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ArchiveJanuary 2 2001

Global trends

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Some parts of present-day Russia and China could one day be independent, says Poland’s ex-finance minister Leszek Balcerowicz in our panel on global trends. He is joined by Andrey Kostin, chairman of Russia’s Vnesheconombank, and Fernando Fernández, chief economist of BSCH.

Leszek BalcerowiczEx-finance minister, Poland.

Andrey KostinChairman, Vnesheconombank.

Fernando FernándezChief economist, BSCH.

1. Is the trend for the US model of capitalism to be adopted everywhere unstoppable? Is this trend good or bad?

Leszek Balcerowicz:

The US model of capitalism is not US-specific but largely corresponds to a vision of the economic system which most mainstream economists would recommend, because of its capacity to generate jobs and technical change.

The tendency for this recommended system to spread in various countries is basically a return – after a period of excessive statism – to the classical virtues of free markets, private ownership, sound public finance and a simple regulatory framework for business. I think the trend towards this “old-new” basic model will continue due to the spread of information technology and competition for foreign direct investment (FDI) which favour the best business locations.

Andrey Kostin:

I could not possibly share the viewpoint that the US model of capitalism is the dominant one. Admittedly, after the collapse of the socialist model in the USSR and the central and eastern European countries, only the capitalist (or market) model of society building was left, with no viable alternative to it.

Certainly, some underlying elements and principles of market economy are common for all the countries involved. But, on the other hand, there are nationally distinctive features as well. To our regret, while being in transition to a market economy, Russia cannot always benefit from the US recipes and remedies so readily available.

Fernando Fernández:

Most countries aim to imitate this model to some degree. However, it is also necessary to avoid some risks attached to the new economy: stockmarket booms that can become bubbles and/or create irrational expectations; and sharp falls in private savings and excessive dependence on foreign savings, reflected in high current account deficits.

An additional risk is in adopting the US economic model only partially, which could lead to poor results and could even have negative consequences. The defence of “national exceptions” or “peculiarities” is dangerous when transposing a model.

2. Do you feel that the early 1990s idea of the Pacific century, in which Asian economies would dominate, is now dead? Is Asia in danger of turning inwards?

Leszek Balcerowicz:

Many observers were proved wrong in linking the Asian economic success to special forms of state intervention or business structures or practices (for example, life-long employment in Japanese corporations). These features turned out to be obstacles to further economic growth in Asian economies and their success was achieved despite them and not thanks to them.

The true reasons for Asian economic success relative to that of other economies was a high savings ratio, low tax/GDP ratio, export-oriented growth, the basically private nature of their economies and conservative fiscal policies. If the Asian countries reform their economies by scrapping their structural specificities, they will return to an above-average rate of growth.

Andrey Kostin:

I do not believe Asia is turning inwards. A case in point is China’s willingness to become a World Trade Organisation (WTO) member. On the whole, the Asian markets have recovered after the 1997-1998 crisis. But it would be wrong to assert that Asian economies could dominate either.

The world nowadays is of a multi-polar character, particularly in the area of finance and economy. In this context, the Asian financial market is deemed to be an integral part of the global financial community.

Fernando Fernández:

Looking back, it seems obvious that the merits of the Asian model were exaggerated. However, one should not be overly pessimistic and think Asian economies are bound towards slow growth and trade protectionism. After the crisis, these economies have maintained their model based on trade openness.

They have followed orthodox policies to overcome the crisis: sensible fiscal policies, restructuring of the financial and industrial sectors and reform of the legal system governing bankruptcies, etc. The Asian model also had strong points that have remained: well-trained human capital, high rates of private saving and prudent fiscal policies.

3. Is a European Union of 25 or more nations workable? Should EU members integrate at the same or different speeds?

Leszek Balcerowicz:

The EU of 25 or more nations will be workable if reformed. Majority voting, however, should not take in the issues of taxation, except for those which are required for the proper functioning of the common and free market.

Member states should be free to have various tax/GDP ratios and poorer countries should not be pushed towards large tax burdens, as this would slow down their economic growth and job creation. The EU members should be allowed to integrate at different speeds in some fields, provided that those which move more quickly do not create a closed club, blocking the entry of other members.

Andrey Kostin:

The aspiration to get Europe more closely integrated is a natural process, with a positive outcome being quite feasible. But as far as Russia, Ukraine and other CIS members are concerned, that is another matter. I don’t think these countries could be viewed as fully integrated into the process. Russia is too big and quite specific to be a part of the process, rather it should seek to maintain friendly relations with Europe, while remaining its reliable partner for the years to come.

Fernando Fernández:

Important differences in income levels among candidate countries, as well as in financial and institutional capacities, make it difficult to have integration at a single speed. In addition, the economic and political development of the candidate countries is associated with the possibility of membership. Any excessive postponement would endanger the internal socio-political balance in many cases. Hence, countries should be allowed to join the EU at their own pace, according to their ability to comply with the challenge.

4. Can Russia and China continue as nation states or will they eventually break up?

Leszek Balcerowicz:

One cannot rule out the possibility that some parts of present-day Russia and China will achieve the status of independent states. However, there is no objective way to determine the probability and timing of such events.

I would only hope for this to happen in a peaceful way that would benefit those nations or ethnic groups that wish to be independent (for example, Chechnya in Russia, Tibet in China).

Andrey Kostin:

Principally, an overriding task for Russia’s president, Vladimir Putin, is to preserve the integrity of the country; the way I see it, he would succeed in this endeavour. As for China, so far we’ve been witnessing the reunification of some Chinese territories, namely, Hong Kong and Macao, with mainland China. I do not think one could seriously speak of a threat to China’s territorial integrity.

Fernando Fernández:

Prosperous Russian regions resent paying taxes to support poorer regions that enjoy privileges they lack. Mr Putin wants to reform the federal structures (including the federation Council) but the problem of territorial governance will remain an issue. In the case of China, problems related to the transition to a market economy, which involves high social and regional costs, can easily generate separatist demands. This, together with China’s enormous size makes it difficult to foresee indefinitely a single nation state.

5. How can Latin America get itself on to a path of long-term growth and development?

Leszek Balcerowicz:

At the turn of the 1980s and 1990s some countries started reforms. The pioneer was Chile, later joined by Bolivia, Mexico, Colombia, Argentina and Brazil. The reforms had familiar ingredients: macroeconomic stabilisation based on structural reforms, privatisation, foreign trade liberalisation and the removing of barriers to FDI.

The emerging economic model was much closer to a free market economy with correspondingly reduced intervention, thereby allowing the state to focus more on the supply of public goods, including macroeconomic stability. The market-oriented reforms have generally paid off; the average rate of growth for Latin America has increased from 1.8% in 1982-91 to 3.6% in 1992, 5% in 1994 and 5.4% in 1997. Countries which have introduced more reforms have, on average, achieved better economic performance.

Andrey Kostin:

Latin America is far away from Russia, though in certain respects we are faced with the same challenges and problems (the foreign debt issue, the prospects of ensuring sustainable economic growth). There are some general approaches to defining and implementing economic development strategies, such as fighting inflation, creating an investor-friendly environment in the country.

But let me also refer to some specific features inherent to Latin American economies: the idea of a currency board that worked well in Argentina might never work in Russia, yet the pension reform implemented in Chile could be of interest for Russia.

Fernando Fernández:

A stable economy is the key to stimulate domestic savings as well as for the development of domestic financial markets and for the modernisation and internationalisation of domestic production. In the political arena, there are clear examples (Mexico, for instance) of the benefits of a mature political transition. In addition, it will be essential in all countries to consolidate progress in restructuring financial systems and in improving the quality of education.

6. Is there a case for emerging markets to impose capital controls at certain stages of their development?

Leszek Balcerowicz:

Lack of controls on capital movements was not the primary reason for financial crises in such countries. The true reasons were macroeconomic mismanagement often linked to structural distortions such as inadequate disclosure of information, weak supervision over the financial sector, and close and unhealthy ties between politics, financial institutions and the corporate sector. Capital controls are a poor substitute for reforms which would remove these deficiencies.

Second, most capital controls can be evaded easily. Third, lasting capital controls are not only inefficient but costly – they prevent the development of deeper financial markets, reducing the range of choices available to domestic savers and the pressures exerted on the domestic banks, which would prevent them from charging excessive spreads.

Andrey Kostin:

I guess, yes. But it’s too late to do it in Russia. On the contrary, getting the system of capital movement control liberalised would eventually reduce capital flight and further facilitate voluntary repatriation of funds withdrawn from the country.

Fernando Fernández:

The efficacy of these controls is far from demonstrated. Also these measures increase government intervention and create distortions in resource allocation, and significantly reduce transparency. The Chilean experience is illustrative. Research shows that controls on short-term inflows during the 1990s changed the maturity profile of capital inflows and allowed greater control over monetary policy.

Nevertheless, the effects of the recent financial crises in Chile show that capital controls don’t make a country immune to the international environment. They also increase the cost of capital for small and middle-sized companies and can cause neglect of key aspects of macroeconomic policy.

7. Should investment banks be allowed to structure and sell highly complex derivatives based on emerging market currencies and capital markets?

Leszek Balcerowicz:

Yes. I do not see convincing reasons why one should prohibit investment banks from structuring and selling such derivatives. These banks – as distinct from commercial banks – do not take deposits from the broader public, and there are thus much weaker grounds for subjecting the investment banks to strict prudential regulations. The evaluation of risks can be left to the market.

Andrey Kostin:

In my judgement, yes.

Fernando Fernández:

Yes, as long as customers demand such products (and experience shows that they increasingly do), why not? In fact, such sophisticated products are necessarily a business line for institutions that want to be leaders in emerging markets.

As long as financial markets offer the opportunity to hedge the risk involved, risk profiles remain under control. Nevertheless, it is essential that the institutions that supply these products make sure users understand their complexities.

8. Are today’s global banks too large to manage? Does their concentration of capital and power pose risks for the world economy?

Leszek Balcerowicz:

These are, in my view, open questions. What is not clear to me is the extent to which the recent acceleration of mergers and acquisitions in the financial sector is generated by the objective forces of increased economies of scale and scope, as opposed to other factors, including simple emulation and imitation. In any case, one should not regard each merger as justified a priori on economic grounds.

Andrey Kostin:

Vnesheconombank has not yet reached such a level of globalisation to start talking of it. But globalisation trends so evident in the financial area have also emerged in industry. Take, for example, the aircraft industry or motor industry; numerous multifunctional industrial concerns have been established there. I would dare say, these trends are most typical of the current stage of capitalist development.

Fernando Fernández:

In today’s world, with high capital mobility, no institution can grow without the support and confidence of shareholders that provide the necessary capital. Once shareholders start suspecting that banks are “too large to manage”, funds for a greater expansion will no longer be available.

In sum, capital markets impose unprecedented discipline on companies’ managers. In addition, the degree of competition in any particular sector is not determined by the size or the number of companies. In fact, sectors such as banking, with an increasing level of concentration, are also highly competitive and subject to strong pressure on margins.

9. Have governments in the G7 lost touch with the views and interests of their citizens? Are there lessons to be learned from elsewhere?

Leszek Balcerowicz:

On the contrary, the quality of economic policy improved in most of the G7 countries in the 1990s and this has helped to strengthen economic growth and job creation and has thus served the long-term interests of the citizens. There are problems of communication between governments and the public due to the nature of modern electronic media and, perhaps, by previously inflated expectations about the state.

Andrey Kostin:

I wouldn’t say so. The modern democratic power architecture, with all the shortcomings and drawbacks inherent to it, ensures a seamless feedback and an effective dialogue between the government and people.

Fernando Fernández:

In recent years, we have enjoyed an unprecedented period of prosperity that has naturally given way to increasing demands for better distribution of the benefits. This is logical and welcome. Nevertheless, we should not forget that only growth can bring prosperity to all and, therefore, measures that restrict growth need to be avoided.

10. How should people disenchanted with global capitalism express their frustrations? Is direct action ever justified?

Leszek Balcerowicz:

I distrust movements against globalisation as they are usually movements for protectionism which harms the poor. Globalisation is a force for economic growth and job creation, given the right economic policies. It also increases the risk associated with bad policies and, hopefully, therefore limits their frequency of occurrence and scope. Under the conditions of democracy, direct action should not be regarded as morally justified.

Andrey Kostin:

What we witnessed both at the IMF/World Bank’s forums and in Davos were just acts of malice and vicious vandalism provoked by extremists. Undoubtedly, host countries should take tougher measures to enforce law and order, thus ensuring favourable working conditions to accommodate the delegates.

Fernando Fernández:

Many of these frustrations result from myths and misunderstandings that arise from the concept of globalisation. One is that globalisation benefits only the rich countries and large corporations. However, recent studies demonstrate with significant empirical evidence the high correlation between per capita income growth and the degree of trade openness.

It is also true that trade can lead to specialisation and be somewhat detrimental to the least qualified workers. But the solution is not restricting trade but supporting the least favoured sectors by improving education and training.

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