga Venugopal Reddy (India) at the panel on financial architecture and reform.




There’s no shortage of proposals onwhat to do. Everyone has their ownlitany of “if only we did this the worldwould become a great place” – the G20,the UN, the multilaterals, the NGOs,every institution has got a set of pro-posals on what needs to be done. Andespecially in the areas of financial sec-tor regulation and for developing coun-

tries the whole question of whether todesign or not counter-cyclical macro-prudential regulation or guidelines. Fordeveloping countries, I urge them tocarefully study many of these ideasand see which ones make sense, whichones can be implemented and whichones you can’t within the politicalboundaries.

I said the whole crisis was trig-gered because of either incomplete orimperfect coordination failures at a

global level. I think it’s very serious. Ifthe coordination does not take place,we are in for another crisis. Maybe theworld needs to go through even a moresevere recession to a depression for usto be forced to the new realities thatwe’re in to be able to think out of thebox, and to act on them.

I see three scenarios in terms of thenext crisis – what may eventuallyevolve. One scenario is that the worldwill either voluntarily or be forced into

a more aggressive coordination – aneconomic governance coordination –of the type proposed in the Stiglitz re-port for a Global Economic Coordina-tion Council or a WTO-type bindingcommitments and rules in respect ofinternational banking, capital flowsand macroeconomic coordination. Thiswill require more active governance ofthe international system, to coordinatethe provision of international publicgoods including economic and finan-cial stability. This may be a WTO-type

mechanism to regulate global financeand applying sanctions when neces-sary. Within this you can also have thesovereign debt tribunal or independentpanel. Without the enforceable sanc-tions for bad behavior, how can youcoordinate and enforce compliance ofthe systemically important countries?

Number two is to leave things asthey are. There may be a listing of inter-national best practices and standards.We just tell them what is good and thenlet each country take which one it likesand does and leave things as they are.Perhaps again there may be interna-tional regulation only for systemicallyimportant global financial institutionswith cross-border effects. Control andregulate only ones that have cross-border effects, and things will be OK. Inaddition, some of us believe, that in

addition to this if this is the interimstep, to design a compensatory contin-gency financing to be funded by whatwe call a globalization tax. There oughtto be a pool of funds, at the IMF orwhatever the institution is, even if wewould have created a new one wherethis pool will be. And this pool willmake mandatory transfers for the LDCsand LICUS countries in particular in aform like a Marshall Plan. To pull themup and participate in a world of une-qual economic powers but where every-one is required to compete under thesame rules. The globalization tax mightbe taxing capital flows but the tax reve-nue doesn’t get to the individual coun-tries. It gets into a centralized pool. Andthat is to make globalization work orfairer.

It could also provide internationalliquidity to countries with sound eco-nomic and financial management butare hit by unanticipated externalshocks. We can have some thoughts

about what this kind of fund or poolwould do but I think the world needsa pool that is mandatory in terms oftransfers but that does not necessarilydepend on the benevolence or kind-heartedness of somebody sitting therein a world where the laxity in the UScould bring so much rain in Nigeriaor Chad or in Eritrea in one morning,

and with no consequences and they just bail themselves out and thoseother ones can perish. I think we needsomething – a mechanism that oughtto be in place and that fund wouldhave to be it.

The third scenario is to just contin-ue to muddle through. There will bemore talk about reforms and seewhatever comes out of it, which iswhat is going on now mostly. There isa dominant mindset that somehow

things will fall in place. I don’t know.Maybe they will fall in place or maybethey will fall in pieces. But if we justadopt Option 3, I think we will befacing a race to the bottom becauseeach country then as a sovereign na-tion would start preparing for thenext crisis by itself and one of theways they do it is to self-insure. Mostdeveloping countries would start ac-cumulating reserves. Because weknow what happened the last time inNigeria, we lost $15 billion in about amonth in outflows. When the crisishit, the hot money had to leave quick-ly from the capital market - $15 bil-lion in one month. Of course thatcrashed the exchange rate, that led toliquidity crises in several banks, so onand so forth. So to self-insure, coun-tries accumulate reserves, and thiswill lead to a race to the bottom as itwere. We’ll be tightening regulation,mainstream risk management whileemphasizing development, rethink

the abandonment of developmentbanking, how to make it work, tochannel long-term funds, pensionfunds and so on to development projects. We will mainstream regionalcooperation. We have a lot to learnfrom each other, especially throughSouth-South exchanges. I want tocommend the work that the SouthCentre is doing and I think we needmore of this kind of cooperation andof course also skills transfer especiallyto our policy makers. Build skills, net-

work better because in the end I be-lieve for the LICUS, LDCs and theemerging markets, they have to standin a united way.

From left: Dr Charles Soludo (Nigeria) making a point as Dr Lim Mah Hui (Malaysia) looks on.




By Andrew Cornford

Major lessons of the crisis for fi-nancial regulation

1. The crisis illustrated how far-reaching contagion can be in globallyintegrated financially markets. By andlarge, with honourable exceptions like

Australia and Canada, the direct effectsof the financial contagion in the form ofthreats to financial systems involvedmajor financial markets in advancedcountries. However, the effects of thiscontagion on interest rates and priceshave been felt globally – by emerging-market and other developing countriesas have the challenges to policies inareas like the control of capital move-ments.

2. Regulation with a primarily micro-

prudential focus does not adequatelymonitor and control systemic or macro-prudential risks.

3. Regulation must keep up withtransactional and institutional innova-tion and other changes. Failures to ex-ercise control or even to actually out-right prohibit certain activities andproducts can exacerbate micropruden-tial and macroprudential risks.

4. Regulatory models relying heavilyon market signals provide inadequate

incentives for effective risk manage-ment.

5. Questions need to be faced con-cerning both the reality and the desira-

bility of the policy objective of in-creased global financial integrationbased on concepts like an internationallevel playing field and progressive re-moval of obstacles to the expansion ofinternational banking and to cross-border financial transactions. The crisishas highlighted the huge divergencebetween the capacity of advanced anddeveloping countries to subsidise finan-

cial activities (which in some cases inadvanced countries was required toensure the survival of large financialinstitutions and thus their continuationas participants – and thus competitorsof institutions from developing coun-tries - in international financial mar-kets). Furthermore the case for “speedbumps” in financial markets is nowstronger.

Concluding remarks1. Work on the agenda of financial

reform is still in flux. The bank lobbiescontinue to exert formidable pressuresin both the United States and the EUregarding many features of proposedreforms. A threat to the timely and fullimplementation of the Dodd-Frank Actin the former has emerged in the formthe reluctance of Congress to providethe funding required for finalising sec-tions of the Act and then implementingit.

2. The reforms enunciated under theinternational agenda have been very

much a response to problems revealedby the crisis in the regulatory regimesof advanced countries rather thanemerging-market and other developingones. Statistical data concerning thelatter suggest that at the aggregate leveltheir banks should be able to introducethe capital standards of Basel 3 withoutmajor problems, though some of itsrules for capital requirements for partic-ular sectors or activities may requiremodification in the light of local cir-cumstances. A source of greater diffi-

culties may prove to be the rules onliquidity management whose designersappear to have had fairly highly devel-oped financial markets in mind.

3. Beyond the debate on policy to-wards financial institutions that are“too big to fail,” the international re-form agenda has not addressed issuesposed by concentration in major coun-tries’ banking sectors (often greatersince the current crisis) or by the ex-treme difficulty of establishing effec-tive supervision, management and

internal controls for large complex fi-nancial institutions.

4. There are reasons to doubtwhether measures taken or envisagedso far have properly aligned incentivesand risks in the financial sector. Remu-neration in the form of shares waswidely and ineffectively used in sever-al financial firms before the crisis.Eventual success of the new rules onremuneration of the reform agenda islikely to depend the effectiveness of

provisions on clawback in response topositions taken by employees eventu-ally shown to entail excessive risk. Idream of reintroduction of unlimitedliability partnerships for investmentbanks/broker dealers (still commonuntil relatively recently and requiringbankers to write cheques to their insti-tutions in some years) or, if this tooradical, of arrangements which mimicthe functioning of such partnerships.

5. Adam Smith, regarded as the

father of free-market economics bymany (who often have probably neverread him), recommended the joint-stock-company form (as opposed tothat of the “private copartnery”) asappropriate only to banking whoseoperations were of a routine characterand reducible to strict rules. It is rea-sonable to assume that in making thisargument he had in mind speculativebubbles in his not too recent past. Iwonder what he would have made ofrecent financial excesses of the finan-

cial sector. I am confident that hewould have considered the activitieswith which they were associated asmore appropriate for “copartneries”than for institutions benefitting fromlimited liability.

Note: The full paper can be found on theSouth Centre website:http://www.southcentre.org/index.php?option=com_content&view=article&id=1581%3Asummary-overview-of-the-recent-

development-of-the-agenda-of-financial-reform&catid=65%3Ainternational- financial-institutions- governance&Itemid=67&lang=en.

Recent Developments in the Agenda of Financial Reform

Below is the introduction and conclusion of a paper on the state of

reform of the global financial regulation regimes, presented by

Andrew Cornford, a specialist and expert on global financial policyissues, and a former staff member of UNCTAD.

Dr Andrew Cornford




A conference on “Global FinancialTurbulence: Options for Develop-

ing Countries” was held in Geneva (atthe ILO headquarters building) on 25May 2011. It was attended by about100 policy makers, diplomats, civil so-ciety organizations and researchers andstaff of international agencies in Gene-va (especially ILO and UNCTAD).

The conference discussed variousaspects of the current global economicand financial situation, financial policy,macroeconomic issues and policy op-tions especially for developing coun-tries, and financial policy that are mostcritically affecting developing coun-tries.

Among the prominent participantsand speakers were former Central BankGovernor of India Dr Y.V. Reddy; for-mer Nigerian Central Bank GovernorDr Charles Soludo; Chairman of theG77 and China (Geneva Chapter), Am-bassador Mothae Maruping of Lesotho;President of the UNCTAD Trade andDevelopment Board, AmbassadorHomero Hernandez Sanchez of Domin-ican Republic; Arturo O’Connel(Advisor to Central Bank Governor,

Argentina), and Raymond Torres, Di-rector of the Institute for InternationalLabour Studies of the ILO.

The conference was organizedaround the following five sessions:

1. Current Global Economic Situa-tion: Issues at Stake for Developing

Countries.

2. Global Financial Turbulence, Fi-nancial Architecture Reform and Fi-nance Policy: Lessons for DevelopingCountries.

3. Review of International Regula-tions for Financial and CommodityMarkets.

4. Macro-Economic Policies andTrade/Investment Rules and Implica-tions for Financial Policy.

5. Conclusions and the Way For-ward.

Session 1: Current Global EconomicSituation: Issues at Stake for Devel-oping Countries

Martin Khor, executive director of theSouth Centre, said that the South Cen-tre is paying close attention to the caus-es of the global financial crisis as wellas its interface and effects on nationaleconomies in developing countries and

their policy options. Through its sever-al research papers on the crisis, theCentre had:

Analysed the global financial cri-sis, the needed reforms to the financial

architecture and the policy responsesthat developing countries could take.

Pointed out that the recoveryfrom the crisis had been heralded tooearly and the deep-seated problemsremain. It analysed how global imbal-ances are playing out between the sys-temically important economies andwhat needs to be done to address theinadequacy of global effective de-mand.

Examined the extent to which the

global economic slowdown will affectChina and in turn the Asian develop-ing countries that depend on importsto China that go as inputs into China’sexports. As China switches from ex-port-led to domestic demand-ledgrowth, the exports of the Asian coun-tries to China would be affected. Othersources of growth need to be devel-oped.

Analysed the reforms required tothe IMF and the international financial

and monetary system in light of therecurrence of crises and the instabilitygenerated by the present system. The-se are issues not addressed by the G20or other fora.

The South Centre has also pub-lished a paper, in cooperation withUNIDO, on the impacts of the globaleconomic crisis on Least DevelopedCountries (LDCs). The paper exam-ined how LDCs were the main victimsof the crisis and how a new round of

debt crisis could have been instigatedby the crisis. However, the increase incommodity prices have to some degreeaverted a new round of debt crisis inLDCs, but the LDCs remain vulnerableto a new round of economic slowdownand a downturn in commodity prices.

Yılmaz Akyüz, chief economist ofthe South Centre, analysed how differ-ent regions are faring from the impactsof the crisis and how the dynamics ofglobal macroeconomic imbalances are

playing out. Overall, the world econo-my is facing risks of further instabilityand slowdown. The G20 is not ad-dressing some of the key problems in

International Conference on Global FinancialTurbulence: Options for Developing CountriesThe conference, organised by the Consumers’ Association of Pe-

nang (CAP), the Third World Network (TWN) and the South Centre,

was held on 25 May 2011, at the International Labour Organisationin Geneva . Below is a report on this event.

At the opening session, from left: Mariama Williams (South Centre Fellow), Mr Martin Khor (South

Centre Executive Director) and Y ılmaz Akyüz (South Centre Chief Economist).



the world economy. The strong growthseen in developing economies since2009 is not sustainable, as the growthwas dependent on particular policyresponses whose effects are wearingout.

One major policy response to thecrisis that was easy monetary policy,

particularly in the US, and the excessliquidity has created bubbles in com-modity markets and asset and equitymarkets in the developing world. The-se bubbles are a major factor behindrapid growth in emerging economies,and with the ending of these bubblesrapid growth is likely to disappear, asthere is still considerable vulnerabilityto destabilizing factors, such as capitalflows, in emerging economies.

The peripheral countries of the Eu-

ropean Union are grappling with seri-ous sovereign debt problems in addi-tion to a wide-scale process of fiscalconsolidation and monetary policytightening. A growth-oriented adjust-ment is required in Germany. Europe’sdebt problems cannot be solved by get-ting the afflicted countries to cutgrowth and get into even more debt.The peripheral European countries ofGreece, Portugal, Spain and Ireland,unlike Latin American countries in the1980s, do not have the option of deval-

uation; the burden of adjustment fallson wages while the currency remainssubject to speculative attacks.

Akyüz described four scenarios inwhich the present capital flows to de-veloping countries and the bubbles canend. The first scenario is that the cur-rent boom in capital flows will endwith abrupt monetary tightening in theUS. The second scenario sees a signifi-cant slowdown of growth in China andthe bursting of property bubbles,

which could bring commodity pricesdown and trigger a massive exit fromcommodity markets. The third scenar-io is that of a balance of payment orfinancial crisis in one or a few majordeveloping economies, causing a sharpreversal of capital flows to developingcountries as a whole. And a fourth sce-nario is that of turmoil in the Eurozone,which may involve sovereign debt de-faults.

In the subsequent discussion, the

Mission of Pakistan in Geneva askedabout the plight of the commoditiesburden on the common person in low-er-income countries, which have virtu-

ally no voice in the decision-making ofinternational financial institutions andat the same do not possess adequatenational policy space to avert the im-pact of high commodity prices. TheGerman NGO WEED made a commenton how economic growth inflated byspeculation-driven bubbles in commod-ity and other asset and property mar-kets is “growth depressing and diverg-ing capitals from the real economy tothe financial economy.”

Chakravarthi Raghavan of theSouth-North Development Monitorstated that the US economy is so awashwith easy money, even though QE2 hastechnically ended, it is difficult to seehow the current liquidity will concludewithout creating a major depression asin the 1930s. Charles Soludo of Nigeriasaid that while the international com-

munity may understand what the majorcountries should idealistically do to ad-dress the systemic shortcomings in theinternational financial architecture, pol-icymakers in the major countries maynot want to play the roles they shouldto contribute to global recovery. What isthe other scenario for what will happenwhen countries do not do what theyshould do?

Akyüz responded that globalizationhas resulted in a deflationary gap,

where the boom-bust cycle of propertyand commodity markets have become amajor part of the growth trajectory. Ifthe major questions are not addressedby this current crisis, there will be aneven bigger crisis. Such a circular pat-tern of crises will continue until maybethere will be another Bretton Woodsconference, all over again, and perhapsin the re-establishment of a new finan-cial architecture the structural problems

that caused this crisis will finally beaddressed.

Session II: Global Financial Turbu-lence, Financial Architecture Reformand Finance Policy: Lessons for De-veloping Countries

Dr Yaga Venugopal Reddy, formerGovernor of the Reserve Bank of India,

gave his analysis on what is happeningin the post-crisis period and why.With regard to macroeconomic imbal-ances, Reddy said that the good newsis that pressure to correct imbalancesin the systemically important countriesis beginning, but the bad news is thatthere is still no global consensus onwhat constitutes imbalances and whatthe political leadership is willing to doabout it. The technical indicators forimbalances do not always work. There

are questions such as, does the highpublic debt of India contribute to mac-roeconomic imbalances in the rest ofthe world? Did the natural calamity in Japan create an imbalance elsewhere?Even the debt problems in Europealone do not create imbalances. It thusbecomes very difficult to be technicallysound when measuring imbalances.

Reddy said that there is a trouble-some race to the bottom in financialregulation. From the discussions tak-

ing place, the gravitation is toward theleast regulated legislation. The toughpart of regulation is diluted by the in-terventions by financial lobbies, espe-cially on stretching out the timescaleand weakening the operational details.The moniker of ‘too big to fail’ ascribedto many western banks, in essenceblessed these institutions with eternity.They were enabled to live forever, nomatter what their capital requirements

The conference was held in the spacious seminar hall of the International Labour Organisation.





were, and thereby the subtext was thatthese financial institutions are too po-litically powerful to regulate.

Developing and emerging marketeconomies are still operating on thebasis of the agenda set by the North-ern countries in response to the crisis.There has been a focus on designing a

financial system that can avoid finan-cial instability. But from a developingcountry point of view, development isalso important. The use of financialintervention, global institutions andmarket mechanisms should createboth growth and stability. Thereshould be an insistence on broadeningthe debate to include and give at leastequal importance to development aswell as stability.

Charles Soludo, former Nigerian

central bank governor, said that thekey lesson for developing countries isto prepare for the next crisis. It is im-portant to distinguish between thevarious groups of developing coun-tries. There are critical variations be-tween low-income countries, middle-income countries, and emerging mar-ket economies. Low-income countriesare primary commodity exporters whowill suffer when commodity pricescollapse, for example Nigeria experi-enced instability when oil prices col-

lapsed. In preparing for the next crisisit is important to realize we live in anincreasingly globalized world andthus the problems we face are largelyglobal – but the solutions need to belocated within the national economy.In poor countries with nascent capitalmarkets, the impacts of a crisis aremassive capital outflows and a col-lapse of the stock market. What occursmildly in advanced economies canhave magnified effects in low-incomeeconomies.

Soludo described a few key stepstowards preventing another financialcrisis. The IMF should have a new andreformed multilateral surveillanceframework that will firmly assess the‘systemically important countries’with sanctions for bad behavior. Sec-ondly, there should be created a poolof funds for low-income countriesfrom the taxation of global capitalflows, in the form of a sort of MarshallPlan where everyone is required tocompete under the same rules towardthe purpose of making globalizationmore fair and to provide urgent inter-national liquidity.

Jorge Marchini, professor of eco-nomics at the University of BuenosAires, said the big challenge presently isto rethink the development model, and

to change how things are done. A keylesson from the crisis is that we have toacknowledge that what we have beentaught may no longer hold true. Theassumption that the South cannotchange the global financial system is nolonger true. Argentina experienced adebt default and a social and politicalcrisis, and despite being told that if itdefaulted it would not be able to re-jointhe global economy, it has recoveredand is still growing. Since the various

regions of developing countries havecommon problems, they could buildcommon solutions. He referred to re-gional programmes such as the ChiangMai Initiative in Asia and the Banco delSur in Latin America as steps towardsSouth-South cooperation in finance.

In the discussion session, the Nigeri-an Mission in Geneva asked whetherthe South is pursuing a new model fordevelopment or simply repeating themodel that has failed; also, where does

human capital formation fit into themodels put forward by the speakers.Development has been hard to achievevia globalization because it is hard tolocalize globalization into pro-development policy and practice. Beforethe 1980s, Nigeria had a lot of thrivingindustries, but after the effect of struc-tural adjustment in deindustrializingAfrica, the local industries had col-lapsed. What policies could be suggest-ed to drive industries again?

Jo Marie Griesgraber of the NewRules for Global Finance asked whetherthe emerging market economies anddeveloping countries could rally behinda single candidate for the post of the

IMF managing director, in order toavert another European from being theleader of the IMF again.

In response, Marchini said develop-ing countries need to use capital con-trols as a common tool for maintainingtheir economic health. It is also im-portant that developing country voicesare heard in a unified way in the inter-national financial institutions (IFI) are-na, and this is the challenge for theSouth – to speak with one voice. Werequire a strengthening of a network ofpeople who are thinking about how tobuild unity among such a diversegroup of countries.

Soludo said that there is a long ex-isting tension between global collectiveaction and policy space, which compli-cates the incentive for the internationalcommunity to collaborate on systemicfinancial issues versus doing what is inindividual countries’ best interest. Interms of Nigerian industrial policy,industry comprised a bigger share ofnational GDP in the era of import-substitution industrialization and thatthis share has eroded with the advent

of structural adjustment policies. Fordeveloping countries overall, the agen-da was not just about industrial policy,but also about achieving competitive-ness as well as correcting internationalfinancial asymmetry.

Reddy said that the debate on theselection of the next IMF chief shouldnot just be about nationality but moreimportantly it should be on what kindof scholarship, values, and thinkingshould a managing director of the IMF

have. Once this is identified, then itdoesn’t matter what the nationality is.The real issue is that the South has notyet defined what kind of ideological

Session II panel on financial architecture and reform.




countries can be affected by their obli-gations in the WTO’s General Agree-ment on Trade and Services (GATS)and in bilateral free trade agreementsand bilateral investment treaties. Hecommented on the negotiations anddraft texts on domestic regulation inthe GATS part of the Doha talks,pointing out that some proposed con-

cepts and provisions such as the“ n e c e s s i t y t e s t ” a n d “ p r e -establishment” could curtail nationalpolicy space for financial regulations.

Many developing countries havesubscribed to or are negotiating finan-cial services and investment liberaliza-tion commitments in free trade agree-ments (FTAs) and bilateral investmenttreaties (BITs). Under the FTA chapteron investment parties are obliged toallow the free flow of all kinds of capi-

tal, and thus capital controls would bedifficult, as in some FTAs the compa-nies affected can file expropriationclaims against the country. UnderBITs, there is also a prescription forfree capital flows, and developingcountries also risk being sued for largesums on the grounds of their policiesbeing tantamount to expropriation.These rules should now be reviewedto enable effective financial regulation.

Duncan Campbell, director of pol-

icy planning in employment at theInternational Labour Organisation(ILO), spoke on the urgent need tomake employment a priority goal inpolicy especially as there has beenreduced interest in this globally. Abias on export-led industrializationhas occurred, often at the neglect ofdeveloping the domestic economy,and in this process, globalisation in-

duces a lower employment-intensity ofoutput.

Economic development arises fromthe structural transformation of econo-mies. But a study involving a sample of58 countries has shown that jobs inmanufacturing and construction as wellas community, social and personal ser-vices have sharply declined from levelsin the 1980s; meanwhile, jobs in infor-mation technology and financial ser-vices have increased. There has been aloss of jobs due to the unhealthy growthof some service sectors. Campbell pro-posed that growth should target real

variables, such as employment, ratherthan nominal ones such as GDP, invest-ment should be directed in large part toinfrastructure and agriculture, and thestate should engage in employmentguarantees, as in the example of India.

Raymond Torres, director of theInternational Institute for Labour Stud-ies at the ILO, spoke on the interrela-tionship between financial globaliza-

tion, employment and income distribu-tion. There was a quick fall in employ-ment because of the crisis, and now a

slow recovery due to market imperfec-tions and time lags. Factors affectingemployment include economic volatili-ty resulting in the difficulty of enter-prises to operate in a long-term fash-ion, jobseekers shifting out of the la-bour market, increased informality,children dropping out of school andgovernments adjusting budgets to-ward decreases in social protection andweaker bargaining power of workers.Taxation has become less progressive,there has been increased competitionto lower taxes in order to attract capi-tal. There needs to be an effective andglobally coordinated way to addressthe volatility of capital flows, withoutwhich it will be difficult, if not impos-sible, to have inclusive and employ-ment-enabling growth.

In the discussion session, SarahAnderson of the Institute of PolicyStudies in Washington DC remarkedthat the US Treasury, in response toeconomists and NGOs advocatingagainst the prohibition of capital con-trols in BITS, had said that countries donot need capital controls because theyhave access to a range of othermeasures.

In response, Khor said it was puz-zling why the US Treasury had cometo the conclusion that countries do notrequire capital controls, especiallysince even the IMF now admits thatcapital controls are part of the toolkitfor addressing capital flows. Torressaid that workers, social partners andgovernments need to act together in acoordinated and effective manner with

Session IV panel on macroeconomic policies, trade and investment

rules and their implications for finance policy

There were more than a hundred participants at the conference.



tion. Global bodies need to drive to-ward coordination.

Yımaz Akyüz said that globaliza-tion has been oversold to developing

countries as a positive sum game, andcountries were urged to integrate withthe world economy to the maximumextent possible. The message to devel-oping countries had been to simply puttheir house in order vis-à-vis the mac-roeconomic policy prescription, and toleave the rest to global market forces.UNCTAD Trade and DevelopmentReports were one of the first reportschallenging this globalization ap-proach.

In going forward, countries shouldrethink the nature of integration andtake an approach instead of a “strategicintegration” with the global economy.South-South cooperation in policy co-ordination is most important in takingmeasures to change the global system,an important part of which is to trans-form the system of global governance.Developing countries could move for-ward from making regional monetaryalliances towards cooperation in sys-temically changing the internationalarchitecture.

Manuel Montes, chief of Develop-ment Strategy and Policy Analysis ofthe UN Department of Economic andSocial Affairs, presented some key con-clusions from the UN’s World Econom-ic and Social Survey. For developingcountries, the policy of reserve accu-mulation in recent years has servedseveral purposes. It provided self-insurance against sudden capital flowstoppages and in so doing, reduced thelikelihood, should such stoppages oc-cur, of a recourse to IMF pro-cyclicaladjustment. The policy also protected

regard to the G20’s mutual assessmentprocess.

Session 5: Conclusions and the wayforward

Y.V. Reddy offered specific sugges-tions on the way forward for develop-ing countries. First, he said that muchof the policy debate and discussion in

the South is reactive, not proactive, andthus policymakers and thinkers fromthe South are not prepared ahead oftime. A proactive approach is thusneeded. Second, the importance offinancial diversity needs to be upheldin that the governance of the financialsector ought to entail a diversity of par-ticipants and thought models. The cur-rent monoculture model of banking,production and economic developmentshould be seen as a failure; a sign of

this is that the very regulators who didnot follow this prescribed model ena-bled their financial systems to survive.If the same type of model is going to beproposed to be applied toward globalregulation, the importance of diversityhas to be emphasized, and that theSouth has benefitted from employingdiversity.

Third, the recent financial crisis hasdemonstrated the bankruptcy of thestatus quo economic model, and thus,policy tools such as capital controlsshould not be discouraged. And fourth,global coordination has suffered by theseparating of all the different aspectsand sections of the economy and thefinancial/monetary apparatus. By con-trast, in the private sector, there is amove in the opposite direction, to-wards conglomeration and coordina-

export-oriented stances by preventingexchange appreciation.

The shift towards raising reservesincreased the demand for dollars, and

financed the widening current-account deficits of the United States.There emerged a pattern of wideningglobal imbalances including the unsus-tainable flow of investment resourcesfrom (paradoxically) poor countries asa group to the developed world.

Ensuring that developing countriesare able to increase their rate of invest-ment continues to be as big a challengetoday as it was in the early days ofdevelopment thinking. During the

1980s and 1990s, structural adjustmentprogrammes coupled with the liberali-zation of private capital flows hadbeen expected to increase the rate ofinvestment in developing countries.Instead, the rate of fixed investmentstagnated in most parts of the world,despite a significantly higher level ofinternational financial flows.

Antonio Maceido Silva from theSouth-South Cooperation Unit atUNCTAD, said that the so-called rise

of the South is an issue being muchtalked about presently. In preparationfor the 13th session of UNCTAD, theUNCTAD secretariat had been callingfor a development-led globalization.UNCTAD is interested in develop-ment-oriented policies and the politicaland substantive means to achieve themtogether, along with organisationssuch as the South Centre. Going for-ward we hope to pay attention toSouth-South cooperation in the areasof regional financial cooperation, therole of regional development banks,regional monetary funds, south-southand the formation of networks of poli-cymakers in developing countries.

South Centre

Tel: +41 22 791 8050

Email: [email protected]

SOUTH BULLETIN

South Centre website:(in English, French and Spanish)

www.SouthCentre.org

EDITORIAL COMMITTEE

Chief Editor: Martin Khor

Contributing Editors: Vice Yu, Aileen

Kwa. Assistants: Xuan Zhang, Anna

Bernardo.

The South Bulletin is published by the

South Centre, an intergovernmental

think-tank of developing countries.

Panel at the closing session on The Way Forward.

south centre bulletin october 2011

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