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Financial Post, Weekly edition, Sat 30 Jul 94, page 50

Keywords: Economic conditions International finance World Lord Keynes

REFORMING THE GLOBAL ECONOMY: G-7's challenge, 50 years after Bretton Woods

Martin Wolf Financial Times of London

''The separate economic blocs and all the friction and loss of friendship they must bring with them are expedients to which one may be driven in a hostile world, where trade has ceased over wide areas to be co-operative and peaceful and where are forgotten the healthy rules of mutual advantage and equal treatment. But it is surely crazy to prefer that.''

With these words, uttered shortly before his death, Lord Keynes commended the Bretton Woods agreement to the House of Lords. It was a noble legacy of the Anglo-American co-operation during the Second World War.

A month after the landings in Normandy, a new world economic regime had been designed at the celebrated conference in Bretton Woods, N.H. - 50 years ago this July.

Now is an appropriate time to ask what the needs of tomorrow might be.

The collapse of the only serious rival to the liberal model is five years old, long enough not only to become used to that event, but to appreciate the scale of the debris communism leaves behind. Yet the greatest economic challenge for the western world is the need to adjust to the rise of East Asia. The challenge will not be merely economic. This will be more than a mere shift in power among similar countries: five centuries of dominance by Europe and its American progeny are coming to an end.

Fortunately, at U.S. President Bill Clinton's prompting, western leaders have shown a belated awareness of the issue in calling, at the recent summit of the Group of Seven industrial countries in Naples, for a review of institutional requirements in the global economy. So what might a comprehensive report to the G-7 leaders cover?

The starting point is the success of the postwar economic system, a success measured by almost five decades of trade-led growth. But only one-fifth of the world population produces - and enjoys - 85% of the world's income. The degree of global inequality has also been increasing. Worst of all, even though most indicators - such as infant mortality, life expectancy and school enrolment - show improvements since the 1950s almost everywhere, more than a billion people, mostly in sub-Saharan Africa and South Asia, subsist on less than US$1 a day.

The paper Learning from the Past, Embracing the Future, recently released by the World Bank, shows income per head in East Asia has risen by some 350% since 1960, while that of Latin America is significantly lower than it was in 1975. Worst of all, sub-Saharan Africa's income per head is back where it was in 1960.

Such failures are, above all, those of nation states. One part of the problem has been the determination of many developing countries to turn away from the global market, by seeking the bankrupt path of ''self-reliance.'' This mistake can be rectified. But the difficulty is deeper than that. Many states are unable or unwilling to provide such basic economic services as reasonably impartial property-rights enforcement, efficient or honest administration, basic education and health, or minimal infrastructure. Not infrequently, governments have been murderous and exploitative. Occasionally, states have dissolved altogether.

This is an extreme illustration of a fundamental issue: the relation between the market, which is increasingly global, and states, which are local, often blinkered and sometimes demonic. Four points need to be remembered in any G-7 discussions.

First, the most important purpose of international economic regimes is to render national policies globally compatible. Sometimes this is done through day-to-day co-operation. It is done more effectively, however, by embodying international agreements within domestic laws and policies. That is what the General Agreement on Tariffs and Trade has achieved, if partially.

Second, at least half of the spending of modern states is concerned with income redistribution, with internal income transfers as much as 50 times larger than international ones. In consequence, citizens of states that are both impoverished and incompetent (or worse) are excluded from the benefits and opportunities afforded by the global economy, except through migration.

Third, because the politics of wealthy countries focus on internal income distribution, developments that undermine customary patterns are immediately subject to attack by protectionist bodies. One of the great challenges for the industrial countries in future will be to sustain economic openness under such pressures.

Finally, the customary complaint that the internationalization of the world economy jeopardizes sovereignty is correct, but only in the sense that it curbs redistributive politics by limiting a government's ability to tax mobile factors of production. It is wrong in the mistaken proposition that countries cannot affect their economic fates. Whether a government encourages its people to exploit global opportunities has, in fact, proved decisive. Compare east with west Germany; South with North Korea; Chile with Peru; or Taiwan with mainland China. Policy matters. That is why governments matter too.

The principal purpose of international economic institutions is to reconcile the politics of nation states with their international interests and obligations. With this in mind, the international economic regime of the future should ideally cover five areas: monetary and financial stability, economic development, trade and investment, the environment and migration.

In each case, the aim should be to try to minimize government and maximize the play of the market. This is not just a question of ideology. It is a practical matter. The capacity to co-operate is limited. It should be hoarded, just like any other globally scarce resource.

Monetary and financial stability.

As financial markets become more global, domestic supervision becomes increasingly difficult. A global supervisor is one possibility. A more plausible alternative, however, is greater supervision by the market. The right policy would be a determined assault on the sources of moral hazard, such as deposit insurance, combined with provision of more timely information to the marketplace.

Economic development.

There is no great mystery about what makes for successful economic development. The recipe consists of well-motivated people, operating within the global market, under the aegis of a supportive and fiscally self-disciplined government. Unfortunately, such states are rare. In their presence, international assistance is helpful, but marginal. Developing countries that meet such criteria now have little difficulty obtaining resources from the private markets. In their absence, assistance is almost doomed to failure.

It is this grim reality that critics of the World Bank and the International Monetary Fund fail to confront. The legitimate criticism of those institutions is not that they have been too tough, but that they have been far too weak in supporting member governments that have neither the capacity nor the intention to do as they have promised. States become bankrupt financially because they are already bankrupt ideologically and politically. One of the greatest challenges facing the world community consists in dealing with such situations.

Professor Jeffrey Sachs of Harvard University has argued persuasively for an international bankruptcy procedure. On the economic side, that could be placed under the management of a reformed IMF. But there will often need to be a security arrangement as well. One possibility would be to reinstate the idea of a UN protectorate.

International trade and investment.

The World Trade Organization, whose power rests upon agreements embodied in the domestic law of its members, should take pride of place in trade. It would also make sense to nest international agreements on investment within the WTO. Otherwise, the agenda is clear enough: to liberalize further on the course already set, which may well require another trade round later this decade.


A case can be made for an international environmental regime, housed within a global environmental organization.

The starting point should be the ''polluter pays'' principle. Its main value would be to reveal that industrial countries are the main polluters. The U.S., for example, generates a quarter of global output of carbon dioxide from fossil fuels and cement manufacture. Correspondingly, industrial countries must pay most for their disproportionate exploitation of the global commons.


At present, there is no policy on the treatment of international flows of people, though there is such a policy for flows of both goods and services. This is an obvious anomaly. A host of questions - such as taxation of the brain drain or treatment of guest workers - should be covered.

This then is the agenda for the G-7. But it cannot exclude the G-7 itself. Is there to be any overarching body charged with global economic co-ordination and co-operation and, if so, should it be the informal G-7 or something broader or more formal?

There is, in fact, a strong case for keeping the G-7, while using any relevant international organization to support it. One consequence of a world of unequal sovereign states is that it is also an undemocratic one. What is needed is responsible leadership.

Leadership can only be provided by those with the resources and the influence to exercise it. At present, that is principally the G-7, though in time its membership will have to change, as the world economy does.

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