When Group of 20 leaders met in London in April last year in the teeth of the global economic crisis, they displayed impressive common purpose, pledging rapid and concerted stimulus measures to combat the downturn. Their growth revival policies worked – for a while. But barely one year later, and with turmoil in the eurozone threatening to spread more widely, international solidarity is crumbling.
In June 2010, G20 finance ministers abruptly reversed their previous stance, calling for decisive action to trim budget deficits. But their joint declaration could not disguise deep differences between them, with the US insisting that keeping growth up mattered more than getting deficits down while the recovery remained fragile. Worse still, there was no agreement on which countries should cut by how much or when.
Since then, fear that credit markets will balk at rising levels of sovereign debt has spurred much of Europe and Japan to set about cutting spending and raising taxes in earnest. The markets’ behavior so far suggests that, for most countries, the threat remains more imagined than real. But their gadarene rush for the exit risks turning the economic turnaround into a double-dip recession – a danger of which the World Bank warned last month.
It is extremely unclear how far the recovery is underpinned by real private demand, as opposed to government pump-priming. Hasty, uncoordinated, fiscal retrenchment would be self-defeating if it ended up undermining growth. That would further depress tax revenues and increase pressures on spending, prompting demands for still deeper cuts that could usher in deflation and stagnation.
Far from placating the markets, that prospect could unnerve them further. Indeed, when Fitch, a credit rating agency, downgraded Spain’s sovereign rating recently, it gave as one reason concern that deteriorating growth would make harder the urgent task of reducing private and external debt.
G20 governments are not just divided over fiscal policy. They are also increasingly going it alone on financial market regulation. The US has ploughed ahead with its own legislation, while the European Union plans a levy on banks and tighter controls on hedge funds and Germany pursues a widely criticized unilateral ban on “naked” short-selling. It does not help that many of those measures appear designed with an eye more to impressing public opinion at home than to seriously reducing systemic risk.
But globally inconsistent macro-economic policies remain the biggest worry. Economies such as China, Germany and Japan are looking to increased exports to offset the impact of policy tightening on demand at home. Pushed too far, that could trigger a protectionist backlash and beggar-my-neighbor policies elsewhere. It would also deepen the plight of weaker, debt-laden economies, for which exports offer the only hope of growth and especially of struggling eurozone members such as Greece, Spain and Ireland, for which a declining euro offers no help in competing against Germany’s hyper-efficient exporters.
That argues against hasty withdrawal of stimulus in larger and stronger economies. But sustained recovery depends on more than just better coordination of cyclical and regulatory policies. Without effective action to attack deep-seated structural distortions, economic and financial instability is likely to recur and become more acute.
Those distortions are rooted in differences in national savings rates that are mirrored in persistent current account surpluses and deficits. For most of the past 20 years, excess savings in surplus countries, notably China, Germany and Japan, have financed excess consumption in deficit economies such as the US and Britain. By flooding the world with abundant ultra-cheap capital, those savings contributed to the reckless western lending and financial market practices that detonated the current crisis.
True, since the crisis, savings rates have risen in deficit countries, while trade surpluses shrank in several big surplus nations. But the changes may prove only temporary: China’s trade surplus rebounded in May, while the US deficit has recently widened.
Tackling these global imbalances calls for action on both sides of the ledger: higher savings and productive investment in deficit countries; increased reliance on domestic demand, especially from consumption, in the surplus economies. That will be achieved, not by some magic bullet, but by often politically difficult measures that vary between countries.
In deficit economies, it will mean popular acceptance of lower living standards for some while, along with changes in incentives, regulation and tax policies. In surplus nations, the solutions include structural reforms that unlock new sources of domestic demand and, in China, greater currency flexibility, steady relaxation of capital controls, modernization of the financial system, improved social security and measures to cut corporate and government savings.
This is a vast agenda, which amounts to the basic re-engineering of established economic models. It is also one on which international consensus remains distinctly lacking. No American politician is prepared to call an end to the American dream of steadily rising consumption and living standards. Equally, Germany continues stoutly to defend both its vocation as an exporter and the virtues of fiscal stringency, while China flatly refuses to acknowledge that its policies might have helped sow the seeds of the crisis.
Such attitudes are politically understandable and enjoy popular support at home. But unless governments can rise above them and start facing up to their responsibilities, efforts at serious global policy coordination will remain severely handicapped. The whole world can only be the poorer for that.
Guy de Jonquières - Senior fellow at the European Centre for International Political Economy. He previously worked for The Financial Times
