Joergen Oerstroem Moeller
The eurozone crisis has not only raised questions about the
viability of the common currency, but could also jeopardize an economic
model that has so far reigned supreme. The course taken to resolve
the crisis in Europe will have long-term impact on the most vibrant
parts of the world – from Asia to Latin America.
In developed countries of the West, debtors have run up a high debt
ratio to gross domestic product, even while economic growth was high –
overspending when they should have saved. They borrowed to spend
more, demonstrating a disastrous failure to grasp basic economic
principles as well as flaws in moral behaviour and ethical judgment.
Among these borrowers are established heavyweights – the United
States, most European nations and Japan. The United States, one of
the wealthiest countries, became an importer of capital instead of
exporting capital, registering its last balance vis-à-vis the rest of the world in 1991.
After accumulating savings over several decades through prudent and
cautious policies, the creditors sit on a large pile of reserves with
low domestic debt and government deficits. These reserves are largely
held by emerging countries with China at the forefront. As a paradox,
the emerging economies have taken it upon themselves to lend to the
richer countries – exporting capital almost as vendor’s credit.
Indeed, this reversal of roles is one explanation for the global
financial crisis. The global monetary system is not geared to function
under such circumstances.
This development was framed by the so-called Washington Consensus of
the 1980s – a neoliberal formula that spurred globalisation by
promoting liberalization of trade, interest rates and foreign direct
investment; privatisation and deregulation; as well as competitive
exchange rates and fiscal discipline. Fundamental flaws were exposed,
raising the question about which economic model might replace it.
There are two possibilities in this competition: One strategy is from
the United States and a group of Democrats who suggest that more
short-term borrowing and spending could lead to growth, tax revenues
and exit from recession – even if the debt grows and deficits become
permanent. A breakthrough by the US Congressional super-committee to
make substantial cuts over the next 10 years won’t fundamentally
change this stance, merely reducing rather than eliminating the
deficit. The Europeans have taken the opposite view: They advocate
starting the recovery by reducing deficits and debt even if that
seems counterproductive for economic growth in the short run. The
Europeans are also raising taxes across the board, regarded as
indispensable for restoring balance in government budgets.
The results of either plan won’t be known for a few years. Chances
are, however, that the European policy will carry the day for the
simple reason that creditors call the tune. It’s highly unlikely that
creditors favour continued reliance on deficits as the inevitable
consequence will be inflation, eroding the purchasing power of their
reserves. Indeed, the Chinese rating agency Dagong has announced that
it may cut the US sovereign rating for the second time since August
if the US conducts a third round of quantitative easing.
Early in the crisis, as Europe set up a stabilizing bailout fund,
there were rumours in the market that China, Russia and Japan might
rescue of the euro, either by buying European bonds or going through
the International Monetary Fund. It’s unclear how China wants to
proceed with such an undertaking, but Russia and Japan have allegedly
acted to do that through the International Monetary Fund or by
buying European bonds.
Countries with surpluses do not dream of rescuing the euro; they act
in their own interest. Economically they prefer the European fiscal
discipline, reasoning that American prodigality will shift much
burden of adjustment onto them. They may dread being left with the US
dollar as the only major international currency, forcing them to
endure, at times, whimsical policy decisions by the Federal Reserve
System, the US Treasury Department or US Congress. The euro and the
European Union are seen, and indeed needed, as a counterweight. The
EU may look weak, but it’s a respectable global partner, offering the
euro as an alternative to the dollar and serving as a major player
in trade negotiations and the debate about global warming, just to
mention a few examples.
It can be expected that other nations will step forward to support
the euro. But at what price? What conditions, if any, will be put on
the table and will the Europeans consent? A case can be made that, as
creditors undertake investments to help the euro, they actually help
themselves, and there are no reasons why the eurozone should pay any
price. We can expect a game of hardball, in which nerves matters, and
who gives what to whom may not be clear at all.
Another question has arisen about who decides and who is in charge.
The G20 meeting in Cannes revealed a growing consensus to stop the
financial houses amassing and subsequently abusing power. If the
global financial system is big enough to force Italy into a
default-like situation, many countries are surely asking whether
they’ll be next. The big financial houses are viewed by many as
irresponsible stakeholders, if stakeholders at all. Consider, the US
government is suing 18 banks for selling US$ 200 billion in toxic
mortgage-backed securities to government-sponsored firms, the Federal
National Mortgage Association and the Federal Home Mortgage Corporation,
known as Fannie Mae and Freddie Mac. In April 2011 the European
Commission initiated investigations into activities of 16 banks
suspected of collusion or abuse of possible collective dominance in a
segment of the market for financial derivatives.
The market has muscled its way in as judge about whether a country’s
political system or economic policy are good enough. But the market
is neither a single institution nor a broad, balanced mix of diverse
players. It’s become a small group of large financial institutions,
the power of which overwhelm what even big countries can muster: 147
institutions directly or indirectly control 40 percent of global
revenue among private corporations. A sore point is that they pursue
profits without concern over implications for countries and
societies. Rather than let measures work, these financiers force the
issue here and now, even as they speculate against efforts, many
admittedly delayed and inadequate, to resolve debt crises. Financial
institutions holding sovereign bonds that could default insure
themselves by buying a credit default swaps. What seems like prudent
corporate governance becomes a shell game as these obligations are
traded among financial institutions, some of which don’t hold
sovereign bonds in their portfolios – all of which heightens interest
in forcing default.
The temptation to roll back economic globalisation inter alia by
breaking up the eurozone or restricting capital movements has been
resisted. Economic globalisation is holding firm.
Creditor countries can set the course on future economic policies –
likely highlighting fiscal discipline. While the West had vested
interest in the big financial houses, the incoming paymasters do not,
and they can be expected to increase their control over investment
patterns. This can be done either by setting up own financial houses
or buying into Western financial institutions as was the case in the
slipstream of the 2008 global debt crisis.
The global financial market is changing course, away from looking
after Western interests and acting in accordance with corporate
governance as defined by the West toward a more global outlook guided
by the interests of new group of creditors.
Joergen Oerstroem Moeller is a visiting senior research fellow,
Institute of Southeast Asian Studies, Singapore, and adjunct
professor, Singapore Management University and Copenhagen Business
School.