Will the G20 work?

Tuesday, September 29, 2009

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Published: Sept. 28, 2009 at 11:32 AM

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ZURICH, Switzerland, Sept. 28 -- It was the week when the world was supposed to have changed, when the balance of power shifted from the West to the East. The G20 summit in Pittsburgh is being hailed as a nodal point, a historic moments when the exhausted and aging Titans of Europe and North America handed the baton to their vigorous successors from the developing world.

Maybe, but the headlines are misleading. The old G7 won its spurs by forging agreement on major policy changes. It managed to fix the gross currency imbalances of the 1980s and the endgame of the Cold War. In the 1990s it helped develop the 'Washington consensus," the fiscal orthodoxy that became the ground rules of globalization. In this decade, it achieved the paradigm shift in development policies to focus on debt, trade and governance.

These were important achievements, and the new G20 will have a great deal to live up to before it can earn the heady rhetoric that was shoveled at the Pittsburgh summit last week.

The most important feature of the G20 is that it has now been firmly established as the new institution of global governance. It is far more representative of the new realities and participants in the global economy, and no longer dominated by Americans and Europeans. It may therefore be seen as more legitimate than the old G7 and G8 by governments in Asia and Africa.

But it faces several important hurdles. First, like the old G7, the need to create the appearance of consensus means that the G20 seeks to avoid open public argument and thus its deliberations and statements tend to reflect generalities rather than hard policy choices. The real value comes from the growing familiarity and understanding as top officials work together on a common agenda.

Second, much of the success of the G7 process came not from the summits, but from the regular and far less publicized meetings of finance ministers and officials, which acted as a kind of international fire brigade for economic problems. The new members of the G20 have little experience of this, and it will be a steep learning curve. So far, there is zero consensus on key issues like exchange rates and reserve capital for banks.

Third, the differences of interest between developed and developing countries, between savers and spenders, between free-traders and the neo-mercantilists, will take a great deal of careful managing. The G7 were all industrialized economies; the G20 are not.

But the G20 has one big advantage. Its current momentum comes from its claim to have begun with success. Since its first hesitant meeting in Washington a year ago and the very much more substantive meeting in London in April, the G20 members assert that they led the world away from the brink of another Great Depression.

Indeed, they have crafted and guided the common policies of lower interest rates, unprecedented stimulus spending and massive liquidity injections -- totaling some 10 percent of global GDP. All combined, and with a great deal of help from the usual industrial rhythms of re-stocking shrunken inventories and from Chinese companies piling up commodities while they are (relatively) cheap, they have put the global economy on the path of recovery.

But there will be a heavy future price to be paid in debt and future inflation for the emergency measures that have been taken. And while the G20 has successfully treated the symptoms of the crisis, they have yet to deal with its causes in global imbalances and poor financial supervision.

And even the summit's achievements have yet to pass the reality test. The agreement in principle by China and India to take some share of the burden involved in reducing carbon emissions is important. Although no hard targets have been agreed, it is crucial that these countries have agreed in principle to be part of the common solution rather than part of the problem. But we have yet to see what this will mean in reality.

The most important result of the summit may be the successful birth of an institution, an executive committee for financial policy for the G20. This is the Financial Stability Board, the international group of central bankers, finance ministers and regulators that has representation from all the G20 nations.

Whether this is truly historic remains to be seen. The shift in power to the emergent economies can be overestimated. China has a GDP of less than $5 trillion, about one-third of the U.S. level ($14.5 trillion) or the EU ($16.5 trillion).

All four BRIC countries -- Brazil, Russia, India and China -- have a total GDP that is about half the GDP of Europe. In total, all the other 12 emergent economies that make up the G20 do not equal the GDP of the United States. The United States and Europe will thus be the global economic heavyweights for many years to come.

The G20 remains a work in progress, and we are starting to see the cracks in its consensus, over voting rights at the IMF, over specifics on bankers' bonuses, and over the small print of regulatory reform. The promised reduction in European voting rights at the IMF to help add representation for developing countries reflects the failure of the leading EU countries to devise a common policy. This is not a mistake they are likely to make again.

Moreover, the G7 itself is not quite dead yet, and some thoughtful officials suspect it could be a very long time a-dying. It will continue as an informal kind of dining club for the leaders of the West, which is what it was supposed to be in the first place.

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