Global financial confidence, once destroyed, requires myriad positive events and a heavy convergence of them to counter ambient pessimism and gloom.
The recent series of government packages, notwithstanding their scale and speed, has had little demonstrable effect on the level of confidence or the outlook for ongoing activity. Indeed, the number of new and significant packages may begin to peter out as the public accounts of most countries can no longer cope with the growing burden of insolvency or assume further private sector risk. This context underlines the urgent need for the Group of 20 industrialised and developing nations meeting in London to construct a new paradigm to resuscitate the world financial and economic system.
What is needed is a new global economic and political settlement. The first priority should be to make the G20 a permanent gathering. The leaders should meet at least once a year and, in current circumstances, twice. A permanent G20 structure, representative of the major debtor and creditor countries and the most strategically powerful ones, will sound the death knell of the Group of Seven leading industrialised nations. This is two decades too late, but better late than never.
The second priority should be for future international economic policy co-ordination to be conducted by the G20 — its leaders, finance ministers and central bankers — not by the International Monetary Fund, which has failed so miserably in this task.
The third priority should be radically to restructure the IMF, disbanding its board and replacing it with a governance structure that truly represents the wider world it claims to serve. The Fund should still manage its balance of payments emergency facility but under the general supervision of the G20.
The Washington establishment may resist such changes, while the European members of the G7 will do all they can to hang on to the old postwar structure. Yet the utility of those arrangements began to erode when the Cold War ended and China began its rise to the powerhouse it is today.
The pump-priming of government budgets through deficits and recapitalisation of banks offers only a temporary respite to the crisis. Fiscal policy has its limits. President Barack Obama is already portending a US federal deficit of $1,700bn (€1,354bn) this year, or about 13% of gross domestic product and told the US public to expect deficits in the trillions for years.
In the short term the world needs the US stimulus, but the longer term antecedents of the crisis can only be dealt with when deficit countries save more and spend less and surplus countries do the opposite. This savings imbalance will not be remedied while the larger creditor states are locked out of the hierarchy of global institutions. Left to themselves, they will go back to their own defensive game. Brought into the fold, on a credible basis, they may think it is safe to change habits.
For instance, the government of China has no intention of dealing with its surpluses by letting its real exchange rate redirect national resources, especially when such action risks putting it into the hands of the IMF. Following the crisis of 1997, what every Asian government fears is the political consequence of capital outflow — to wit President Suharto of Indonesia, who was forced out of office in 1998.
Until international monetary governance is democratised, or at least is more representative, no major developing country, creditor or otherwise, is going to put its head into the IMF cum US Treasury noose.
But to make a G20 structure that is truly dynamic, the US must answer two strategic questions. Is China a commercial competitor that has to be strategically watched or is it a building block in a new multi-faceted world? Should Russia have an organic place in a more representative world system or should it continue to be regarded as incurably untrustworthy?
A positive resolution of these questions along with reform of the old Bretton Woods arrangements can usher in a more workable world structure. The question is whether Mr Obama will recognise this opportunity at the coming G20 meeting or whether the advice of old advisers will keep him, and the rest of us, in the current economic and strategic rut.
A burst of inclusion is the only way to make the world anew. If it happens, the impact on confidence will be profound — outweighing all the packages put on the table to date.
Paul Keating is a former Australian prime minister and a member of the international advisory council of China Development Bank. This article first appeared in the Financial Times.