Chandler: Bretton Woods Redux Is The Real Bridge to Nowhere
This post is from Marc Chandler, Global Head of Currency Strategy for Brown Brothers Harriman & Co:
Don’t heed the hype. This weekend’s G20 Summit will not, and cannot live up the hopes that a new financial architecture will be unveiled. It will likely be little more than a photo opportunity for the political class to demonstrate to their people that they are doing something about the global crisis.
The thunder from the meeting was stolen last weekend. US President-elect Obama clearly distanced himself from the summit. He did this in two distinct ways. First, in his press conference he underscored there is only one president and that it is still President Bush. Second, his advisor team made it clear that there would be no cabinet appointments this week. If Obama were to announce his Treasury Secretary nominee this week as many expected, it would have also made for an awkward situation.
Given the widespread comparison of the current financial crisis with the Great Depression, it may have behooved an advisor to President Bush to have done some reading about the period between Roosevelt’s election in 1932 (on a balanced budget platform, to boot) and when he assumed office. The defeated President Hoover wrote a letter to FDR seeking to make a joint statement on the economy. FDR ignored him. Hoover wrote again. FDR declined. The Depression was Hoover’s making and Roosevelt wanted nothing to do with it—until he was the President. It appears the logic of the situation compels Obama now.
The summit was ill-conceived. Bush and Paulson will soon, even if briefly, join the rising unemployment queues. They are in no position to negotiate. Their lame duck status will be palpable. America will look weak. This could have been avoided. Where is Karl Rove when you need him?
Within hours of the signals that Team Obama would not be a significant stakeholder at the summit, China unveiled its CNY4 trillion fiscal package. Even though this headline grabbing figure combines some new spending with other previously announced programs, China could have waited a week to announce it in Washington. It did not. There is no good-bye gift for President Bush. There will be a lot of pomp and circumstance.
Ideas, encouraged by French President Sarkozy and UK Prime Minister Brown, that the summit could be a second Bretton Woods are misplaced. It reveals Sarkozy’s own ambition and that he seems to becoming more Gaullist by the week. Even though Brown was the Chancellor of the Exchequer as the credit cycle went into overdrive and the UK housing market bubble inflated, his decisive measures and somber persona has improved his public standing, just as the Tory’s foibles surfaced. Yet in terms of the summit, Brown is reaching for something beyond his grasp.
Hegemonic Stability Theory
What ultimately allowed the first and only Bretton Woods to be successful was not just the two years of thought and planning that went into that summit. It was not just the caliber of leaders. It was not just that a major war had been fought that helped foster the spirit of cooperation. Indeed the fiercest negotiations were between Harry Dexter White, representing the United States, and John Maynard Keynes, for Her Majesty. It was the fact that the United States was the only major economy that was largely spared the destruction of the war. The US had a preponderance of economic and military power.
It was sufficiently strong to dictate the terms. It held more monetary gold than rest of the world put together. It was the strength of the US that made Bretton Woods possible. Many of those who are embracing the hope of a second Bretton Woods see it as possible because the US has been hobbled by two protracted wars, the second recession this decade and a credit crisis of historic proportions. Some have suggested that the collapse of Anglo-American capitalism provides a golden opportunity to re-build the international financial architecture. They are mistaken at best and blinded by their own ambition at worse.
The US still is the world’s largest economy. It is a little more than three times larger than Japan, the second largest economy. It military spending exceeds rest of the world's combined. Yet the US cannot dictate the outcome or impose a new international monetary regime as it did 64 years ago. Moreover, it does not want a sequel to Bretton Woods. Nor is any other country or groups of countries able and willing to take the mantle of leadership from the United States.
When in Doubt, Call the IMF
European leaders, like France’s Sarkozy and UK’s Brown realize this. They have a fall back option: empower the IMF. Some want the IMF to become the principle organization in charge of financial stability, with authority to monitor national regulators. While the IMF’s Financial Stability Report is a must read, it cannot fulfill the role that Europe is apparently advocating it take. The IMF lacks a certain legitimacy. Its reputation was tarnished by its aggressive pursuit of the Washington Consensus during the 1997-1998 Asian Financial Crisis. Some Asian countries, including Japan sought to create a regional alternative—an Asian IMF, but it was stymied by the US and Europe.
- Japan Readies Funding for IMF as Gloom Deepens
Another problem with turning to the IMF is that it has limited enforcement powers. As Stalin once asked of the Pope: “How many divisions has he got?” we now ask of the IMF. One of the few political truisms is that it is a bad policy if it cannot be enforced. It is one thing to tweak the interpretation of the IMF’s charter, like happened when it was empowered to more closely monitor the foreign exchange market (in an attempt to de-politicize the claim in the US Congress that China was unfairly manipulating its currency), it is quite another thing to give it enforcement powers.
It is true that financial markets are global, while regulators are national. But the IMF cannot be a stealth global state. It does not reflect the economic reality on the ground. It has been long recognized that the IMF governance structure does not give large developing countries proper representation. One glaring example of the incongruence is that Belgium, which has a GDP of about $450 bln (roughly the size of the FY08 US budget deficit), has 2.09% of the vote at the IMF. In contrast, Brazil, with a GDP three-times bigger, has 1.38% of the vote at the IMF. Or consider that China’s GDP has surpassed France’s, but the PRC has 3.6% of the votes at the IMF, while France has almost 5%.
Yes, the IMF’s voting system needs to be more complicated than simply a reflection of economic size, but the failure to reform its governance structure prevents it from having the authority and legitimacy to be the global regulator. In whose name will it speak? Ironically, it is largely the countries who arguably enjoy over-representation at the IMF, and who are resisting a reform of the IMF’s governance, that are now calling on China and oil producing nations to provide more resources to the IMF in which they are arguably under-represented.
This weekend’s summit is a microcosm of global developments. The hype and talk of Bretton Woods II generate rising expectations that will be deflated and add to the pessimism. The timing is politically inept. The leadership in the high income countries continues to be compromised. The US will be represented not only by a lame duck Administration but one that had been soundly rebuked in the recent election. Canada has a minority government. The UK and Japan have prime ministers that do not have popular mandates. Germany has a coalition government that is unraveling and elections will be held next year.
- Germany Officially in a Recession
France’s Sarkozy has largely backed away from much of his campaign initiatives. He was a workhorse though as the EU president, but that mantle is being passed at the start of next year to Italy’s Berlusconi. Without that platform, Sarkozy will have to turn his attention back to the deteriorating economic situation in France. I had thought I would have been able to say that the Chicago Cubs won the World Series (something they have not done since 1908) before I would suggest that Italy is one of the few elements of political stability in the G7. But alas, these are unusual times.
There is an implication for the foreign exchange market. Key developments in the foreign exchange market, like the dollar and yen’s strength is just as much a measure of the stress of the global financial system, as sure as are elevated interbank rates and the TED spread. The US Treasury’s reversal on the use of TARP funds to purchase distressed and illiquid assets from US banks and the likely failure of the summit to take concrete steps will keep the de-leveraging and unwinding forces intact. This will serve to help keep the US dollar and yen supported into the end of the year.