The regional route

Print edition : May 07, 2004

The "Washington consensus" on an optimal development policy is unravelling rapidly. A recent meeting in New Delhi discusses the concerns of, and the possible alternatives before, the developing countries.

THE United Nations Conference on Trade and Development (UNCTAD) will convene for its 11th session in June, at Sao Paulo, Brazil. This would be the first multi-lateral meeting involving the global trade negotiating community, since the collapse of the World Trade Organisation's (WTO) ministerial meeting at Cancun, Mexico, in September. In this sense, UNCTAD XI would mirror some of the context in which its immediate predecessor at Bangkok took place. Then again, the global trade negotiations process had drifted off course after the Seattle ministerial meeting of the WTO ended without agreement, amid scenes of unprecedented chaos and acrimony.

Yet, Bangkok witnessed a degree of cordiality and some tentative steps towards a new beginning. Developing countries insisted on revisiting the Uruguay Round agreements that had been concluded in 1994, to test their multifarious outcomes against the promises made. Developed countries remained averse to reopening what they regarded as a closed chapter, but promised that most of the concerns of the developing world would be met if a new momentum were to be given to the process of multilateral trade liberalisation.

These aspects aside, it would be evident that there are also certain stark contrasts between Bangkok and the forthcoming conclave at Sao Paulo. The world economy then, despite the East and Southeast Asian meltdown just two years prior, seemed to be on fairly even keel. There were growing signs of turbulence ahead, but the United States economy was still powering ahead with the astonishing momentum of growth it had built up through the 1990s.

The next year on, the situation took a turn for the worse. The U.S. economy officially slipped into recession in the first quarter of 2001. And new economic difficulties and vulnerabilities seemed to unravel with the terrorist attacks in New York and Washington D.C., with the stock markets plunging and bankruptcies threatening several pivotal industries. The Doha ministerial meeting of the WTO, taking place in November 2001, was salvaged from almost certain failure only by a major - if finally rather symbolic - concession from developed countries on access to essential medicines. There was also an agreement to revisit the issue of implementation of existing trade agreements. Together with the halo of righteous struggle that the U.S. had acquired after September 11, these gestures succeeded in bringing recalcitrant nations in line for the launch of a new round of global trade negotiations. But positions only hardened as the global recession bit deeper, leading inevitably to the failure at Cancun. Will UNCTAD XI succeed in partially breaking the logjam or at least in fostering an ambience for the resumption of global trade negotiations? The portents are bleak. The U.S. is in election mode and President George W. Bush, though armed with "fast track" trade negotiating authority, would not like to risk offending one or the other special interest group just ahead of what is expected to be a close-run race. The more serious impediment still is the state of the world economy, whose underlying features today indicate that the supposed "Washington consensus" on an optimal development policy, is rapidly unravelling. A long overdue reality check that the UNCTAD Secretariat has carried out as part of its preparations for the Sao Paulo gathering shows that most developing countries in fact, grew much more robustly in the decades preceding the 1990s, before they were yoked to the so-called Washington consensus; indeed, when they were free to pursue relatively autonomous developmental policies, which invariably involved strong state participation in the economy.

MANY of these issues, including possible alternatives for the poorer countries that find themselves today at an impasse as far as development goals are concerned, were discussed at a three-day conference in Delhi in April. Jointly organised by UNCTAD and the Academy of Third World Studies (ATWS) at the Jamia Millia Islamia, the conference drew eminent participants from a number of countries. Among the issues discussed were the growing tenuousness of the global financial boom, the basic maladies afflicting the "real" economy, the linkage between trade liberalisation and development, the options available in controlling and regulating the movement of capital across borders, and the impact of growth on income distribution and poverty levels.

Sunanda Sen, a senior visiting professor with the ATWS, seemed to capture much of the essence of the discussions with a model outlining the linkage between the "real" economy and the growth of the financial sector. She used a telling phrase, borrowed from Hyman Minski - the "euphoric economy" - that seemed a particularly appropriate description of the wellsprings of growth in the global economy today (and also perhaps an ironic comment on the supposed "feel good" factor that pervades the Indian economy).

In Sen's account, the description applies to a situation in which "capital appreciation rather than returns on (capital) assets provide the firms the means to meet rising debt charges". It is now widely recognised that the world economy has for long been running on the single motor of the U.S. And the U.S. in turn, has only managed to sustain its growth by plunging deeper into debt, with the burden being passed on in a cascade through its household, corporate and governmental sectors.

As credit expansion continues apace, it is increasingly channelled into meeting debt charges or garnering speculative gains in the capital market. This sets the stage for the economy to slip into the second phase in the evolution of the link between the real and financial sectors. The real economy begins slowing down but financial expansion continues. Asset prices continue their ascent, and the "wealth effect" that this engenders, fosters the illusion that the rapid accumulation of debt will not be a serious constraint in future.

Then begins the phase of debt deflation, which starts with a "downswing in real activities". Credit sources from this point on fail to "satisfy the liquidity demand to acquire the spurious financial assets which have no real backing". How long in real time does the entire cycle take? The U.S. has been on the verge of several such boom-bust cycles since the early 1980s, but has managed time and again, to find new sources for growth. And each phase of growth has involved a more extravagant debt splurge than the preceding one.

Ever since the U.S. current account deficit became an issue that the world economy had reason to feel concerned about, the U.S. dollar has gone through two cycles of appreciation and depreciation. Yet the impact on the current account balance has been negligible. Conventional processes of adjustment, in other words, were inoperative since the U.S., aside from being the world's principal spendthrift economy, also was the owner of the world reserve currency.

Faced with the adverse repercussions of five years of a rising dollar, the world's main industrialised countries agreed in 1985, after an economic summit at the Plaza Hotel in New York, that they would take serious steps to realign currencies at more realistic levels. With the two principal surplus economies, Germany (then West Germany) and Japan, acting in concert, the dollar was slowly brought down, without any of the seismic shocks that could accompany a sharp drop. Concurrently, a fiscal correction that brought down the U.S. federal budget deficit by over 30 per cent seemed to create the appropriate conditions for restoring the current account to a semblance of balance. That did not happen. The U.S. trade and current accounts continued to plunge further into deficit. And despite the world's main industrialised economies agreeing - in the Louvre accord of 1987 - that the dollar depreciation had gone far enough, the U.S. currency continued to fall. The reason was simply that higher consumption by the household sector in the U.S., at the expense of saving, had largely offset the potentially favourable impact of fiscal correction.

It was only in 1995, when the German and Japanese economies were on the verge of freezing up on account of their strong currencies, that the U.S. decided to return the favour it had been rendered in 1985. The dollar began to rise against the Deutschmark and the Japanese yen. But the trend of the current account balances continued to be moving steadily and rapidly into the red.

Large corporate and household sector borrowings more than made up for the correction that had been attained on the U.S. federal budget. From 2001, the federal budgetary balance too has begun to deteriorate and the dollar to depreciate. Despite the dollar entering into the second of its cycles of depreciation since the 1980s, the external account deficit continues to go as rapidly into deficit.

This background of theory being continually confounded by reality, led to the conference participants posing rather sharply, the question about how long the centrality of the U.S. dollar to the world trade system could be sustained. Michel Aglietta, an economist with the University of Paris, proposed that the dollar was the beneficiary of a self-fulfilling prophecy.

An overwhelmingly large share of world trade is denominated in dollars, including almost all transactions in that pivotal commodity, petroleum. This has induced most countries to hold their foreign exchange reserves in dollars. Contracts that have been traditionally concluded in dollars, incorporating the complexities of hedging, futures, risk discounting and every other manoeuvre of modern commerce, cannot be switched to another currency without a tremendous short-term increase in transactions costs. In a global context of deregulated financial markets, this makes U.S. monetary and fiscal policy a decisive determinant of returns to be obtained from investment. As long as there is a sufficient stock of dollars in the world, they will chase the best possible return, whether in U.S. treasury bonds, mortgage instruments or corporate shares.

For Gary Dymski from the University of California Centre, Sacramento, the tide of financial deregulation and liberalisation that enabled the dollar to establish its global sway, had a distinctly negative side. In growing degree, he points out, the "interrelated and globally active financial firms are both reacting to the increasingly polarised distribution of income and wealth around the world, and also behaving in ways that worsen that divide". The outcome has been a divide between "financial citizenship" and "financial exclusion", which grows even as the "wealth/income and security/insecurity divides" grow. Viewed in the context of national economies, Dymski finds a hollowing out of traditional systems of financial provisioning, both from the outside and from the inside. This suggests, in his opinion, that stopping or regulating financial flows at the national border may not be sufficient. Though he does not enter into a full discussion of the range of feasible policy responses, Dymski's arguments seem to point distinctly to the conclusion that directed credit allocation may not be altogether a bad thing.

The indispensability of border controls on capital movements was strongly affirmed by Prabhat Patnaik of the Jawaharlal Nehru University, Delhi. In an economy with flexible exchange rates and liberalised rules of entry and exit for capital, financial inflows would tend to raise the exchange rate. This would lower the level of economic activity by shifting demand from domestic products to imports. An outflow of capital, however, would not have an equal and opposite impact. Rather, the concomitant downward pressure on the exchange rate could conceivably raise inflationary fears and in turn occasion a cumulative slide in the currency. To prevent this outcome of a buckling currency and explosive inflation, the state would have to adopt an anti-inflationary stance, typically by curtailing its own expenditures. This would in turn, further dampen activity levels.

Finance as the dominant element in international economic relations, rightly came in for much attention at the conference. But the material dimensions were not ignored. Ajit Singh of Cambridge University entered a rather sharp criticism of the disdain that neo-liberal ideologues and trade negotiators today affect towards the principle of "special and differential treatment" (S&DT) for developing countries. Far from being antithetical to the needs of development, S&DT is its very essence, he pointed out. A passing familiarity with the historical record would bear this point out, since the reconstruction of Europe, Japan and much of East Asia after the devastation of Second World War, would have been inconceivable if they had not enjoyed certain preferential rules of access to the U.S. It was not altruism but a robust calculation of self-interest that drove this policy stance, since the U.S. itself gained much by way of markets in the bargain. The hegemony of the dollar, the wilful amnesia of the developed countries and the heightened sense of insecurity in developing countries - these do not exactly constitute the appropriate ingredients for a phase of constructive engagement in international trade diplomacy.

Economists from the trade analysis branch of UNCTAD presented the most updated findings on what the tariff reform proposals currently under discussion would imply for developing countries. In most cases, the formulae that are favoured by the developed countries, would entail crushing revenue losses for the public exchequer and serious labour dislocation and adjustment costs.

The remedy then is for developing countries to fall back increasingly upon their own devices and craft the trade and payments arrangements that would help them out of their dollar dependence. The proliferation of regional trade arrangements has been a significant feature of the 1990s, in an ironic though unintended repudiation of the virtues of multilateral trade liberalisation that the WTO proclaims. The summary message of the New Delhi conference was that the developing countries too need to consider this option and apply it with the same kind of resolve that the U.S. and other industrialised countries have brought to the mission.

A letter from the Editor


Dear reader,

The COVID-19-induced lockdown and the absolute necessity for human beings to maintain a physical distance from one another in order to contain the pandemic has changed our lives in unimaginable ways. The print medium all over the world is no exception.

As the distribution of printed copies is unlikely to resume any time soon, Frontline will come to you only through the digital platform until the return of normality. The resources needed to keep up the good work that Frontline has been doing for the past 35 years and more are immense. It is a long journey indeed. Readers who have been part of this journey are our source of strength.

Subscribing to the online edition, I am confident, will make it mutually beneficial.

Sincerely,

R. Vijaya Sankar

Editor, Frontline

Support Quality Journalism
This article is closed for comments.
Please Email the Editor
×