As with previous crises, the global financial crisis has prompted greater calls for international policy cooperation, but it still remains very much like Nessie, the lovable Loch Ness monster: oft-discussed, seldom seen. To reflect on the obstacles to international policy cooperation, and how to make progress, the IMF recently hosted a panel discussion, Toward a More Cooperative International Monetary System: Perspectives from the Past, Prospects for the Future, with Maurice Obstfeld (CEA; University of Berkley), José Antonio Ocampo (Columbia University), Alexandre Swoboda (The Graduate Institute, Geneva), and Paul Volcker (Former Chairman, Federal Reserve).
The very term “cooperation” is ill-defined, and means different things to different people. At its most basic level, cooperation might simply mean explaining the logic of domestic policy actions to others. If used in this sense, then cooperation has happened in the past, and is on an upward trend—not least with central banks being more transparent domestically—which is surely a good thing.
Taken to the next level, cooperation could refer to the creation of multilateral institutions and arrangements. If so, we have made progress on that front as well. Examples include the provision of liquidity through central bank swap lines, and new IMF liquidity provision facilities set up after the global financial crisis.
If, however, cooperation refers to setting, and following, some well-defined “rules of the road,” then we have not had them since the breakdown of the Bretton Woods system. The principles that we do have are generally too vague and hobbled by conceptual disagreements to be of much practical use. For instance, we all agree that exchange rates should not stray too far from equilibrium values; but determining the equilibrium value, and how far is too far, are in practice fraught with difficulties.
When economists refer to cooperation, they generally have the highest degree of cooperation in mind—that is, moving from the Nash to the coordinated equilibrium. This definition is more ambitious, and arguably more useful. If that’s the case, then Nessie has indeed rarely been seen, with just a handful of sightings in the past forty years: Bonn, Plaza, Louvre, and the Group of Twenty fiscal stimulus in the wake of the global financial crisis.
Debating these various facets of cooperation in light of historical experience, five key insights emerged from the discussions:
Constants in a changing world. The core challenges to the international monetary system—facilitating external adjustment; ensuring an equitable burden of adjustment between surplus and deficit countries; and regulating the supply of global liquidity—have been constant through the decades. But they have magnified with increased financial integration, the growing volume of private capital flows, and the emergence of complex financial systems prone to excesses.
Misaligned incentives. Countries act together when they are scared together—step away from the abyss, and the incentive to coordinate seems to melt away. Coordination is mostly possible when it involves countries moving policies in a direction that would individually be in their self-interest regardless of what other countries do; though whose benefit may be greater if countries agree to act together. Coordination is, however, much harder when it involves governments implementing quite different policies from those they would have chosen on their own, and that make sense only if all parties deliver on their respective commitments. That is why the Group of Twenty coordinated their fiscal expansions during the global financial crisis, and why it has been possible to reach agreement on financial sector regulation—such as the Basel agreements on financial stability—but other examples of coordination have been few and far between.
Net and gross. Attempts at coordination are rare enough, but the few times they have occurred, it has been when imbalances in net flows (and, therefore, exchange rate misalignments) have been apparent. But whether in the 1920s or in the 2000s, important vulnerabilities may be building up from gross positions long before then, through cross-border bank flows and oversized banking systems.
Stretching the truth. Beyond genuine uncertainty, a major obstacle to coordination has often been deliberate disagreements about cross-border multipliers. Unbiased analysis of domestic and cross-border effects of policies from a respected third party—a “neutral assessor”—might help to build consensus and achieve more cooperative outcomes. Whether the IMF could play such a role is an open question, but improved analysis of cross-border spillovers is surely a move in the right direction.
Keep it simple. Given the obstacles to coordination, simple “rules of the road” indicators based on reserves accumulation or current account balances may be more effective to secure superior outcomes than trying to achieve the theoretically-optimal cooperative solution through tailor-made polices. (By analogy, the “Volcker Rule” in domestic finance.) Of course, as with any rule, there are many questions about how simple the rules should be, and—especially in the sovereign context—how these can be enforced.
So where do we go from here? There are formidable obstacles to international policy cooperation. Let’s not forget that even within the national domain, cooperation between monetary and fiscal authorities—not to mention the macro prudential regulator—is not always a straightforward task. Global cooperation in the spheres of international health and trade—more advanced than in macro policy, though still far from perfect—took decades of building technical and political consensus. So rather than a piecemeal approach, we need to be persistent in our efforts and build on existing institutions and modalities such as the IMF’s Integrated Surveillance Decision and multilateral surveillance products, to help craft some simple rules of the road. Otherwise, we fear, it will be yet another case of “when all is said and done, more will have been said than done.”
No, we are not likely to spot Nessie any time soon—but at least we have not given up looking for her.