Policy Brief

A Modest Proposal for the G20

Soon the G20 group will meet again to continue its discussion of changes in the rules governing the international economy and the global, financial system. A danger is that, as time passes and as the world moves further away from the deepest point of the recent financial crisis, inertia will set in, lobbies will reacquire […]

By: Date: June 20, 2010 Topic: Global Economics & Governance

Soon the G20 group will meet again to continue its discussion of changes in the rules governing the international economy and the global, financial system. A danger is that, as time passes and as the world moves further away from the deepest point of the recent financial crisis, inertia will set in, lobbies will reacquire their past influence on legislators and other policymakers, and national interests will again prevail over global interests. These developments will inevitably affect the countries’ willingness to establish clear and widely shared rules to guide future financial operations and operators.

Many issues continue to characterize the ongoing debate. Among these, the following are significant ones:
(a) Should the focus be on micro, institution‐specific risks or on macro‐prudential risks? Depending on the focus, different policy tools would be needed.
(b) Should the regulators and the regulations remain nationally based? Or should they become more global character?
(c) If they remain national, how much harmonization of the rules is necessary among the countries for a financial market that is global in scope and that can thus exploit regulatory arbitrage?
(d) If the rules and the regulators remain national, how much exchange of information would be necessary among the regulators?
(e) What should be the reporting requirements for those who operate in the market? And to whom should they report?
(f) Which financial operations should be registered and/or would be required to use transparent and monitored channels?
(g) What should be the capital requirements for loan‐making institutions, or for those that, through their operations, acquire large, potential, financial liabilities? How to make these capital requirements not contributors to cycles?

These and other questions need to be addressed in the development of new rules that would hopefully reduce the probability of financial crises in future years. An old issue that will inevitably arise in the discussions is whether countries that participate in the G20 meetings should try to agree on precise rules. Or, whether it would not be preferable to focus on the development of broader principles that could provide an umbrella for determining proper behavior in the financial market. Obviously, the existence of principles would not eliminate the need to develop (within specific countries) more detailed rules that could complement the principles. As an example, the principle that states that those who drive cars have the responsibility to drive carefully does not eliminate the need to have speed limits (rules) that could be different from place to place.

With some generalization it can be argued that Americans and generally those from Anglo‐Saxon countries have preferred to have specific rules for what is called a ‘rule‐based society”. In these societies lawyers have acquired great importance because they are those who often make the rules and determine whether the legal rules are followed. The main argument in favor of a rule‐based society is that precise, agreed rules reduce political and administrative discretion. This is a strong and important argument. I recall that during the 1997‐98 financial crisis, that hit several of the countries of Southeast Asia, high level representatives of the US Treasury kept repeating ad nauseam that the crisis had occurred because of the absence of specific rules in the affected countries. If those countries had had American‐style rules, they would not have had the crisis.

Continental European countries have relied a bit less on precise rules and a bit more on broader principles to guide behavior in the financial market and in other activities, including driving. An important argument for this preference, and one that has acquired more weight due to the recent financial crisis, is that, just as happened with the famous Maginot Line, before World War One, precise rules tend to deal with the situations of the past (past wars or past crises) and not with the reality of the present and future. In a fast developing world, in which technology and other relevant areas are changing rapidly, thus continually creating new situations, new institutions, new relations, and new financial instruments, existing and precise rules tend to become inadequate in dealing with new situations, because they were developed with the needs of the past. In a rule‐based world, rules tend to follow, rather than anticipate, real world changes. Another argument, stressed by pronouncements from the Vatican, is that unethical behavior, as distinguished from illegal behavior, is difficult to be dealt with by precise rules.

The recent financial crisis has driven home the fact that some financial operations considered unethical by most observers may not have violated any existing rules. Thus, the perpetrators could not be penalized and they could keep their gains. There have been many examples of this problem.

The criticism of some of Goldman Sachs’ operations, of rating agencies, and of other operators was clearly the result of this divergence between what the rules allowed and what was considered ethically correct behavior by much of the population. If the existing rules had been complemented by some relevant, broad principles, there might have been fewer problems.

Perhaps, an example from India may help clarify the point made above. In a strict, rule‐based society, there is a sharp distinction between “tax evasion” and “tax avoidance”. Tax evasion occurs when one breaks a clearly identifiable norm or rule. That behavior is punishable by law. Tax avoidance occurs when a taxpayer uses some potential ambiguities in the fiscal norms to reduce the tax payment or to avoid paying taxes. Tax avoidance is generally not considered a violation of the law. In the USA and in several other countries, it is not legally punishable. At best the Internal Revenue Service or equivalent agencies bring (ex post) changes to the regulations or to the legislation to reduce future tax avoidance. However, in India this sharp distinction, between tax evasion and tax avoidance, is not legally accepted. The principle is that, if a special tax court decides that the intention of the taxpayer was to defraud the government of tax revenue, tax avoidance is treated as tax evasion.

Returning to the G20, it is not realistic to expect that a group of 20 heterogeneous countries, with different national interests and traditions, would be able to agree, at the next or at future meetings, on precise “rules governing the international economy and financial system”. However they might be more successful if they concentrated on developing a set of general but relevant principles, a kind of constitution, that could in turn influence the precise rules that the specific countries might want to follow. The rules might differ between countries, but the more they would follow the general principles, the greater global harmonization would take place. Obviously the principles should not be so general as to become meaningless. Calling for equality, fraternity and liberty would be an example of a useless principle. Calling for full transparency in all financial transactions would be a more useful principle.

The G20 could also agree on an institution ‐‐‐‐the IMF?‐‐‐‐ that might exercise some kind of surveillance function over countries to determine whether the ongoing behavior in their part of the financial market is consistent with the agreed principles.

This would clearly be a second‐ best option. However, this might be realistically the best that could be achieved.


Warning: Invalid argument supplied for foreach() in /home/bruegelo/public_html/wp-content/themes/bruegel/content.php on line 449
View comments
Read about event More on this topic

Upcoming Event

Jun
24
08:30

China’s investment in Africa: consequences for Europe

How is Chinese investment impacting Africa, and what could be the consequences for Europe?

Speakers: Solange Chatelard, Maria Demertzis, Alicia García-Herrero and Abraham Liu Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read article Download PDF More on this topic

Working Paper

China and the world trade organisation: towards a better fit

China’s participation in the WTO has been anything but smooth, as its self-proclaimed socialist market economy system has alienated its trading partners. The WTO needs to translate some of its implicit legal understanding into explicit treaty language, in order to retain its principles while accommodating China.

By: Petros C. Mavroidis and André Sapir Topic: Global Economics & Governance Date: June 13, 2019
Read article More on this topic More by this author

Blog Post

The inverted yield curve

Longer-term yields falling below shorter-term yields have historically preceded recessions. Last week, the US 10-year yield was 21 basis points below the 3-month yield, a feat last seen during the summer of 2007. Is the current yield curve a trustworthy barometer for future growth?

By: Inês Goncalves Raposo Topic: Global Economics & Governance Date: June 11, 2019
Read about event More on this topic

Past Event

Past Event

EU-LAC Economic Forum 2019: New perspectives in turbulent times

The third edition of the EU-LAC Economic Forum.

Speakers: Diego Acosta Arcarazo, Ignacio Corlazzoli, Maria Demertzis, Mauricio Escanero Figueroa, Alicia García-Herrero, Carmen González Enríquez, Bert Hoffmann, Edita Hrdá, Matthias Jorgensen, Juan Jung, Tobias Lenz, Carlos Malamud, J. Scott Marcus, Elena Pisonero, Belén Romana and Guntram B. Wolff Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: June 11, 2019
Read about event More on this topic

Upcoming Event

Jun
21
12:30

Financial inclusion of SMEs for growth and job creation

How can increased access to finance benefit SMEs? What reforms are needed to encourage SME financial inclusion?

Speakers: Jihad Azour, Bruno Balvanera, Zsolt Darvas, Barbara Marchitto, Anta Ndoye and Guntram B. Wolff Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read about event More on this topic

Upcoming Event

Jul
12
09:30

The 4th industrial revolution: opportunities and challenges for Europe and China

What is the current status of EU-China relations concerning innovation, and what might their future look like?

Speakers: Elżbieta Bieńkowska, Chen Dongxiao, Eric Cornuel, Ding Yuan, Jiang Jianqing, Pascal Lamy, Li Mingjun, Signe Ratso, Reinhilde Veugelers, Wang Hongjian, Guntram B. Wolff and Xu Bin Topic: Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels
Read article More on this topic More by this author

Opinion

Too crowded bets on “7” for USDCNY could be dangerous

The Chinese yuan has been under pressure in recent days due to the slowing economy and, more importantly, the escalating trade war with the US. While the Peoples Bank of China has never said it will safeguard the dollar-yuan exchange rate against any particular level, many analysts have treated '7' as a magic number and heated debates have begun over whether the number is unbreakable.

By: Alicia García-Herrero Topic: Global Economics & Governance Date: June 6, 2019
Read article More on this topic More by this author

Blog Post

The 'seven' ceiling: China's yuan in trade talks

Investors and the public have been looking at the renminbi with caution after the Trump administration threatened to increase duties on countries that intervene in the markets to devalue/undervalue their currency relative to the dollar. The fear is that China could weaponise its currency following the further increase in tariffs imposed by the United States in early May. What is the likelihood of this happening and what would be the consequences for the existing tensions with the United States, as well as for the global economy?

By: Inês Goncalves Raposo Topic: Global Economics & Governance Date: June 3, 2019
Read article More on this topic More by this author

Podcast

Podcast

Backstage: Ukraine's economic and political outlook

In this episode of ‘The Sound of Economics’, Giuseppe Porcaro hosts Hlib Vyshlinsky, executive director of the Centre for Economic Strategy, and Bruegel fellow Marek Dabrowski to discuss what the new Ukrainian government should do to meet the challenges facing the country’s economy.

By: The Sound of Economics Topic: Global Economics & Governance Date: May 31, 2019
Read article More on this topic More by this author

Opinion

Expect a U-shape for China’s current account

As the US aims to reduce it's bilateral trade deficit, China's current-account surplus is back in the headlines. However, in reality China’s current-account surplus has significantly dropped since the 2007-08 global financial crisis. In this opinion piece, Alicia García-Herrero discusses whether we should expect a structural deficit or a renewed surplus for China's current-account.

By: Alicia García-Herrero Topic: Global Economics & Governance Date: May 28, 2019
Read about event

Upcoming Event

Sep
4-5
08:30

Bruegel Annual Meetings 2019

Bruegel's 2019 Annual Meetings will be held on 4-5 September and feature the launch of Bruegel's Memos to the New European Commission.

Speakers: Lorenzo Bini Smaghi, Vítor Constâncio, Zsolt Darvas, Maria Demertzis, Ottmar Edenhofer, Bas Eickhout, Baroness Kishwer Falkner of Margravine, Alicia García-Herrero, Mikaela Gavas, Mathew Heim, Korbinian Ibel, Pascal Lamy, Ann Mettler, Ashoka Mody, Mark Leonard, Erik F. Nielsen, Florence Parly, Jean Pisani-Ferry, Lapo Pistelli, Lucrezia Reichlin, Joakim Reiter, André Sapir, Olaf Scholz, Sena Siaw-Boateng, Philipp Steinberg, Alexander Stubb, Ezequiel Szafir, Laura Tyson, Nicolas Véron, Reinhilde Veugelers, Emmanuelle Wargon, Thomas Wieser, Guntram B. Wolff and Georg Zachmann Topic: Energy & Climate, European Macroeconomics & Governance, Finance & Financial Regulation, Global Economics & Governance, Innovation & Competition Policy Location: Palais des Academies, Rue Ducale 1, 1000 Brussels
Read article More on this topic

Blog Post

India in 2024: Narendra Modi once more, but to what end?

Even with the recent economic slowdown, India still boasts Asia’s fastest growing economy in 2018. But beneath the veneer of impressive GDP expansion, uneasiness about India’s economic model clearly tempers enthusiasm.

By: Alicia García-Herrero and Trinh Nguyen Topic: Global Economics & Governance Date: May 17, 2019
Load more posts