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After the crisis:

towards a sustainable

growth model

edited by Andreas Botsch and Andrew Watt

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Conference reader, 13 January 2010

Brussels, 2010
© Publisher: ETUI aisbl, Brussels
All rights reserved
Print: ETUI Printshop, Brussels
The ETUI is financially supported by the European Community. The European Community
is not responsible for any use made of the information contained in this publication.

Contents
Introduction...................................................................................................................................................5
A change of model requires a new balance of power
Bruno Amable ...............................................................................................................................................7
After the crisis: employment relations for sustained recovery and growth
Eileen Appelbaum....................................................................................................................................... 11
Recipe for reform: accountable regulators and a smaller financial sector
Dean Baker.................................................................................................................................................. 15
Reforming the EU budget to promote sustainable growth
Iain Begg...................................................................................................................................................... 19
Labour market policies in times of crisis
Sandrine Cazes and Sher Verick.................................................................................................................... 23
Reforming global economic governance – towards Bretton Woods III
Pierre Defraigne............................................................................................................................................ 27
The future of banking
Paul De Grauwe.......................................................................................................................................... 31
The EMU needs a stability pact for intra-regional current account imbalances
Sebastian Dullien and Daniela Schwarzer, .................................................................................................. 35
Using capital management techniques to control financial risks and help achieve
fair and sustainable economic growth
Gerald Epstein............................................................................................................................................. 39
The state is alive but not yet kicking
Heiner Flassbeck ....................................................................................................................................... 43
Labour market policies after the crisis: towards social investment in transitions
Bernard Gazier............................................................................................................................................ 47
Business as usual — means a very different business
Frank Hoffer................................................................................................................................................ 51
What role for monetary policy?
Gustav A. Horn........................................................................................................................................... 55
It’s the policy-mix stupid
Henning Jørgensen..................................................................................................................................... 59

Principles for financial system reform
Sony Kapoor ............................................................................................................................................... 63
Training and skills during and after the crisis – what to do and what not to do
Ewart Keep and Ken Mayhew...................................................................................................................... 67
Should banks be nationalised?
Yiannis Kitromilides..................................................................................................................................... 71
Reforming finance
Robert Kuttner............................................................................................................................................. 75
Stress-testing Europe’s social systems
Allan Larsson............................................................................................................................................... 79
Re-cession or He-cession - gender dimensions of economic crisis and economic policy
Friederike Maier .......................................................................................................................................... 83
Better European financial architecture to prevent crises
Franz Nauschnigg ....................................................................................................................................... 87
A better way to regulate financial markets: asset based reserve requirements
Thomas I. Palley........................................................................................................................................... 91
Industrial and innovation policies in Europe
Mario Pianta................................................................................................................................................ 95
Salvaging gender equality policy
Jill Rubery..................................................................................................................................................... 99
Inequality and the great (wage) moderation
Wiemer Salverda.........................................................................................................................................103
Employment after the crisis: New Deal for Europe required
Ronald Schettkat.........................................................................................................................................107
Making finance serve society
Helene Schuberth .......................................................................................................................................111
A general financial transaction tax: enhancing stability and fiscal consolidation
Stephan Schulmeister.................................................................................................................................115
A European minimum wage policy for a more sustainable wage-led growth model
Thorsten Schulten......................................................................................................................................119
The sustainable company: part of the solution to our triple crisis?
Sigurt Vitols................................................................................................................................................123

Introduction 

As the first decade of the 21st century comes to its term, most countries in Europe and the world still find themselves in the midst of the severest financial and economic crisis in 80 years.
Prior to its collapse in 2008, the prevailing concept of laissez-faire financial capitalism implied that profits, in particular in the financial sector, could grow at double-digit rates while overall economic growth remained in the low singledigit range. This led to a general shift in income distribution at the expense of employees and low-income groups, i.e. a shift of national income from labour to capital and/or within wage income to the wealthy. Beyond this there has been increased downward pressure on the terms of conditions of those at the bottom of the labour market.
The concentration of ever more capital in the hands of ever fewer people has resulted in a weakening of broad-based demand. Two opposite growth models emerged both based on the necessity to compensate increasing income inequality with other sources of demand: either increased household borrowing (e.g. US, UK, Spain) or export-led growth (Germany, Japan, China). Rising global economic imbalances were the result. Both growth models have proven economically unsustainable. Meanwhile the problems associated with the ecological unsustainability of the prevailing economic model remain largely unaddressed, limited to vague declarations of intent, as the failure of the Copenhagen summit at the end of last year testifies.
The revelation of the limitations of financial capitalism has opened up a window of opportunity to propose and implement progressive reforms that Europe needs to shift to an equitable and socially and ecologically sustainable growth model. The European Trade Union Institute has brought together more than 30 prominent critical and progressive academics and researchers to help launch a debate on setting an agenda for a reformed capitalism ‘after the crisis’. Each has produced a short policy-oriented proposal in areas ranging from macroeconomic policy and financial market re-regulation, across labour market and social policies, to issues raised by the need for growth to be ecologically sustainable.
This conference reader presents, in alphabetical order of the authors, those contributions to a forthcoming ETUI book that were finalised by the end of 2009. The book will be published shortly with additional contributions and a thematic structure. The opinions presented are those of the respective authors.
The debate is open.
Andreas Botsch and Andrew Watt
Brussels, January 2010

Posted by Wilfried Allé Monday, September 14, 2015 3:52:00 PM

A change of model requires a new balance of power 

Bruno Amable
University of Paris I Panthéon – Sorbonne

The crisis of the past two years is not simply a crisis of ‘deregulated finance’ or even a crisis of ‘finance-led capitalism’. It is a crisis of the neoliberal model of capitalism, i.e. a model of capitalism whose characteristics cannot be limited to the peculiarities of the financial system of the US or the UK. As a consequence the possibilities for using the crisis as an opportunity to reverse the transition toward the neoliberal model cannot be limited to initiatives toward a ‘re-regulation’ of finance.
The financialisation of the economy is but one aspect of the neoliberal model of capitalism. It has been instrumental in the break-up of the social-democratic alliance between firms and workers and for the emergence of a new alliance between financiers, firms’ management and skilled workers. It also plays an important role in the global coherence of the neoliberal model; by imposing short term constraints on firms, it makes them depend on flexible labour markets for their competitiveness; by increasing income inequalities, it divides the wage-earning classes and reinforces the power of the economic and political elites. But other institutions than the financial system are more important for the stability or instability of the socio-political compromises upon which the European models of capitalism are based: social protection or labour market institutions for instance.
Over the past couple of decades, the European models of capitalism have been undermined by a series of neoliberal structural reforms affecting many institutional areas: welfare state retrenchment, labour market flexibilisation, privatisations, etc. The consequences have been an increase in inequalities and a weakening of the collective capacities of wage-earners. Reversing this trend implies action that is directed toward the different areas affected by neoliberalisation and the building of a new socio-political alliance.
Two connected trends of the neoliberal model of capitalism, in particular, should be fought: the growth of income and status inequalities and the weakening of institutions protecting workers. Labour market flexibilisation, decentralisation of bargaining and welfare state retrenchment have increased the divergence of interests among workers and made the less skilled groups more fragile. Decreasing these inequalities cannot be limited to the use of the fiscal instrument. This could at best redistribute income but would leave power inequalities unchanged. A new economic system must not simply make the income distribution less unequal but break-up the dominant alliance of financiers, firms’ managers and skilled workers and substitute a new compromise based on the majority of wage-earners. The emergence of such a compromise demands a radical transformation of political strategies on the left. In particular the fiction of a social-liberal strategy must be ditched and new structural policies should be implemented in the direction of the homogenisation of the various wage-earning groups.
Homogenisation concerns of course income. It implies that centralised solidaristic wage bargaining should be substituted for individualisation and decentralisation. Such a change would have the twin advantage of enabling the implementation of an incomes policy and helping the construction of a common interest among workers, a necessary condition for rebuilding a coherent social alliance able to support a progressive political strategy.
A new model will call for a reinforcement of the institutions of social protection.
This implies dumping the so-called ‘modern’ approach to the question and putting the objective of equality of outcomes, not of opportunities, at the centre of the new politics. The socialisation of welfare expenditure should be an objective too. Regarding pensions, it should not be too difficult, given recent events, to convince the general public that pay-as-you-go systems are in fact more financially stable than supposedly ‘funded’ systems. The financial crisis is therefore an opportunity for reinforcing the former type that should not be missed.
Labour markets should be regulated. In particular, the idea that employment protection is detrimental to employment will most certainly lose much credibility if the crisis endures and brings persistent high unemployment. This is an opportunity to re-establish a reasonably high level of employment protection where this protection has been most diminished, by prohibiting the most precarious jobs where a sizeable proportion of the workforce finds itself trapped. This would also help the building of common interests among wageearners.
This institutional transformation calls for a regulation of competition and its strict containment where public services are concerned. If the crisis is the opportunity to celebrate the ‘return of the State’, this opportunity should be seized to limit the extent of market-based coordination of activities and give a genuinely strategic role to the State in activities that are considered crucial for the future. This is particularly the case for research and scientific activity.
The connection of such activities with industrial policy does not mean that research must submit to the demands of industrial production, but that the economy must make the best possible use of the possibilities opened by the advancement of knowledge. This means that the vision of a service-based society that keeps only high-tech activities in developed countries and leaves the bulk of industrial production for the world market to emerging economies must stay what it is: a fantasy.
Such a programme is not the restoration of the institutions of Fordism. The post-war models of capitalism were built on a compromise between capital and labour that left the power of decision to the former in exchange for a steady growth of real income for the latter. The new compromise that is sketched here does not leave such power to capital. On the contrary, workers must have important decision-making powers and not mere consultation.
The implementation of such a program will require the building of new social alliances and compromises. These will be the outcome of political and social initiatives that have exploited the opportunities given by this period of uncertainty
and indecision brought on by the crisis.

Further reading
Amable B. [2009] Structural reforms in Europe and the (in)coherence of institutions.
Oxford Review of Economic Policy. Vol 25(1), 17-39.
Amable B., L. Demmou and I. Ledezma [2009] The Lisbon Strategy and
Structural Reforms in Europe. Transfer: European Review of Labour and
Research, vol.15 n°1 pp.33-52.

Posted by Wilfried Allé Monday, September 14, 2015 4:03:00 PM

After the crisis: employment relations for sustained recovery and growth 

Eileen Appelbaum
School of Management and Labor Relations, Rutgers University
Advisory Board, Center for Economic and Policy Research

Stagnant wages, debt and unsustainable growth
The global economic crisis had its roots in the unsustainable build-up of debt in the U.S. – a build-up that had three sources: A growing trade deficit, deregulation of financial markets, and stagnant or falling real wages for most workers. The trade deficit rose to almost 6% of GDP in 2006 and dramatically increased U.S. cumulative indebtedness to the rest of the world, especially China and other export surplus countries. In financial markets, a huge increase in leverage, risky loans and mortgage-backed debt led to bubbles in the stock and housing markets. Stagnant wages, combined with easy access to mortgage and consumer loans, resulted in the rapid rise of household debt.
Much has been written about measures to restore greater balance to world trade and to regulate financial markets. Far less attention has been paid to measures to support income growth for workers, an issue that extends beyond the U.S. The low-wage share of employment has risen to unacceptably high levels in many countries. Exceptions are those countries where the minimum wage is high and employment regulations are enforced (e.g., France) or where union density remains high and there is a continuing commitment to modernization and skill upgrading (e.g., Denmark). In many countries, the decline in union density, low or no national minimum wage standard, unequal treatment of part-time or casual (largely female) workers, unequal access to work-family supports, lax enforcement of labor laws and employment regulations, and the successful efforts of employers to escape the constraints of established labor market institutions all contribute to wage stagnation and a large underclass of people living in poverty despite being employed. These developments have been exacerbated by hedge funds and private equity firms that load companies with debt and then rely on the ‘discipline’ of high interest payments to pressure them to strip assets, reduce wages and benefits, and downsize employment in order to raise margins – either to increase share prices (hedge funds) or to sell operating business and distribute gains to investors (private equity).
Economic recovery and growth beyond the current period of substantial fiscal stimulus and large-scale deficit spending by governments will require an increase in household consumption. Sustained recovery and growth require that this be based on rising real earnings, and not on rising debt.

Employment relations and workplace policies
Transforming the U.S. and other high-income economies to once again work for everyone requires significant workplace changes in order to create jobs that fully utilize workers’ knowledge and skills; to drive innovation, productivity, and profits; and to ensure that workers share equitably in the prosperity generated.
Adopt modern workplace policies Achieving and sustaining high levels of performance requires practices that leverage employees’ knowledge and ability to create value and that are implemented in concert with new capital or technological investments. High performance work practices (HPWP) (1) foster development of human capital, resulting in increased employee skills and improved customization of services; (2) engage employees in problem solving and performance improvement; and (3) build organizational social capital to facilitate knowledge sharing and the coordination of work. Research in settings ranging from public schools to airlines has demonstrated the advantages to firms – in terms of improved efficiency, quality and financial performance – of work practices that encourage the simultaneous development of human capital and social capital. Workers benefit from improvements in skills and social capital, and more than 70 percent prefer these work systems over either traditional union or non-union systems. Unions are important – the combination of formal and informal mechanisms for employee voice improves the productivity effects of HPWP. For workers, the combination of union representations with HPWP tends to be associated with higher wages, some of which are achieved through mutual gain sharing or similar compensation practices.
Establish and improve minimum employment standards Governments, including the U.S., should establish a national minimum wage at two-thirds the median wage, indexed to some combination of inflation and productivity growth, to eliminate the scourge of working poverty. No one who works full time should live in poverty. But workers need more than a living wage. Too many workers, men as well as women, are still forced to choose between supporting their families and caring for them. Countries with policies that support working families too often exclude casual employees or those on part-time or short-hour schedules from these benefits. Everyone in the labor force should be guaranteed a minimum number of employer-paid sick days and paid vacation days. Employees should have the right to greater control over their work schedules so they are not penalized for care giving responsibilities. Employers should be encouraged to offer reduced hours in full-time jobs. Finally, employees need tax-financed family and medical leave insurance programs, similar to unemployment insurance, that ensure job-protected and affordable family and medical leave for all workers.
Enforce labor and employment laws Governments need to strengthen and modernize enforcement of the regulations governing employment relations both by strengthening traditional enforcement measures and by leveraging the expertise and resources of labor unions and community groups to monitor compliance. Growth of supply chains, subcontracting, and employment of immigrants combined with lax enforcement has degraded wages and working conditions of many workers.
Reform labor law Fixing or strengthening labor law is necessary to building the labor management partnerships and high performance work practices described above. Moreover, unions have historically been the strongest and most consistent institutions for achieving improvements in worker wages and for reducing income inequality within and across industries and occupations. The decline in union density in many countries makes it clear: Labor laws need to be fixed to support workers’ fundamental rights. Restoring workers’ ability to organize and bargain collectively is the first step in getting wages and productivity moving in tandem again. The reform of labor law should encourage workplace innovation and transform labor-management relations in ways that contribute to economic recovery and shared prosperity. Most importantly it should restore or enhance workers’ rights to join a union and gain access to collective bargaining.

Conclusion
The transformations in labor policy and workplace practices needed to support economic recovery and sustainable growth are achievable. As argued above, what is required is a three-part strategy: (1) adoption of labor management and workplace innovations that create good jobs and the high productivity that will sustain them: (2) strengthening, updating and enforcement of labor and employment policies and minimum employment standards appropriate to today’s workforce; and (3) improvements in labor law that create a platform for labor to negotiate workplace practices that enhance productivity and wage growth in line with improvements in productivity.

Posted by Wilfried Allé Monday, September 14, 2015 4:23:00 PM

accountable regulators and a smaller financial sector 

Dean Baker
Co-Director of the Center for Economic and Policy Research, Washington, DC


Most of the debate over reforming the financial system in the wake of the financial crisis has not addressed the fundamental problems that led up to the crisis: an enormous asset bubble and a bloated financial sector. Serious reform should place these items at the top of the agenda.
The asset bubble took the form of a huge over-valuation of housing prices in the United States and many other countries. This over-valuation led to a distorted
pattern of growth, with enormous overbuilding of housing and a consumption boom driven by trillions of dollars in housing bubble wealth.
The pattern of growth was more distorted in the United States than many other countries because there are few obstacles to construction and it is relatively easy for homeowners to borrow against the wealth in their homes. During the peak years of the bubble, the residential construction share of US GDP expanded by more than 2 percentage points above its normal level. The savings rate fell to less than zero from a historic level of close to 8.0 percent, implying that housing bubble driven consumption was more than 4 percentage points of GDP.
When the bubble burst, residential construction and consumption both fell sharply. There is no simple mechanism for replacing a sudden drop in GDP of more than 6 percentage points. The financial crisis accompanying the bursting of the bubble worsened the situation, but the bubble itself virtually guaranteed a severe recession. This fact was entirely foreseeable. It was therefore remarkable negligence on the part of central bankers, most importantly the Federal Reserve Board in the United States, to allow a housing bubble to grow to such enormous proportions.
The lesson from this episode is that central bankers must take very seriously their responsibility to prevent major asset bubbles that distort patterns of economic growth. In this case, deflating the housing bubble before it reached dangerous levels was a far more important priority than any other possible concern of the central bankers.
A commitment to maintaining economic stability required that they take every possible measure to attack the bubble. The first and most important step would have been to use their research capabilities and their platform in public debates to carefully document and present the evidence for the existence of a bubble and the harm that will caused by its collapse. It is likely that this information alone would have had a substantial impact on the housing bubble, since an explicit and well-documented warning from central bankers that homeowners and lenders would lose money by investing in housing, likely would have been a substantial deterrent.
Central bankers also should have used their regulatory powers to clamp down on bad lending practices (such as offering low initial ‘teaser’ rates, which subsequently re-set to higher levels) that were inflating the bubble. These practices were quite evident in the United States, where the non-prime segment of the mortgage market exploded in a period in which the labour market was weak and income growth non-existent. Accounts of fraud in mortgage issuance were widespread. Not seeing these practices required an effort at deliberate avoidance on the part of regulators.
The best way to ensure that regulators don’t fail to the same extent in the future is to fire the ones whose failure led to the current crisis. This is essential for eliminating the asymmetry of incentives that now exist. It will always be difficult for regulators to take steps to curtail the actions of powerful financial institutions. Therefore they have a strong incentive to ignore lending practices by banks even when they are harmful to the economy. For this reason, regulators must know that the failure to stem dangerous practices by the financial industry also will involve serious risks to their careers. If the failure to regulate effectively does not imply career risks, the predictable result of these asymmetric incentives is that the regulators will defer to the financial industry and ignore dangerous practices in the future.
This raises the second essential financial reform that is needed. The financial industry needs to be downsized. In the United States, the financial sector accounts for more than 30 percent of all corporate profits. The investment banking and commodity trading sectors of the U.S. economy have nearly quadrupled as a share of GDP over the last three decades. Financial services are an intermediate good, something that is produced in order to be able to make the final goods that we want to consume. If any other intermediate goods sector had similarly expanded relative to the economy, for example trucking or warehousing, there would be concern over the enormous inefficiency of these sectors. There should be concern about the incredible waste of resources in the financial sector, the vast majority of which are consumed in highly profitable rent-seeking activity, not greasing the wheels of the real economy.
The bloat in the financial sector is especially pernicious because of the patterns of compensation in the sector. The sector offers its top earners salaries that are out of line with pay in other industries. This undermines pay structures elsewhere in the economy, leading to greater inequality.
The obvious way to limit the size of the financial sector is with a system of modest financial transaction taxes (FTT) similar to the stamp tax on stock transfers in the United Kingdom. A modest tax will have almost no impact on financial transactions that serve the real economy. For example, almost no one is dissuaded from buying stock for long-term investment by the 0.25 percent tax in force in the UK; in fact this tax just raises the transaction cost back up to the levels that existed two decades ago. However, this tax will have a large effect in dissuading short-term speculation. Scaled taxes on options, futures, credit default swaps and other instruments would have a similar effect. Fewer transactions will shrink the industry. A system of FTT can also raise an enormous amount of revenue. The stamp tax in the UK raises a bit less than 0.3 percent of GDP. A broader set of FTT could raise close to 1.0 percent of GDP. The experience of the UK also demonstrates that such a tax is easily enforceable (it has the lowest administrative cost of any tax). Rewards to employees for reporting non-compliance by their employers would help to stem efforts at evasion of more far-reaching taxes.
The revenue raised through a set of FTTs would help to offset the debt incurred by governments across the world as a result of this crisis. In this sense it would be especially appropriate to have a tax on the sector that was resposible for so much damage to the economy and society.

Posted by Wilfried Allé Tuesday, September 15, 2015 9:58:00 PM

Reforming the EU budget to promote sustainable growth 

Iain Begg
European Institute, London School of Economics and Political Science


The EU budget has been a running sore in economic governance for so long that its potential contribution to our well-being is easily dismissed. Although a review of all aspects of the budget was supposed to have taken place in 2008/9, nothing has yet emerged. There was an extensive consultation, studies were commissioned and libraries of position papers were written, but political timidity has prevailed and an observer from Mars could be forgiven for wondering quite what the EU budget is for.
Countering climate change could offer an answer. A shift to a low carbon economy is widely agreed to be necessary, and there is growing recognition that EU economic governance beyond 2010 must focus on timely action to change patterns of production and consumption towards a new, low-carbon paradigm. Comprehensive public policies and expenditure programmes will be needed, with funding from different levels of government combining with private investment, aimed at sharp reductions in the energy intensity of GDP and in the carbon intensity of energy.
Some critics portray carbon mitigation as a burden and argue that ‘green’ economy measures cannot be justified during a period of economic downturn. But research suggests that it may well offer more economic benefits than costs, especially in creating a substantial number of ‘green’ jobs and stimulating new sectors of activity. There is also a substantial self-interest for Europe in reducing dependence on energy imports, especially from politically volatile producer countries. In addition, any investment programme starting quickly (including one targeted at carbon abatement) could help the recovery from the current recession.
The magnitude of the changes required points to the need for a novel approach to governance, including re-thinking whether EU expenditure can play a pivotal or catalytic role, complementing what is done at other levels of government and by private agents. Economic arguments for assigning spending competences to the EU level include economies of scale and the expectation that if a single Member State is unable to appropriate the full benefits from relevant investments, it will invest less than is socially optimal. Such arguments are especially apposite regarding the prevention of climate change given the obvious crossborder spillovers.
Political sensitivities are bound to arise for some potential EU spending and it is inevitable that decisions on what to assign to the EU budget will reflect political expediency as well as purely analytic considerations. For example, costeffective cuts in global emissions may be attainable from EU spending outside Europe, but would face internal objections that spending should be ‘at home’. Some priorities are, nevertheless, obvious. Technological developments will loom large in any transition to a low carbon economy, but need a strategic approach. Short-term gains will, principally, stem from improving and diffusing existing technologies, but there will be a parallel need to boost investment on the known, but as yet uncommercial technologies that offer bigger cuts over a longer time horizon. Although opposed by some environmental interests, one key technology will be carbon capture and sequestration (CCS), a process which will allow for increased use of coal, an abundant and widely distributed primary source of energy that is especially suited to electricity generation, but with much lower emissions. EU funding could be used to accelerate the construction of full-scale demonstration projects and the infrastructure for subsequent implementation.
It is also important not to overlook the diverse means of achieving lower emissions and thus not to pin too many hopes on existing options, implying a need for funding now to develop the breakthrough technologies that will provide much longer term solutions. In addition, many of the more difficult options will proceed in stages. CCS, for example, can be expected to go from very costly piloting and developmental stages, through full-scale demonstration to lowercost roll-out.
Even timely emission cuts will not reduce atmospheric carbon quickly, and temperatures will rise over the next two decades, fuelling demands for public funding to underpin adaptation to effects such as rising sea levels. Rising energy prices will also have distributive effects, such as ‘fuel poverty’ among those least able to cope. EU funding for adaptation policies could therefore make sense, on much the same logic as for the Globalisation Adjustment Fund. Further political sensitivities surround the overall annual spending that could be envisaged for carbon abatement. The EU budget today is around 1% of EU gross national income (GNI). If more is spent on countering climate change, either the overall budget would have to increase or other policies would have to be squeezed. Both strategies would face political resistance. Even so, there is a margin between the present level of the budget and the ‘own resources ceiling’ (set at 1.31% of EU GNI for commitments) which gives room for an additional €35 billion annually at 2009 prices. A further impetus could come from raising at least a proportion of the EU’s revenue from some form of carbon tax, offering the prospect of a ‘double dividend’ of more resources overall (or cuts in other taxes), in tandem with incentives to curb carbon consumption.
Devising appropriate spending packages will be hard, but different configurations of spending can deliver similar results, leaving ample scope for the kind of horse-trading at which the EU excels. Elements in any package will appeal to certain Member States more than others, whether because of political preferences
or because there is the prospect (or the perception) of net economic gains. A credible portfolio has to balance the short-term and the long-term, the certain and the more speculative, internal measures and support for action elsewhere in the world, mitigation and adaptation. Another question is whether it would make sense to implement carbon abatement policies by creating new EU funds or initiatives, or whether it might be easier simply to assign new tasks within existing programmes such as cohesion policy. A possible mix, costing around a third of the EU budget, could be:
— Support for technological advances.
— Investment in new infrastructure needed to distribute alternative energy or to facilitate greatly reduced emissions of carbon.
— Initiatives to promote lower carbon use, through education, exhortation and novel approaches to regulation.
— Spending outside the EU to support low carbon strategies in countries constrained by limited fiscal capacity.
— Dealing with the consequences of climate change or carbon mitigation policies by funding projects or compensation programmes that offset the more extreme negative effects, paying attention to both potential social and regional divergences in the impact.
The political, economic and social benefits of placing sustainable development at the heart of a modernised EU budget are compelling. They would also give a new legitimacy to the EU by showing that it was acting in a domain that greatly concerns citizens. Why hesitate?

Posted by Wilfried Allé Tuesday, September 15, 2015 10:11:00 PM

Labour market policies in times of crisis 

Sandrine Cazes and Sher Verick
International Labour Office


Starting in the middle of 2007, the crisis has grown from a meltdown in the housing and financial sectors in the United States to a downturn with global reach and a deep impact on the real economy, particularly on the labour market. As evident from previous crises, labour markets tend to recover slowly after such an economic contraction, with unemployment persisting at above pre-crisis levels for a number of years. For this reason, it is crucial for policymakers to consider various labour market policy measures that both mitigate the impact of the crisis on workers and help reduce the lag between economic growth and improvements in the labour market.

The role of labour market policies in mitigating the impact of a downturn
The labour market policy response to a crisis should aim to achieve goals in four main areas: labour demand, match between demand and supply, income support and targeting of vulnerable groups. The relationship between these goals and labour market policies are listed in Table 1.
 

Goal Types of labour market policies
Table 1 Matching goals and labour market policies in times of crisis
Maintain labour demand  
Keeping people in jobs Work-sharing; on-the-job-training (both can be subsidized or unsubsidized
Creating new jobs Job/wage subsidies; public works programmes
Improve the employability of the unemployed
and underemployed
Job search assistance; work experience and apprenticeship programmes; training;
entrepreneurship incentives
Provide income support Unemployment benefits; social assistance; other social protection measures (including
conditional cash transfers
Target the most vulnerable (youth, women, etc) Includes all of the above policies but typically consists of hiring subsidies and training
schemes


As illustrated in Table 1, there are a range of different labour market policy tools available to policymakers; however, these interventions all require a certain institutional and financial capacity of governments to fund and successfully implement interventions. Policies that maintain labour demand can be particularly expensive as they require compensation for workers. For example, work-sharing is a scheme where employers reduce the number of hours worked to avoid laying off staff, which directly reduces labour costs and helps them survive a period of low demand. In most European countries, work-sharing is subsidised by the State (typically through unemployment benefits schemes) to prevent a loss in income for workers. Measures that support the unemployed such as job search assistance or training require an effective public employment service and providers of training. Despite the best institutional set-up, these policies can, nonetheless, be ineffective in a period where demand is low and firms are not hiring.

Labour market policy response during the global financial crisis
Drawing on a range of recent surveys on the response to the current global financial crisis, it is apparent that a large number of high-income countries have implemented various policy measures that address the different goals of labour market policies (Figure 1). The most commonly used intervention
in high-income countries is training for both those threatened by layoffs and the unemployed (including work experience and apprenticeship initiatives) (27 countries), followed by work sharing (24 countries), increased resources for public employment services, including job search assistance measures (20 countries), and job and wages subsidies (20 countries). The least-implemented intervention in this group of countries is public works programmes (5 countries), which is not surprising given the limited effectiveness of this intervention in such advanced labour markets. In terms of security provided by passive labour market policies, 17 high-income countries have made changes to unemployment benefits schemes (usually extensions of coverage and broader eligibility criteria).
Overall, the use of labour market policies in terms of scope and diversity is declining with the income-level of countries, which reflects the financial and technical constraints hindering the response of these governments. Nonetheless, a range of policies have been utilized in low and middle-income countries, in some cases in a similar fashion to more developed nations. As displayed in Figure 1, the most utilized policy response in the middle-income group is training (with 25 countries) followed by job search assistance, entrepreneurship incentives and public works programmes. There are far fewer low-income countries implementing such policies in response to the crisis. In general, low and middle-income countries tend to rely on labour market policy measures that do not require complex institutional structures and social dialogue. Nonetheless, some governments are turning to more innovative policies that have not been widely used before such as providing subsidized training for threatened workers.

Labour market policies to mitigate the jobs crisis and support a jobs-led recovery
Now that most countries are exiting recession and slowly entering a phase of economic recovery, attention is shifting to concerns about exit strategies and the increasing urgency of tackling the crisis-induced fiscal deficit and government debt. At the same time, a premature withdrawal of monetary and fiscal stimulus would endanger the recovery and have further negative implications for the labour market. In any case, the challenge is to ensure that the recovery is accompanied by employment growth.

Figure 1 National labour market policy responses to the current global financial crisis

Notes: HIC = high-income countries; MIC = middle-income countries; LIC = low-income countries, which are grouped according to the World Bank’s classification of countries, see http://go.worldbank.org/D7SN0B8YU0. UB = unemployment benefits schemes.
Source: Cazes et al. (2009).

Hence labour market policies should continue playing a complementary role in responding to the crisis, along with macroeconomic and other policies, in order to maintain and promote labour demand through both job retention (in high income countries, typically work-sharing schemes) and job creation. Hiring subsidies, especially, have a role to play in ensuring countries experience a jobs-led recovery rather than a jobless one. Governments should consider both job/wage subsidies along with tax credits to encourage employers to start taking on new staff during the coming years. These measures are particularly relevant for individuals who are vulnerable to becoming longterm unemployed or losing their attachment to the labour force, such as youth and the low skilled. Moreover, governments should continue with training and related measures that improve the employability of the unemployed, which are needed to reduce the risk of long-term unemployment and to facilitate any structural changes in the labour market. Since financial budget constraints will become increasingly binding, Government will need to reallocate resources to ensure that labour market policies move in line with developments in the overall economy and the labour market.
Over the longer term, governments should aim to develop a comprehensive and integrated policy and institutional framework that will enable them to better respond to future crises. This involves the development of labour market institutions and a broad-based social security system, which acts as an automatic stabiliser during a crisis. More efforts also need to be made to monitor and evaluate the impact of specific labour market policies. Finally, mechanisms should be developed to facilitate constructive dialogue between the social partners, the government, employers and workers.

Further reading
Cazes, S., Verick, S. and C. Heuer (2009) “Labour market policies in times of crisis”, Employment Working Paper, No.35.
International Labour Organization (ILO) (2009) Protecting People, Promoting Jobs: a Survey of Country Employment and Social Protection Policy Responses to the Global Economic Crisis, An ILO report to the G20 Leaders’ Summit, Pittsburgh, 24-25 September 2009. ILO, Geneva.

Posted by Wilfried Allé Tuesday, September 15, 2015 10:24:00 PM

Reforming global economic governance — towards Bretton Woods III 

Pierre Defraigne
Executive Director, Madariaga-College of Europe Foundation


From ancient Rome to Britain until World War One, the world economic hegemon has always provided the currency for its sphere of influence. At the 1944 Bretton-Woods Conference the torch was passed from the pound to the dollar despite Lord Keynes’ last-ditch efforts to switch to the Bancor, which would have been the first ever genuine international currency. Wasn’t America then the sole candidate for securing the liquidity the world was badly in need of? On the one hand, the dollar shortage exerted a deflationary pressure on the economies hit by the war and confronted with the heavy task of rebuilding their productive capacities. On the other, as the leader of the free world the USA considered the ‘dollar privilege’ as a sort of seigniorage right for a superpower in charge of the Western camp’s security.
As was to be expected, the USA eventually took advantage of that facility, inundating the world with dollars to the point that gold reserves were a mere fraction of the volume of dollars issued by the Federal Reserve. It is worth noting that the main dynamics at work were the successful attempts by Washington, through this massive oversupply of dollars, to dodge the ‘guns and butter dilemma’: the Vietnamese War and President Johnson’s Great Society social program were indeed the two pillars of US policy. Nixon broke the spell by decoupling the dollar from gold: Bretton Woods II was born with the responsibility of financing deficits transferred from the IMF to the market. But trust in American economic dynamism and strategic superiority was such that it made the financial markets very accommodating of a US profligacy which went unbridled through successive Presidential mandates until George W. Bush.
With the benefit of hindsight, it appears that the dollar’s ‘exorbitant privilege’, as President Giscard d’Estaing once qualified it, probably played an important role in the race between America and the Soviet Union, allowing the USA – through Washington’s unrestrained external indebtedness and exchange rate policy – to share the burden of defense, including the arms-race which culminated in ‘star wars’, with its Western allies. The USSR, plagued with systemic inefficiency, did not enjoy the same transfers of resources from its own impoverished camp.
Once the race was over, the extravaganza went on, nurturing world economic growth, this time thanks to the transfer of Asian savings to the USA to finance the trade deficit, mainly through the massive purchase of Treasury bonds.
Japan was footing the bill for American security whilst China was buying access to the US manufactured goods market.
The financial crisis that broke out on September 15th 2008, has been shown to have as its underlying origin the Fed’s lax monetary policy, which allowed for an abundance of liquidity and low interest rates, enticing households to go into debt through excessive use of credit cards or mortgage credit and financial institutions to take on excessive leverage at an unprecedented scale. The end of the boom sent a shockwave throughout an over-indebted US economy and triggered the subprime crisis. But the ultimate cause was US monetary policy and the fault line lay in the international monetary system.
Has the time of reckoning arrived? The self-interest of the USA may no longer lay in the continuation of the present system because it either makes its economy vulnerable to its Asian creditors or to a sea-change in the assessment of the robustness of the American economy by financial markets. Although it should remain for another generation the world’s leading economy, its relative weight is declining. For the EU, being subject to the vagaries of the dollarbased system constitutes the counter-part of the defence burden borne by the USA within the Atlantic Alliance. In this respect the EU behaves as a tributary ally of Washington and it will therefore not raise the issue of revamping the international monetary system. China takes an ambivalent view: On the one hand, as an emerging global economy and strategic power, it cannot satisfy itself with the present asymmetric system; on the other, as a large creditor, it must be careful about the real value of its dollar-denominated assets. For all players, the transition is critical and calls for a cautious step-by-step approach.
A Bretton Woods III must be conceived from now on, building up on the strengths and mending the weaknesses of the present system. This reform should cover a four-pronged agenda:
1. Effective surveillance and gradual correction of all structural imbalances (incl. of the US and China) by the IMF;
2. Giving more resources to the IMF so as to allow it to ease adjustment in poor and emerging economies;
3. Rebalancing the governance of the IMF and the World Bank, by making more room for China and other emerging countries, and by substituting the EU for individual European Member States, and in particular the eurozone members;
4. Switching very gradually and cautiously from the dollar as a reserve currency to a basket of currencies including the renminbi. This implies a move to the latter’s full convertibility with the inherent risk of appreciation. This would ease the control of inflation and the move from an export-driven to a consumption-driven growth model in China. This would work towards smoother integration of China in the world economy and would contribute to the medium term recovery and rebalancing of the global economy.
5. Moving towards Bretton-Woods III, calls for collective leadership which the G20 – extended to some poor countries – can provide. But the three largest economies, namely, the USA, China and the EU – a sort of G3 – have a key role to play in shaping the architecture of the system and piloting its implementation. If the EU means to become an effective player in the emerging multipolar world by assuming a growing role in the multilateral economic governance system, it must at the same time gain full autonomy with regard to its currency and more responsibility for its own defence since both issues are narrowly intertwined. This is what the future of the EU is about. A very long road ahead indeed.

Posted by Wilfried Allé Tuesday, September 15, 2015 10:51:00 PM

The future of banking 

Paul De Grauwe
University of Leuven


Should we return to narrow banking? That is, should we restrict commercial banks’ activities to traditional consumer and corporate loans held on the banks’ balance sheets until maturity, allowing only investment banks to engage in securitisation and other sophisticated investments? In order to answer these questions it is good to go back to the basics of banking.
There are two characteristics of banks that make them very special. First, banks borrow short and lend long. In doing so they create a very special kind of risk, a liquidity risk. This risk is special because it is a “tail risk”. It occurs infrequently, but when it does, it has devastating effects. It is difficult, if not impossible to quantify because it occurs as a result of collective movements of distrust and panic. We have no reliable model predicting collective panics.
Second, banks are at the center of the payments system. This creates a network of borrowing and lending by banks from and to each other. This interbank market has the effect of creating an interconnectedness of risk, i.e. when one bank fails, the other banks are in trouble. When a problem appears in one bank, it is propagated into the whole banking system like an infectious disease. Thus, risks in the banking system are likely to be correlated. This contrasts with what happens in the non-banking sector. For example, when one automobile company goes bankrupt, this is good news for the other automobile companies. The latter can expand their production and increase their profits.
Securitisation, which became popular from the 1980s onwards, was thought to reduce systemic risk because it would spread the risk concentrated in one bank over many more institutions. In fact, it did the opposite; it increased systemic risk. When a bank in the Midwest bundled mortgages into an asset backed security and passed it on to financial institutions in, say, Germany, the interconnectedness and the correlation of risks in the banking system increased. Thus, securitisation amplified the inherent problem of the banking system which is that shocks occurring in one place are quickly transmitted to the rest of the system. As a result, securitisation increased the inherent fragility of the banking system.
How to tackle this problem? There are essentially two ways. In the first one, banks maintain a business model that allows them to securitise their loans in different sophisticated ways, although subject to tighter regulation and supervision than before. This is the approach towards which policymakers gravitate today. It is based on a belief that the risks created by banks can be managed and contained by imposing a series of appropriate capital and liquidity ratios, and, as has been proposed in a number of countries, by subjecting the introduction of new financial products to prior approval.
The problem of this approach is that we do not have a science of interconnected risk, which is the risk created by banks. All we have is a science of independent risks. This is the risk that arises in one place and that can be isolated, because it is not propagated to the rest of the system. This science of independent risks which has been very powerful in developing and pricing derivatives and other sophisticated financial products, is useless as a tool to manage the risks created in the banking system. It is not only useless. It is also dangerous because it will lead to a new complacency. When the new regulatory environment will be in place it will create the illusion that things are under control, while underneath the time bomb of correlated risks that can be triggered by collective movements of panic will continue to tick.
The second approach starts from the admission that we do not have the tools to quantify the risks created by the banking system. All we can do is to limit these risks by restricting the activities of banks. This is the idea behind narrow banking, which was the core principle of the Glass-Steagall Act introduced in the USA after the Great Depression and similar legislation in many European countries. In this approach commercial banks, i.e. those that hold the deposits of ordinary customers, are told that activities that increase the interconnectedness of risk shall not be allowed. Since securitisation of loans increases this interconnectedness, it will not be allowed. Thus, narrow banking aims at minimising the potential of the banking system to create correlated risks. These risks of course cannot be eliminated, but they can certainly be reduced.
An objection to the idea of narrow banking is that it will reduce credit and thus will negatively affect economic growth. The answer to this objection is that securitisation and financial innovations have led to an explosion of bank credit that has turned out to be unsustainable. It has led to consumption and housing booms that increased economic growth temporarily. The economic growth observed in the US, the UK, and many other countries during the decade prior to the crash was artificially high, sustained as it was by excessive credit made possible by securitisation. After the crash, economic growth will have to return to a lower and more sustainable level, especially in these countries that have experienced these artificially high growth rates. Such a lower but more sustainable growth rates can be achieved in an environment in which banks create fewer risks. It will also be a banking system which generates fewer profits.
Financial innovation will still occur in such a new banking landscape. Investment banks will still be able to develop new sophisticated assets. The limitation they will face, however, is that they will not be able to finance these (most often illiquid) assets by short-term funding. In other words investment banks will not at the same time be able to operate as commercial banks, as unfortunately some can today. In addition, these investment banks will not be bailed out by the state if they fail.
Bankers and their many lobbyists scream that narrow banking is terrible and will reduce innovation and growth. Don’t believe them! In fact prior to securitisation economic growth was higher in the industrialised countries. The protests of bankers against narrow banking are self-serving. When bankers make pleas to keep their business models unchanged they are not concerned at all with general welfare. Their only concern is to go back to the situation prior to the crisis that allowed them to generate high profits while making sure that part of the risk was borne by the rest of society.

Posted by Wilfried Allé Tuesday, September 15, 2015 11:03:00 PM

The EMU needs a stability pact for intraregional current account imbalances 

Sebastian Dullien and Daniela Schwarzer,
respectively Professor for International Economics at the University of Applied Sciences HTW, Berlin, and Head of the Research Unit “EU-integration” at the German Institute for International and Security Affairs (SWP), Berlin.


The current economic crisis has exposed two fundamental problems in the design of the European Monetary Union. The first concerns the sustainability of public finances in a number of euro-zone member states. Second, inadequate macroeconomic policy coordination has resulted in divergences in the international competitiveness of euro-zone members, threatening the very existence of the euro.
Countries whose public finances seemed fundamentally sound as late as last year have come under severe fiscal pressure. Ireland’s government debt is expected to rise to almost 80% of GDP by 2010, whereas just a year ago the European Commission projected that it would be below 30% of GDP. Likewise, whereas Spain was expected to decrease its debt ratio, its debt-to-GDP ratio is now likely to double between 2007 and 2010, to more than 60%.
The EU’s fiscal surveillance mechanisms failed to predict these developments because they neglect a crucial variable: the dynamics of private-sector debt. Given the high economic costs of a banking crisis, governments are likely to take on the liabilities of their financial sector when a crisis, caused at heart by excessive private-sector borrowing, hits – as recently occurred among others in the United Kingdom and Ireland, and in financial crises in Latin America and Asia in the 1990’s. The same is probably true when key business sectors near insolvency. A country with sound public finances can thus become a fiscal basket case practically overnight.
Given the increasingly close financial and economic linkages between eurozone members, rising government debt in one EMU country can have serious consequences for all members. Firstly, no member state will allow another to default. Thus, EMU members indirectly share the liability for fellow countries’ private-sector debt, which for this reason should be monitored within the EMU’s surveillance framework. Secondly, even if there is no sovereign default or liquidity crisis, excessive public deficits and debt in the Eurozone might, in times of high capacity utilisation, increase pressure on the ECB to push up interest rates which would create monetary conditions suboptimal for those member states pursuing sound public finances.
A second apparent problem is that EMU member states have failed to coordinate their economic policies effectively. Even before the crisis, this resulted in divergences in competitiveness and in the business cycle. The persistent loss in competitiveness over the past decade is one reason why the crisis is hitting some southern European EMU countries such as Spain and Italy so hard. Almost 11 years into the EMU, it is clear that neither market mechanisms nor the existing policy coordination procedures suffice to reduce divergences. These trends pose the risk that some countries might find themselves in a permanent low-growth trap very much like the one East Germany experienced after the German unification or Portugal has experienced since 2002. Such a development will lead to political estrangement of citizens of the crisis countries from EU institutions and possibly with calls for more intra-EMU redistribution which in turn will not be very popular in the countries with better growth performance.
The inefficiency of fiscal-policy control and the lack of economic convergence are a matter of increasing concern to both the European Central Bank and finance ministers, who have started discussing cyclical and structural divergence in the Ecofin and the Eurogroup in parallel to the accelerating debate on the future of the Stability and Growth Pact.
One way to tackle the problems associated with government debt resulting from private sector liabilities, as well as to improve economic policy coordination, is through a simple extension of existing rules: an “External Stability Pact” could be introduced to complement current EMU regulations. This pact would monitor current-account imbalances and penalise excessive deficits or surpluses in the external account.
Monitoring external balances can be an effective tool to measure future default risks, since sustained current-account deficits lead to a growth in net foreign debt. Moreover, there is a direct relationship between the EMU countries’ private-sector debt dynamics and their current-account imbalances within the euro zone. So long as a national government is not running more than a modest deficit, a current-account deficit reflects the private sector’s borrowing from abroad (or the sale of previously accumulated foreign assets). If the current-account balance is assessed together with the fiscal position, it becomes
possible to draw conclusions about risky debt trends within the private sector. While of course the current account is the aggregation of a large number of private and public transactions, the national governments in the eurozone have the tools at hand to influence the private sectors’ decisions, in particular through fiscal policy and influences on wage setting.
The mathematics of debt dynamics suggest that no euro-zone country should have a current-account imbalance, whether a deficit or a surplus, of more than 3% of GDP. Exceptions could be granted for countries with large inflows of foreign direct investment in greenfield projects. The rule should apply both to debtor and creditor countries. After all, payment imbalances always have two sides, and the burden of adjustment should not be borne only by deficit countries.
The External Stability Pact would oblige governments to use fiscal and wage policies as well as overall economic policy to achieve external balance. It would also lead to broader economic-policy coordination, particularly with respect to wage-setting, because governments would be compelled to use national legislation and public-sector wage settlements to influence wage policy in such a way that imbalances among euro-zone countries are reduced.
Furthermore, an External Stability Pact would oblige governments to take into account the consequences for other member states when designing national economic reforms. If a “surplus country”, such as Germany, wanted to lower non-wage labor costs and increase value-added tax in order to boost its competitiveness, it would simultaneously have to adopt an expansive fiscal policy to compensate for the negative effects on its partners’ foreign trade. Within the framework of these rules, individual countries would retain the authority to design their policies. The Spanish government, for example, could have met Spain’s building boom and foreign-trade deficit with tax increases or by urging domestic wage restraint. Alternatively, it could have intervened by instituting planning regulations or imposing limits on mortgage loans.
An External Stability Pact would not only detect risks to fiscal stability early on; it would also help make a reality of a fundamental principle of EU law, namely that member states finally treat economic policy as a “common interest” according to Article 99 of the European Community Treaty.

Posted by Wilfried Allé Tuesday, September 15, 2015 11:14:00 PM

Using capital management techniques to control financial risks and help achieve fair and sustainable economic growth 

Gerald Epstein
Political Economy Research Institute, University of Massachusetts1


The current financial crisis has brought capital controls – and more generally, capital management techniques, that is the combination of exchange controls, capital controls and prudential regulations - back into fashion, and it’s high time. Had appropriate controls over the international sale of dangerous financial products and the speculative flows of foreign capital been widely in place, more countries would probably have been better protected from the financial fallout of the crisis, as were India and China who intensively applied such techniques. Iceland might not have melted down and Ireland might not have fallen off a cliff.
We have been here before. Laissez-faire approaches to international capital flows contributed to the collapse of the 1930’s. In the aftermath of the Depression and the ensuing, catastrophic Second World War, governments in most of the world -- with the reluctant blessing of the newly created International Monetary Fund (IMF) -- adopted government controls (exchange and capital controls) to manage the international flows of money and capital. For at least the first three decades following the Second World War, controls over the international flow of capital became the norm in most of the world and helped to support the so-called ‘Golden Age’ of economic growth in the post World War II period. Over time, and under pressure from financial interests, governments began to relax restrictions on the international flow of capital and money. Then, the chickens came home to roost. In 1997, the so-called Asian financial crisis hit, creating havoc in many highly successful Asian countries. This disaster was soon followed by the Russian financial crisis. And then a series of crises occurred culminating in the great financial crisis of 2007-2009.
In the face of the current crisis, countries are now trying to apply a wide array of capital management tools to protect their economies from the financial forces that brought the world economy to its knees. The IMF, in a turnaround from several decades of practice, is grudgingly accepting some of these attempts, demonstrating that when reality bites, even the IMF has to respond.
The table presents a summary of objectives and types of capital management techniques that have been used in practice. As one can see, there are many important objectives that governments pursue with capital management techniques and many tools that governments have at their disposal to achieve these goals.

  Objectives Price-based Quantity-based Prudential
Objectives and types of capital management techniques
Inflows •Keep a stable and competitive real exchange rate
•Limit excessive debt and maturity or locational mismatch to prevent financial instability
•Alter the composition of inflows to attract desired inflows
•Limit foreign ownership of assets for sovereign purposes or to protect domestic industries
•Tobin tax (tax on foreign exchange transactions)
•Reserve requirements on inflows of capital (e.g., URR, unrequited reserve requirements)
•Taxation of capital inflows
•Quantitative limits on foreign ownership of domestic companies’ assets
•Reporting requirements and
quantitative limits on borrowing from abroad
•Limits on ability to borrow from offshore entities
•Keynes tax (tax on domestic financial transactions)
•Reporting requirements and limitations on maturity structure of liabilities and assets
•Reserve requirements on deposits
•Capital requirements on assets and restrictions on off-balance-sheet
activities and derivatives contracts
Outflows •Protect tax base by reducing capital flight
•Maintain stability of exchange
rate
•Preserve savings to finance investment
•Credit allocation mechanisms
in order to support ‘industrial policy and investments for social objectives
•Enhance the autonomy of monetary policy in order to reduce inflation or expand employment and economic growth
•Tobin tax
•Multiple exchange rates
•Exchange controls
•Restrictions on purchase of foreign assets including foreign deposits
•Limits on currency convertibility
•Limits on asset acquisition
•Asset-backed reserve requirements
Inflows and
Outflows
•All of the above •‘Trip wire and speed bump’ approach (Grabel, 2004): identify a set of early warning signals and implement qualitative and quantitative policies gradually and dynamically, with an emphasis on controls on inflows.

There has been extensive study of countries’ motivations for adopting such instruments and the outcomes (costs and benefits) associated with them. Some useful lessons emerge from this work:
First and most generally, capital management techniques can contribute to currency and financial stability, macro- and microeconomic policy autonomy, stable long-term investment, and sound current account performance. There may also be some costs associated with these techniques, such as the fact that they can create space for corruption. But well-structured controls minimise these costs.
Second, successful implementation of controls over a significant period of time depends on the presence of strong fundamentals and a sound policy environment. The former include a relatively low debt ratio, moderate rates of inflation, sustainable current account and fiscal balances, consistent exchange rate policies; the latter public sectors that function well enough to be able to implement coherent policies (administrative capacity), and governments that are sufficiently independent of narrow political interests to be able to maintain some degree of control over the financial sector (state capacity).
Third, it is important to note that causation works both ways: from good fundamentals to successful capital management techniques, and vice versa. Good
fundamentals are important to the long-run success of capital management techniques because they reduce the stress on these controls and thereby enhance the chance that they will be successful. On the other hand, capital management techniques also improve fundamentals by helping to prevent risky financial strategies, excessive debt levels, currency mismatches, and speculative investments.
Fourth, the dynamic aspects of capital management techniques are perhaps their most important feature. Dynamic aspects mean that controls can be put on and taken off, and tightened and loosened as circumstances require. Policy makers need to retain the ability to implement a variety of management techniques and alter them as circumstances warrant.
Fifth, capital management techniques work best when they are coherent and consistent with the overall aims of the economic policy regime, or -- better yet -- when they are an integral part of a national economic vision. This vision does not have to be one of widespread state control over economic activity. Singapore is a good example of an economy that is highly liberalised in some ways, but where capital management techniques are an integral part of an overall vision of economic policy and development.
Sixth, there is no single ‘best practice’ when it comes to capital management techniques. They need to be tailored to the particular country, goals and circumstances. Luckily there is a broad menu of techniques that can be applied.
Of course, capital management techniques are no panacea for economic problems, and they will not work well unless they are part of an overall, appropriate framework of economic management. For countries navigating the treacherous waters of international finance, however, they can be useful – even necessary – components of the macroeconomic toolkit.

1. The author thanks his co-authors and colleagues James Crotty, Ilene Grabel, Arjun Jayadev, and Jomo K.S. for their contributions to his understanding of capital management techniques and for their work, on which he draws liberally here. Of course, they are not responsible for any errors

Further reading
Epstein, Gerald, Ilene Grabel and Jomo K.S. (2005) ‘Capital management techniques in developing countries,’ in Gerald A. Epstein (ed.) Capital Flight and Capital Controls in Developing Countries, Edward Elgar: Northampton, MA.
Grabel, Ilene (2004) ‘Trip Wires and Speed Bumps: Managing Financial Risks and Reducing
the Potential for Financial Crises,’ in Developing Economies G-24 Discussion Paper Series. United Nations, No. 33, November.
Neely, Christopher J. (1999) ‘An introduction to capital controls,’ Review (Federal Reserve Bank of St. Louis), 81 (6): 13-30.
Ocampo, Jose Antonio (2002) ’Capital-account and counter-cyclical prudential regulations in developing countrie,’ UNU, WIDER.

Posted by Wilfried Allé Tuesday, September 15, 2015 11:27:00 PM