Achieving Financial Stability Parliamentary Conference on the Global Economic Crisis Inter-Parliamentary Union, Geneva 8 May 2009

2 Crisis Unexpected? A crisis foretold Unsustainable global imbalances International financial architecture Ideology: deregulation, self- regulation, capital account liberalization Financial Globalization: growth, stability?

3 Globalization: finance>trade

4 Finance-investment nexus?

Financial globalization Net capital flows from South to North (US largest borrower) Cost of funds not generally lower due to financial deepening (more intermediation, financial rents) Higher volatility Lower growth, higher instability

Short-term capital inflows very problematic No real contribution to investment, growth rates Asset (shares, real estate) price + related (e.g. construction) bubbles instead Cheaper finance for consumption binges Over-investment  excess capacity All exacerbate instability, pro-cyclicality

7 Contagion: crisis spreads Financial sector contagion (incl. vicious circles): Sub-prime crisis  financial crisis  asset price deflation  liquidity/credit crunch Financial crisis  Economic recession (including feedback loops) Real economy contagion (incl. vicious circles):  Less investment, especially abroad (FDI)  Less consumption  Reduced demand for imports, i.e. for exports of others  Prices, output declines globally  Growth, employment declines globally

Deflationary spiral Asset (stock, property) markets deflating  negative wealth effect  more bank insolvency  generalized credit squeeze Lower external demand, world trade  excess capacity  investment slowdown Depressed domestic demand rices, output  lower prices, output  lower employment, incomes

9 Financial impacts on developing countries Despite non-involvement in sub-prime debacle:  Emerging stock markets collapse greater  Reversal of capital flows, FDI also down  Spreads rise, much higher borrowing costs But financial positions stronger than during Asian + LA crises (more foreign reserves, better fiscal balances) But reserves rapidly evaporating with export collapse; fiscal space also disappearing

10 Finance & commodity prices Last 5 years: rare opportunity for many developing countries – including LDCs – to generate substantial financial resources from higher primary commodity exports for investments and growth – largely overLast 5 years: rare opportunity for many developing countries – including LDCs – to generate substantial financial resources from higher primary commodity exports for investments and growth – largely over 2008 price spikes for energy and food due to increased speculation following flight from ‘Wall Street’ (finance) to ‘Chicago’ (commodity futures), other factors2008 price spikes for energy and food due to increased speculation following flight from ‘Wall Street’ (finance) to ‘Chicago’ (commodity futures), other factors

Social, political impacts >200 m. more working poor ILO: Unemployment to rise by 51m Government social spending at risk Rising social and political unrest US intelligence report: crisis -- greatest security risk

12 Policy priorities Contain spread of financial crisis -Across borders (contagion) -To real economy (ensuring liquidity) Reflate economy -Fiscal measures (fiscal space needed) -Monetary measures (monetary space) Appropriate regulatory reform - National -International

13 Financial regulation priorities Prudential risk management, including capital controls Counter-cyclical: limit pro-cyclicality Finance growth (output, employment) Development finance, e.g. crucial for investment + technology policies Inclusive finance

Financial reform? Financial intermediation important Rethinking role of banks (Buiter) Rethinking role of stock markets Appropriate financial regulation? Avoiding excessive risk management Ensure comprehensive systemic reform Ensure developmental financial system Ensure inclusive financial system

15 Stiglitz Commission: 10 Immediate Measures 2. Stable additional funding (e.g. SDRs, regional liquidity schemes), without conditionalities for developing countries 3. Additional development funds via new credit facility 4. Developing countries need more policy space (including financial policy to pursue countercyclical policies)

16 Stiglitz Commission: 10 Immediate Measures 5. Rectify lack of coherence between trade and finance policies 6. Avoid protectionism (including finance) 8. Meaningful regulatory reforms urgent (for financial stability, growth, inclusion, development) 9. Financial support measures need to be globally coordinated.

17 Stiglitz Commission: Systemic Reforms Create new Global Reserve System (multi-country system with greatly expanded SDRs) Reform governance of BWIs and other IFIs Better and more balanced surveillance

18 Stiglitz Commission: Systemic Reforms Reform central bank policies to promote development Financial market policies  Create Financial Products Safety Commission  Comprehensive financial regulation  Regulate derivatives trading  Regulate Credit Rating Agencies  Host country regulation of foreign subsidiaries

19 Stiglitz Commission: Systemic Reforms Support for financial innovations to enhance risk mitigation Create sovereign debt restructuring mechanism, improve framework for handling cross-border bankruptcies Need for more stable and sustainable development finance

New Bretton Woods moment? Bretton Woods, 1944: United Nations conference on monetary and financial affairs 15 years after 1929 Depression Middle of WW2 US initiative vs UK Treasury stance 44 countries (28 developing countries; 19 LA) IMF, IBRD, ITO – UN system Clear emphasis on sustaining growth, employment creation, development, not just financial stability But BWIs very different governance arrangements

21 Thank you Please visit UN-DESA Please visit UN-DESA G24 and PGA websites G24 and PGA websiteswww.g24.org Research papersResearch papers Policy briefsPolicy briefs Other documentsOther documents Acknowledgements: UN-DESA, ILO, ESCWA