All this talk of a new Bretton Woods, and yet when all was said and done the G20 meeting hardly even touched upon the issue of formal coordinated action.
Writing in today’s FT, Kenneth Rogoff, professor of economics at Harvard and former chief economist of the IMF and Carmen Reinhart, professor of economics at Maryland University stress this point and the lack of responsibility taken by politicians for their role in the current crisis.
Indeed, the need for greater regulatory independence is a compelling reason for establishing an international financial regulator, another topic the G20 conspicuously avoided. We recognise that international financial institutions are far from perfect.
While Rogoff and Reinhart admit international financial institutions are not always perfect, their view is they cannot be matched by any domestic alternative when it comes to independence. The domestic option is usually too influenced by political pressure, skewing its view.
We do not mean to imply that the political system alone is responsible for the lax discipline that has led to our current predicament. Overly optimistic assessments by rating agencies and negligence by investors, as well as malfeasance in the financial sector, certainly did play a roleBut politicians had a big hand in fanning the excessive leverage that lies at the root of the current crisis. Start with a tax system, particularly in the US, that favours debt finance. Add the favourable treatment given to partnerships, including hedge funds and private equity, that are largely taxed at very low capital gains rates instead of much higher income tax rates.
Therefore, the crisis was not the fault of the regulators, say Rogoff and Reinhart. The regulators were simply left unequipped. To function, they must now be broken away from political influence. Basel II is already dead on arrival, too inflexible to deal with the pace of change. A new regulatory framework must instead be set up via a recurrent series of agreements ‘in analogy’ to the World Trade Organisation. According to Rogoff and Reinhart that body’s role should be to…
… monitor agreements and promote free capital flows in a market-based system, not to re-regulate the global economy as it was 40 years ago. It is folly to imagine that the genie of free capital flows can, or should, be put back in the bottle. That said, both domestic and international regulators should look for ways to make policy less cyclical. In addition to imposing stricter capital requirements than envisioned by Basel II, they should dig up other rusty tools to combat leverage, such as margin requirements and reserve requirements.
Above all, say Rogoff and Reinhart, an international regulator should be sought to protect against the detrimental effects of national political interests, among them chiefly favouritism via the promotion of national champions.
Related link:
Regulation should be international - FT.com
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