# Presentation: 662096

## International Economic Policy Challenges Facing the Obama Administration

***Michael G. Plummer*****,**
***The Johns Hopkins University, SAIS-Bologna***
***Presentation,***
***US Embassy***
***February 23, 2009***

## contents

- The 2008-09 Crisis: Status quo and prospects.
- Review of International Economic Challenges
- III. The Need for International Cooperation
- IV.	Recommendations to the Obama Administration

## Key Points

- The Crisis is Currently in Full Swing; signs are mixed but could bottom out in the fall.  Not an easy time to be President!
- Domestic political reactions in US (and elsewhere) are creating significant challenges to coherent international economic policy.
- As globalization compounds the importance of international economic policy, addressing associated challenges effectively through better cooperation mechanisms and governance is far more important today than ever before.
- We identify these challenges and recommend how the Obama administration might deal with them.  We suggest that a Bretton Woods II “process” could help set the stage for more stable future growth.

## I.  The 2008-09 Crisis:  Status quo and Prospects

## Status Quo

- I am not going to talk about how we got into this mess; I think that it has been well documented in the press!  Academic work will be published in six months telling us how this largely-unforseen disaster was perfectly predictable (useful to know six months PRIOR!).
- Suffice it to note that uncertainty in the financial system has never been as high since the Great Depression, or at least the Debt Crisis.  The real sector is now feeling the full brunt of the Crisis.  It will for some time.

## Financial spills over to the real sector

- 3.	Bourses in tail-spin throughout the world with considerable volatility.  Dow closed at 7366 on Friday, lowest in over a decade.
- 3.	Ironically, US$ is holding its own, due to liquidity shortage in, for example, Europe, carry trade unwinding, & “safe haven” status.
- 5.	US has been in recession since December ‘07; Eurozone and Japan shortly after. Japan is currently contracting at a 13% pace, only slighty better than its worst-ever.  Eurozone is currently in its worst state since the euro.

## Exchange Rate Volatility

## Stock Market Collapse

## Slowing output

- 2006

- 2007

- 2008

## From inflation to deflation?

- From inflation to deflation?

- Source: IMF, *IFS Database*, accessed 1/3/08.

- 2006

- 2007

- 2008

## Global Deceleration

- Source: ADB, *Asian Economic Monitor* (December 2008)

## Prospects

- How deep and long the recession will be depends on many factors.  Economic models don’t perform well at all in the context of such uncertainty.
- I would argue we have more to learn from Japan in the 1990s than the Great Depression.  Key lessons:
- 	a. Act quickly and decisively in monetary policy and in addressing ills of the financial sector
- 	b. Fiscal policy:  needs to be expansionary, but spent WELL.

## US domestic policy reaction

- In this sense, Fed has arguably done well: perhaps it has been even too decisive and active.  Interest rates near zero; quantitative easing; corporate debt purchases; even long-term US gov’t securities possible.
- Fiscal policy ($787bill):  Stimulus plan is necessary, particularly for “animal spirits”. Plan is 63% spending; 37% tax cuts. Flaws? Certainly. Some Pork in spending cuts; some in tax cuts, which are arguably less stimulative anyway.  But best that could be done given the economics and politics of the moment.

## Dare to Hope

- In sum, while we might argue about details, the approach to (domestic) monetary and fiscal policy thus far has arguably been appropriate, though not necessarily optimal.
- We can expect negative economic data to shower us for at least another six months, barring other major shocks. But all signs are not bad:

## Positive signs

- Corrections in assets markets already in the range of historical cycles.
- Imbalances that contributed to crisis are correcting themselves (hard landing, but still...).
- Interbank market has unfrozen; liquidity is there, signs that lending should pick up soon (once things settle).
- US consumer prices actually rose by 0.3 percent in January, relieving fears of potential deflation.
- Retails sales up (1%) from Dec.-Jan.
- Car sales fell last month but have stabilized.
- Some think that the economy will actually shrink by less in Q1’09 (Economist) than in Q4’08.  Updated (Feb. 21 ’09) Commerce Dept, WSJ Survey:  Positive growth in Q3’09 (0.9%) and double that (1.9%) in Q4’09.

## Perspective

- 7. Don’t get me wrong:  still much uncertainty; if I were to list all the negative data,we’d be here all morning.  And we cannot discern a trend from a month or two of data.  Nevertheless, recessions are like that; deep ones even worse.  But the sky is not falling and capitalism is not finished.
- 8. Whether it will be long or short will depend not only on the domestic policies mentioned earlier, but the US and international approaches to addressing the Crisis.
- 9. For the rest of this talk, I focus specifically on what this all means for US policy *viz *the rest of the world, and how the Obama Administration might deal with these emerging challenges.

## II. International Economic Policy Challenges

## Summary of Challenges

- I would argue that the Obama Administration needs to face the following in the short-medium term:
- Real-sector-related (trade, FDI):
- i.	Avoid the “usual” urge to protect
- ii.	Finish a “deep” Doha accord
- iii.	Devise an effective FTA strategy, including FTAAP (and openness to new push toward FTAA)
- *	Will not be easy but useful legacy from Bush Admin...and Obama has a better chance at the “big” schemes.

## Financial-sector-related

- Financial-sector related:
- Governance issues related to the Crisis:  Global finance and global rules
- Fix imbalances that arguably fed Crisis (Macro, CA imbalances in particular)
- Exchange-rate volatility
- Reform of international economic institutions
- Discover more effective approaches to coordinated economic policy in all areas
- *	These issues are arguably the most important; Obama Administration could use Crisis as catalyst for longer-term reform.

## The Need for Int’l Cooperation

- 2. 	Note: none of this will be possible without better channels of international cooperation:
- As globalization has progressed, approaches to governing and managing it have lagged.
- Example:  no international monetary system ($/€!).
- Example:  no new trade deal, but demands of globalization have sparked regionalism trend
- Example:  we have no mechanisms in place to harness int’l approaches to crisis.  This has certainly reduced our effectiveness in dealing with relevant issues.

## III. International Policy Challenges and How to Address Them

## Suboptimal response to Crisis

- At the global level, most major economies are responding to the crisis, but not in a coordinated way.
- In Europe, picture is mixed: France, UK, and Germany, rather large injections. Others less so (including Italy) for various reasons.
- “Free-rider” problem and inefficiencies regarding cooperation.

## Policy spillovers and externalities

- For example:
- Policy spillovers may lead to “bad” equilibria
- Joint commitments may be more credible
- Uncoordinated regulation may lead to arbitrage
- Direct intervention could have competitive effects (e.g., autos)

## Policy spillovers

|                 
Type of Policy | Problem
targeted | Remedy | Outward
Spillovers | Side
effect |
| --- | --- | --- | --- | --- |
| Fiscal policy | Inadequate demand | Spending | Demand leakage | + |
| Monetary policy | Inadequate liquidity | Easing | Boost liquidity  | + |
|  |  |  | Depreciation | - |
| Trade policy | Inadequate demand | Protection | Declining trade | - |
| Regulation | Loss of confidence | Oversight  | Regulatory arbitrage | + |
| Intervention  | Loss of confidence | Bailouts  | Boost confidence  | + |
|  |  |  | Boost competition | - |

## What needs to be done?

- Sustain global public goods: IMF, trade
- Generate adequate fiscal and monetary stimulus
- Uncoordinated may be insufficient
- Uncoordinated may not address imbalances
- So, for example, in terms of Transpacific coop:
- China should stimulate domestic/regional demand
- Japan should stimulate expenditure but contain debt
- US should allow consumption decline while stimulating domestic supply
- Complicated policy mix requires coordination

## IV. Recommendations to the Obama Administration

## To Conclude....

- *	To conclude, we’ll offer a few recommendations focused on international economic policy, based on our above analysis.
- *	We limit ourselves to international economic policy; beyond this would take too long (but we could discuss later if you would like).  And I am sure that these will be controversial enough for one morning!

## Recommendations:  Real Sector

- I.  Real Sector:
- Resist strong political motivation for “beggar-thy-neighbor” policies, e.g., trade protection, “Buy USA”.
- Coordinate rules, even *ad hoc*
- Place a high priority on finishing the Doha Development Agenda.
- Invest in FTAAP, FTAA, and ASEAN agreements.

## Recommendations: Financial Sector I

- Financial Sector:
- While financial excesses were focused on certain economies (e.g., US-UK), they clearly have had global ramifications and all have been drawn in.  Externality should be internalized through more effective governance and surveillance rules.
- Major cause of crisis: imbalances.  Need to discuss ways to reduce them (beyond RMB, which is more political than economic).

## Recommendations:  Financial Sector II

- Exchange-rate volatility has perpetuated imbalances.  Need to develop a coherent system.
- Should put in place (at minimum) indictors of macro problems (e.g., ASEAN Surveillance after Crisis).
- Redefine roles of BW financial institutions in light of new global economy.

## Bretton Woods II

- In my view, the Obama Administration should not lose the “momentum” of the Crisis that would faciliate reform of international cooperation.
- Some (beginning with Brown) have been calling for a “Bretton Woods II” conference.  Others have argued that we don’t need it, or that the time is not right for it.

## A Process, not a Conference

- In my view, we DO need it and there is no time like the present.
- Given the complexity of the issues facing us, this will likely require great preparation;
- Should be considered more of a process than a conference;
- But the calamity of this Crisis hopefully has driven home the need for it;
- the Obama Administration is in a unique role to provide the necessary leadership.

## Topics for Consideration

- Bretton Woods II would include the following issues:
- a.  Exchange rate volatility and governance (not necessarily new “adjustable peg”; many possibilities).
- b.  Approaches to macro imbalances, even “name and shame” and reference indicators.
- c.  Framework for competition policy, especially in light of bailouts.
- d.  Framework for “best practices” in regional/bilateral trading agreements.
- e.  Reform of IMF, World Bank, other regional/global institutions.
- f.  Financial reform cooperation and coordination.
- g.  Other issues (but with an eye to politics):  food security, energy, environment.

## Thanks for Your Attention!

- 5. These are ambitious areas requiring considerable “good will” and flexibility to negotiate.  It took a horrendous World War to bring about the last BW.  Thankfully, this is not the case this time.  But the severity of the Crisis, and the risks of what might follow, justify a pro-active approach to these neglected issues.
- 6.  It’s in your court, Mr. President.