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Tuesday, November 20, 2007

Joseph Stiglitz: Financial Hypocrisy

Joseph Stiglitz explains why he's not surprised that "the world is once again facing a period of global financial instability, with uncertain outcomes for the world's economies":

Financial Hypocrisy, by Joseph E. Stiglitz, Project Syndicate: This year marks the tenth anniversary of the East Asia crisis, which began in Thailand on July 2, 1997, and spread to Indonesia in October and to Korea in December. Eventually, it became a global financial crisis, ... unleashing forces that played out over the ensuing years... It was the worst global crisis since the Great Depression. ...

Looking back at the crisis a decade later, we can see more clearly how wrong the diagnosis, prescription, and prognosis of the IMF and United States Treasury were. The fundamental problem was premature capital market liberalization. It is therefore ironic to see the US Treasury Secretary once again pushing for capital market liberalization in India - one of the two major developing countries (along with China) to emerge unscathed from the 1997 crisis.

It is no accident that these countries that had not fully liberalized their capital markets have done so well. Subsequent research by the IMF has confirmed what every serious study had shown: capital market liberalization brings instability, but not necessarily growth. ...

Of course, Wall Street (whose interests the US Treasury represents) profits from capital market liberalization: they make money as capital flows in, as it flows out, and in the restructuring that occurs in the resulting havoc. ...

The contrast between the IMF/US Treasury advice to East Asia and what has happened in the current sub-prime debacle is glaring. East Asian countries were told to raise their interest rates, in some cases to 25%, 40%, or higher, causing a rash of defaults. In the current crisis, the US Federal Reserve and the European Central Bank cut interest rates.

Similarly, the countries caught up in the East Asia crisis were lectured on the need for greater transparency and better regulation.

But lack of transparency played a central role in this past summer's credit crunch... And there is now a chorus of caution about new regulations, which supposedly might hamper financial markets (including their exploitation of uninformed borrowers, which lay at the root of the problem.) Finally, despite all the warnings about moral hazard, Western banks have been partly bailed out of their bad investments.

Following the 1997 crisis, there was a consensus that fundamental reform of the global financial architecture was needed.

But, while the current system may lead to unnecessary instability, and impose huge costs on developing countries, it serves some interests well. It is not surprising, then, that ten years later, there has been no fundamental reform. Nor, therefore, is it surprising that the world is once again facing a period of global financial instability, with uncertain outcomes for the world's economies.

    Posted by on Tuesday, November 20, 2007 at 02:25 AM in Economics, Financial System, Regulation | Permalink  TrackBack (0)  Comments (20)

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