Subir Gokarn: G20 after the crisis - an Indian perspective
Keynote address by Dr Subir Gokarn, Deputy Governor of the Reserve Bank of India, at the
Indian Council for Research on International Economic Relations/InWent/German
Development Institute (ICRIER/InWent/DIE) Conference on "Policies for growth and financial
stability beyond the crisis - the scope for global cooperation", Mumbai, 27 October 2010.
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Introduction
I would like to thank the organizers of this event for inviting me to deliver this keynote
address. While the title of the session is "What India expects from the G20", I think it would
be extremely presumptuous of me to speak on behalf of the country as a whole. I have, of
course, been involved with the G20 process as the Central Bank deputy and, in that capacity
have had the opportunity to contribute to the shaping of the Indian position on various issues.
So, rather than assert a national position, I would prefer to share some of the thinking that
underlies the stance that is taken at various G20 forums. With this in mind, my presentation
is divided into three broad segments. First, I look at what the G20 did to avert a potentially
severe crisis a couple of years ago, which essentially provides the context to whatever role it
may play in more "normal" circumstances. Second, I explore the inherent differences within
the group, which will naturally impose limits on what it can realistically hope to achieve by
way of global co-ordination on structural issues. Third, I build on these two foundations to try
and articulate a general "emerging market economy" position, which, I think, would be
reflective of the Indian stance on a range of issues.
The context of crisis
The G20 had its origins in a previous crisis that also began in the financial sector and which
threatened to spill over from one country to the next. This was the East Asian crisis of
1997-98, the roots of which lay in the increasing presence of foreign capital in economies
that perhaps didn't quite have the capabilities to handle it. The fact that one of the factors
underlying the crisis - foreign capital - linked the advanced and emerging economies
provided the basis for countries from both groups coming together to look for ways to
minimize the vulnerability of emerging economies on the one hand and global financial
institutions domiciled in advanced economies on the other.
Of course, the East Asian crisis wound down, with the affected countries showing strong
resilience in the years following. The need for collective solutions, such as those which might
have been provided by the G20 was felt less and less as emerging economies, both those
most impacted by the crisis and those which escaped it, found their own, individual buffers
against the next crisis. Since the crisis had had no significant macroeconomic impact on the
advanced economies, they also had no particular interest in pursuing any collective strategy
for structural change, which might have helped to stabilize the global economy and make it
less vulnerable to a crisis. Of course, one important outcome of keeping the group going
despite the absence of a particularly significant agenda was that the institutional
representatives from the member countries got to know each other, making communication
during the most recent crisis when the group really came into its own perhaps a little easier
and more effective than otherwise.
In effect, then, a group that was born in the wake of one crisis really got the opportunity to
demonstrate its effectiveness when another one precipitated. This crisis also had its genesis
in the financial sector, which helped retain the relevance of the group's structure, with its core
constituencies being finance ministries and central banks. This time round, however, the
origins of the crisis lay squarely in the financial sectors of the advanced economies, a factor
that has created some special challenges for the group's attempts to deal with post-crisis
structural issues, a point that I shall return to later.
My essential point is that the origins and structure of the group made it an appropriate and,
eventually, effective mechanism to deal with a crisis that threatened to spiral into a deep
global recession. There have been many questions raised about what exactly the group did
that contributed to mitigating the impact of the crisis. Some have argued that the measures
that each country took to deal with the crisis would have essentially been the same even
without the coming together of the G20. That may well be the case, but I would argue that it
was precisely the show of strength and collective resolve of the group that helped reinforce
the confidence of global stakeholders that the crisis would indeed be averted. Individual,
uncoordinated responses, to my mind, would not have had the same impact on global
perceptions that the G20 solidarity did, even if the policy measures in each country had been
exactly the same.
Beginning with the Washington Summit in November 2008 and through 2009, the visible
focus of the group on both the proximate aspects of the crisis and the more fundamental
causes was, I believe, a major reason for the restoration of global confidence. The economic
recovery has been slow and somewhat choppy, but potential disruptions have also been met
with collective responses, which have, in turn, reinforced the belief that the recovery can be
sustained. Further, the prominence that the group gave to structural reforms of various kinds
sent the signal that it was committed not just to dealing with the immediate crisis but to
putting in place measures that would significantly reduce the probability of recurrence. As we
know from our own experience with structural reform, crisis always presents a window of
opportunity to obtain a consensus on reform measures that would just not be possible under
normal circumstances. It is for the leadership to grasp this and to push through reforms that
meet the needs of changing global circumstances. The group's focus on structural issues
was itself an important reason for the credibility it gained for its efforts to manage the crisis.
In short, I think that it is a reasonable assessment that the global economy would have been
in somewhat different shape today if the G20, or any collective process involving the world's
largest economies, had not taken place. The group can certainly draw strength from this as it
now shifts focus from dealing with the crisis to dealing with the structural issues that are
perceived to have caused it. But, it is precisely at this stage in the process that the
challenges to change management arise. As the crisis abates, the common threat perception
and collective responsibility inevitably begins to dissipate and the consensus that was visible
in the crisis management phase gives way to more individualistic priorities and agendas.
How are these manifesting in the G20?
Dividing lines
A number of factors have contributed to the emergence of differences within the group. This
should not be surprising in and of itself, given the fact that this is an enormously disparate set
of countries. The 20 countries in the group can be classified into categories based on a large
number of parameters, each of which implies different policy priorities and, consequently,
different approaches to deal with domestic and global conditions. Large or small, more or
less affluent, net importers or exporters, commodities producers or manufacturers, aging or
young populations - whichever way one looks at it, the composition of the group should not
inspire much confidence that it can agree on common approaches to the structural issues
that confront the global economy. Let me explore a few of these dividing lines and their
implications for the group.
At this juncture, the variability of the recovery across the members of the group is a critical
difference. In fact, with some economies having consolidated their domestic recoveries while
others struggle to do so, there are legitimate concerns about whether the crisis has actually
abated; in other words, whether the primary objective of the group has actually been
achieved. Perceptions about the robustness of the global recovery have oscillated quite
widely during the past several months and the outlook today is somewhat more negative
than it was at the beginning of 2010. But, within this overall shift, while the outlook for several
economies has deteriorated, it has remained constant or improved for others. This has
immediate implications for the domestic policy priorities of each country. In a group that is
ostensibly committed to doing no harm to each other, these differences may pose a
challenge.
The most visible dilemma is on the issue of continued quantitative easing by advanced
economies whose recoveries are showing some signs of stalling. As the capacity for further
fiscal stimulus abates, more so as countries attempt to pull back from huge fiscal overhangs,
more liquidity being pumped in appears to be the only avenue remaining for stimulating the
economy. From the viewpoint of individual countries, there isn't much choice; not using the
instrument significantly increases the risks of the recovery reversing course. Apart from the
domestic impact of this, given the relative size of the economies involved, this could clearly
have global implications as well. So, it may well be that individual and collective interests are
aligned on this issue.
But, while there may be alignment over a somewhat longer time horizon, in the immediate
future, there are signs of misalignment. More liquidity, even the prospect of it, in some
advanced economies, is spilling over into fast-recovering emerging economies, introducing
several complications into their domestic policy environment. Some are worried about
currency appreciation and the impact that this might have on their recovery as domestic
producers lose competitiveness. Others are worried about the short-term nature of the
inflows and the disruption that might be caused if there is a sudden exit in response to a
global shock or new developments in the source countries. There are widespread concerns
among energy and commodity importers that global liquidity is flowing into commodities and
driving up prices, with consequent inflationary implications. In short, the immediate impact of
quantitative easing may represent a dividing line within the group, even if, over time, it may
be in the collective interest.
Financial safety nets represent another potential dividing line, not necessarily on principle,
but on the different approaches that groups of countries have used to develop them.
Selfinsurance by way of reserve accumulation may be the safest way to protect oneself from
global shocks from the viewpoint of individual countries. But, beyond some threshold levels
of magnitude, it begins to generate externalities. To return to a point that was made earlier in
the context of the East Asian crisis of the late 1990s, the effective choice made by countries
affected or threatened by that crisis to build up self insurance capacity was both a response
to perceived inadequacies in the collective safety nets available at the time and a
contributory factor to some of the imbalances that have been associated with the global
transmission of the recent crisis.
The analytical debate on this issue will go on, but the practical implication for many countries
is to decide on their acceptable mix of insurance options within the overall consideration of
doing no harm to other countries. Even while collective options, such as those that have
recently been introduced by the International Monetary Fund become more accommodating
of individual country requirements, the benefits of self-insurance that many countries
experienced first-hand during the recent crisis are difficult to deny. Meanwhile, the perceived
link between the building up of individual safety nets and global imbalances makes this issue
a dividing line within the group.
Another example of a dividing line is financial regulation. It is now generally accepted that a
significant contributory factor to the recent crisis was the opportunity that the existing
regulatory and supervision framework in some advanced economies provided for highly risky
investments to be made. However, even as this was happening, there are several countries
in the group whose regulatory frameworks did not provide such opportunities and whose
financial systems emerged from the crisis relatively unscathed. Notably, there seems to be a
significant correlation across countries between the degree of damage that domestic
financial systems suffered and the speed and robustness of their recoveries.
However, there is little question that there is a strong and inexorable process of global
financial integration, which, with all the risks it entails, does have large potential benefits for
all countries concerned. One important requirement for realizing these benefits is a set of
common regulatory principles, standards and practices across countries. These are
necessary to ensure that capital flows across the world based on genuine consideration of
fundamental returns and risks and not on arbitrage between different regulatory
environments. Certainly in theory, this should not be the cause of any division; there is a
clear common and shared interest in the outcome. In practice, however, divisions could arise
on what exactly these standards and practices should be; whether they are driven by the
specific conditions prevailing in the worst hit financial systems and, therefore, inappropriate
and burdensome for the relatively healthy ones; and, the knowledge and human capital
requirements to implement them effectively across a diverse set of countries.
I have tried to provide some examples of potential dividing lines, drawing on my experience
and observations of the process in the finance track. Let me conclude this segment of the
presentation by reiterating the point on which it began. This is an extremely differentiated and
heterogeneous set of countries, whose conditions and priorities differ both in the short term
and over the long run. It would be extremely naive to expect that such a group would be able
to reach agreement on anything beyond the immediate crisis at hand, despite their ambition
to tackle structural issues. From this perspective, any consensus on any issue is an
achievement. It reflects the recognition that, notwithstanding differences between countries,
global integration is a process that can be chaotic and disruptive if not handled in a collective
and coordinated way. What is true for crisis management is also valid for the range of
structural issues that the G20, as well as those which other multilateral processes are
dealing with.
An emerging market economy/Indian perspective
Against this backdrop, let me now attempt to articulate what I would call an "Emerging
Market Economy" perspective, but which also reflects my characterization of the Indian
perspective. An important premise in this perspective is the point I concluded the last
segment with. The process of globalization has enormous potential benefits for EMEs in all
its forms. But, it also brings with it significant risks, such as the vulnerability to shocks which
emanate outside their sphere of control. The best way to optimize on the "risk-return" tradeoff
from globalization is to adhere to a common set of standards and rules, which, as I said
earlier, forces the process to be driven by fundamental factors rather than by regulatory
arbitrage, broadly speaking. On the basis of this argument, EMEs will see a clear benefit
from engaging in any process that can develop and enforce such common standards and
practices. The G20 is one such process, with the distinct advantage that, being a relatively
small group, reaching consensus where it can be found is not too difficult a task.
However, EMEs have significant domestic objectives and challenges and these must take
priority in their policy decisions. Many are dealing with the critical challenge of providing a
large proportion of their population access to the most basic necessities, let alone education,
health and financial services. An integrated and balanced development strategy makes
several demands of the financial system. This, in turn requires a careful balancing between
rapid expansion in capacity and the kinds of products and services offered on the one hand
and safety and prudence on the other. This balancing act, at one level common to EMEs, but
at another, differentiated by the vastly different conditions within the EMEs themselves may
not be amenable to a reasonable set of common standards, except at a lowest common
denominator level, which is then unlikely to serve the purpose of achieving a safe and secure
global financial system.
The financial safety nets issue is also one on which a distinct EME perspective may emerge.
The difference in concerns between advanced and emerging economies is heightened in the
current environment in which increasing liquidity in some advanced economies is driving
possibly short term capital flows into emerging economies. In such a situation, self-insurance
needs to be given due consideration. When economic fundamentals are sound, would
reserves not constitute the most effective way of dealing with reversals in short-term capital
flows? If self-insurance were done away with, reliance on external insurance mechanisms
might conceivably have two negative implications. One, procedure and due diligence might
take time, thereby diluting the effectiveness of the safety net. Two, global investors may
suspect that something is fundamentally wrong, aggravating the pressure of exit.
I have used the issues of financial regulation and safety nets to illustrate my point about the
balancing act that EMEs need to perform between addressing domestic priorities and
aligning with a meaningful set of global standards or mechanisms. However, this can be
taken as a more general issue for EMEs as they engage in global forums on a whole range
of issues on which the benefits of integration have to be viewed in conjunction with the
pursuit of domestic policy objectives.
Essentially, from the emerging market perspective, the value of the G20 process lies in how
effectively it is able to accommodate this need for balance. As I have tried to argue through
this presentation, both on short-term and long-term issues, the differences and divergences
between countries in the group are wide and, perhaps, inevitable. This puts the group at an
immediate disadvantage when it comes to addressing issues, because, given the
differences, even agreeing on a common objective, let alone a common approach may be a
difficult, if not impossible task.
However, it is reassuring that, in the face of these inherent handicaps, the group seems to
have made significant achievements, which go beyond the immediate compulsions of crisis
management and address some of the key structural issues. The underpinning for this
progress, as I have alluded to earlier in the presentation, is the recognition by all parties
involved that the process of globalization has potential benefits for everybody as long as it is
controlled in some way. The basis of control is, as the G20 demonstrates, common
principles, on which are based common, or at least compatible standards for both conduct
and enforcement. But, control does not mean homogenization. As long as common
standards can be reconciled with differences in practices and institutions, which allow
individual countries to effectively address their domestic priorities, the arrangement is
eminently workable.
Just as each country needs to maintain a balance between acceptance and adherence to
global standards, the group needs to accommodate a possibly thin and blurred line between
conformity and autonomy. Its effectiveness on all the issues that it seeks to address, but
particularly on the structural ones, will depend heavily on this accommodation. Every
member of the group must feel that there are some tangible benefits from continuing to
associate and in turn, that perception depends on the space that the is available to pursue
legitimate domestic priorities, which do not impinge on the interests of the other members of
the group.
By this benchmark, the group has done quite well. In the midst of significant differences,
some of which I have pointed out, meaningful consensus on, for example, safety nets,
financial regulation and reform of the International Monetary Fund suggest that it has found a
way to accommodate the balance on a number of significant issues. The nature of this
consensus has been widely reported on and debated in the wake of the recent Finance
Ministers and Central Bank Governors' meeting in Gyeongju, Korea, so I do not want to go
into the details here. The point I want to emphasize, though, is that the common feature of
both the process of arriving at consensus and the agreements themselves was precisely the
acceptance of common principles and standards, which do not come in the way of allowing
each country to organize its internal systems in ways that it thinks is best.
This is not to say that there are no disagreements or unresolved issues within the group. It
would be naive to expect that there wouldn't be. However, as in the case of all collective
activity, the presence of disagreements, even intractable ones, does not in any way
undermine the legitimacy of the process. It should be judged by what it is able to achieve, not
by what it is not.
Concluding remarks
At the very least, the G20 provides a compact forum for knowledge and experience sharing
between the largest economies in a structured way. The network that it creates certainly
facilitates co-ordination on policy actions, should an occasion for this arise. In this respect, it
is certainly a useful and effective crisis management mechanism.
But, from an emerging market perspective, its utility can and has gone beyond crisis
management. These countries do recognize that the benefits of globalization will not be fully
realized and the risks will be heightened in the absence of some meaningful collective
activity. The effectiveness of this collective activity is, in turn, enhanced by its emphasis on
common principles and standards, its recognition of national autonomy in deciding on policy
priorities and strategies and, very importantly, its insistence on the principle of "do no harm".
A realistic assessment of the performance of the group over the past two years would
suggest that, while it may not have had equal success on all fronts, its achievements are
significant and, in many ways, a vindication of its approach.
I would like to thank the organizers once again for inviting me and thank you all for listening.