Friday, 28 November 2008

Governments Matter Again


28th November 2008

The Malta Independent - Friday Wisdom

Thinking was shaping towards a notion that national governments were gradually becoming less relevant and seemed destined for irrelevance. They were being sandwiched between two opposing forces which in their own way were eroding governments’ room for manoeuvring and decision making powers.

On one hand governments were being forced to act more and more collegially and operational decisions were being usurped by multi-national organisations. Organisations such as the UN, EU, IMF, ECB, WTO, ASEAN, NAFTA, G8, G20, NATO and similar acronyms, started forcing national governments to avoid going it alone and to coordinate their economic, political and social decisions with other countries with whom they share membership in such organisations.

The forces of globalisation were on the other hand forcing governments to take account in their decision making processes the ability of capital to move without barriers and away from countries without competitive taxation policy and those showing hesitations in accepting the discipline of free trade. Owners of capital, be they large multi-nationals deciding where to locate their foreign direct investments to achieve maximum long term profit, or huge hedge funds buying strategic stakes in quoted companies to force them to restructure or to go back to private equity, started dictating what governments should or should not do.

In some ways it was erosion of the national democratic will and subjecting it to supranational considerations.

In a new book titled ‘The Post-American World’ by one of the most contemporary visionary journalists, Fareed Zakaria, editor of Newsweek International, presenter of a CNN current affairs weekly on international geo-politics and author of the best-seller ‘The Future of Freedom’, there is this excerpt which epitomises this shift towards irrelevance of national governments:

“Functions that were once controlled by governments are now shared with international bodies like the World Trade Organisation and the European Union. Non-government groups are mushrooming every day on every issue in every country. Corporations and capital are moving from place to place, finding the best locations where to do business, rewarding some governments while punishing others. Terrorists like Al Qaeda, drug cartels, insurgents and militias of all kinds are finding space to operate within the nooks and crannies of the international systems. Power is shifting away from nation states, up, down and sideways. “

No more! Even though Zakaria’s book is just coming off the print in hard back form it has already been rendered somewhat obsolete by the financial crisis that erupted following the bankruptcy of Lehman Brothers on 15 September. Governments have started to matter again!

Suddenly governments have moved back in centre stage even in the most liberal economies like the USA and UK. Nationalisation, or quasi, of the banking system has had to be resorted to protect the system from imploding. It has been forced by crisis as a choice of the lesser evil, saving Wall Street to avoid untold harm to Main Street, and is in no way under-pinned by any new economic doctrine or strategic conversion to earlier thinking that certain sectors are too important to be allowed in private hands.

Whatever it is, it is unsustainable. While presently we are in fire-fighting mode and the objective is to put out the fire rather than save the furniture from getting wet, the present reality that profits are privatised when the going is good and losses are socialised when the going gets tough, is unsustainable.

Those who expect governments to step in to save them with taxpayers’ money have to accept that governments have a duty to ensure some sort of discipline on private operators in sensitive sectors to operate with the necessary prudence to avoid having to seek government intervention when the going gets tough.

What is not clear yet is whether this reversal of trend, where suddenly we have all converted to Keynes economics in the background of an on-setting recession, of a degree not seen for a quarter century, is a temporary or a more structural phenomenon.

The challenge is to ensure that globalisation will not get replaced by beggar thy neighbour policies. Temporary problems apart, there is no question that globalisation and free trade have extracted more people out of poverty than direct aid can ever do. People living on less than one dollar a day plummeted from 40% of the world population in 1981 to about 15% presently. Rather than revert to past insularity what we need is for globalisation, free trade, and especially financial markets to be underpinned by better, smarter regulation. More regulation won’t work; better regulation will.

And in so doing we have largely to go back to basics. Banks have to return being banks led by bankers. Hedge funds have to be regulated with strict limits of leverage to prudent levels and clear rules on shorting. Disclosure has to be enforced and over the counter markets have to be shifted to properly exchange regulated markets.

To avoid cracks in fragmentation regulation has to be streamlined under a single regulator in every jurisdiction, a regulator who can coordinate policies with peers on a global basis to ensure uniformity of standards and disclosure.

But most of all regulation has to be counter-cyclical. It has to notch controls a few gears up when the going gets too good and credit becomes easy and plentiful, and it has to ease up when the going gets tough. Banks have to be forced to lend more when the economic tempo slows down and pull in the reins when the economy is overheating, whether this shows up in retail inflation or asset price bubbles.

Government now matter more than ever for putting together smarter regulation which would be ready to kick-in after we work our way out of the present crisis. More regulation now when the markets have cracked will not help the recovery. But suggestions from banks that they can self-regulate should not be taken seriously.

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