The London Summit took place at a time when the world confronts the worst economic crisis since the Second World War. The leaders of the G20 countries, together with the major international institutions, faced an unprecedented range of challenges – of averting an even more severe downturn and restoring growth in the short term, while at the same time reshaping the financial system, preserving the world trading system, and laying the foundations for a sustainable recovery.
We in the UK government benefited hugely from the columns and debates on VoxEU offering opinions, advice, and views from professional economists on the issues the Summit should tackle. Now we want to repay the favour by setting out what happened – what was agreed at the Summit and what will happen as a result. This column summarises the outcomes; other columns by my colleagues will describe the trade and development outcomes in more detail.
The most important thing leaders could do to restore economic confidence, and hence to avert the risk of a more serious recession, was to make it clear that they will do whatever it takes to restore economic growth. As recognised by most contributors here – but contrary to some press commentary – this was not about announcing more fiscal stimulus packages to add to the very substantial sums already committed. It was about two things:
- Ensuring that the policy actions that have already been taken, on fiscal policy, monetary policy and fixing the financial system are implemented quickly, effectively, and where appropriate in an internationally coordinated way, and in such a way that they translate into real demand.
Here a major step forward was the agreement (originally at the Finance Ministers meeting) on an international framework for restructuring distressed assets – as suggested by a number of contributors to these debates (the agreement can be downloaded here “Restoring Lending: a framework for financial repair and recovery”)
- Going forward, there was a clear commitment to take more policy actions if necessary on all of these fronts – more fiscal expansion if needed to restore demand, more unconventional monetary policy measures if needed to prevent deflation, more action to recapitalise and restructure banks if needed to restore lending.
The most important section of the communiqué on macroeconomic policy is worth reproducing in full:
“Last month the IMF estimated that world growth in real terms would resume and rise to over 2 percent by the end of 2010. We are confident that the actions we have agreed today, and our unshakeable commitment to work together to restore growth and jobs, while preserving long-term fiscal sustainability, will accelerate the return to trend growth. We commit today to taking whatever action is necessary to secure that outcome, and we call on the IMF to assess regularly the actions taken and the global actions required.”
Not only did the leaders agree to take further action – and not just on fiscal policy but in other policy areas too – but they tied the need for such action to the achievement of objectives for growth and put in place a clear monitoring mechanism for judging progress. This represents a significant step forward in international macroeconomic coordination.
While a clear and unequivocal statement of intent was what was required on macroeconomic policy, the international financial institutions (IFIs) – the IMF, World Bank, and regional development banks – required more than that.
Substantial new financial commitments were needed, and quickly, both to assist emerging market economies that are facing the threat of a “sudden stop” in capital flows and to help the poorest countries cope with the consequences of the crisis. The Summit agreed by far the largest such expansion of resources in history, including:
- An expansion of the IMF’s New Arrangements to Borrow by up to $500 billion,
- A new special drawing rights (SDR) increase of around $250 billion, and
- Increased financing through the World Bank and MDBs of at least $100 billion.
It was also agreed that this money must be made available to countries that need it without the excessively burdensome conditionality seen in previous crises – this is not the time to require countries to reduce domestic demand.
This expansion of official financing will particularly help the poorest countries. In addition to the tripling of IMF resources for more flexible lending to address the crisis, and additional multilateral development bank resources for more medium-term needs, it was decided that $19 billion of the SDR issue will go directly to low-income countries, and that some of the proceeds of IMF gold sales will be allocated to increase IMF support for these countries.
This initiative, which originated from developing country representatives at the Summit, will further relax their financing constraints and encourage new spending and investment. The resulting doubling of low-income countries’ access to IMF resources, with more flexibility, provides developing countries with more scope to finance the absorption of the current shock. The Summit announced specific funds for social protection to help the poorest and hardest hit, and a commitment to establish an effective mechanism, led by the UN, to monitor the impact of the crisis on the poorest and most vulnerable. Finally, leaders re-affirmed their commitment to the Millennium Development Goals and to maintaining their overseas development assistance targets.
As a number of contributors to these columns have noted, not only do the IFIs need more resources, they need reform. To be effective, the IMF’s economic surveillance functions require much greater independence. Both the IMF and the World Bank need governance structures that reflect the realities of the world economy today, including radical improvements to the representation of emerging and developing economies. The Summit didn’t get into specifics here – but leaders stated their intentions clearly and set out a process and timetable that will deliver this, for both institutions, over the course of the next 18 months or so.
The Summit set out new commitments to keep markets open and not resort to protectionism. This was perhaps not unexpected. But here the litmus test, as set out in the VoxEU book on “murky protectionism” was the agreement to set up a clear, transparent, and independent monitoring mechanism so that countries can properly be held to account for any protectionist measures. It was agreed that the WTO should report regularly on measures that might potentially distort trade, including not just tariffs and subsidies but also domestic policy actions, including fiscal policy and action in support of the financial sector.
In the short term, the greatest threat to trade is not explicit protectionism, but the drying up of trade credit, which finances up to 90% of world trade. This is particularly severe for emerging and developing economies. Normally markets handle this function perfectly well – but these are not normal times. There is a clear case for substantial, and internationally coordinated, government intervention to restart trade credit. The Summit agreed a major package of new mechanisms and resources – which could total up to $250 billion over the next two years – to support trade credit.
There was general consensus that whatever else the Summit did, it must ensure that – while there will always be unexpected events in financial markets – a crisis on the scale of the present one could not be allowed to recur. The Summit agreed a blueprint for reforming the regulatory framework of the financial sector – again demonstrating an unprecedented degree of international coordination. The key principles underlying this framework include
- the need to strengthen macroprudential supervision,
- for capital requirements to explicitly incorporate countercyclical elements – and that in present circumstances it would be inappropriate to raise them until recovery takes hold,
- for all systemically important institutions, including hedge funds, to be subject to regulation and supervision,
- for common principles for remuneration so as to discourage excessive risk taking,
- to ensure credit rating agencies do their job properly and without conflicts of interest, and
- to deal with tax havens and non-cooperative jurisdictions.
The Summit also agreed that a central role in coordinating this agenda should be taken by the Financial Stability Forum, now renamed the Financial Stability Board and incorporating all G20 countries. Agreement on specific measures across all of these areas and all of the G20 countries – from Argentina to the US, from China to Germany – is a huge achievement, and one that would have been simply inconceivable merely a year ago.
The London Summit does not mark the end of the world financial crisis or the recession that has resulted. But history may record that it marks the beginning of the end. As set out above, leaders of the G20 countries agreed that they would take whatever action was necessary – fiscal, monetary and financial – to restore growth and accelerate recovery, with monitoring by the IMF; they agreed to make available more than $1 trillion to and through the IFIs to support emerging and developing countries and maintain access to trade credit; and they agreed to completely reshape the world financial system so that in future it supports rather than undermines the real economy. Not bad for a day’s work.