Doug Henwood dhenwood at panix.com
Wed Dec 2 16:00:15 PST 1998

The World Bank has just published its Global Economic Prospects and the Developing Countries, which is mostly about the Asian crisis & its aftermath. You can download a PDF version at <http://www.worldbank.org/prospects/gep98-99/full.htm>. Here's some of what Joseph Stiglitz, WB chief economist, has to say in his foreword.



There are inevitably a multiplicity of factors that contribute to any complex phenomenon such as the crises that have beset East Asia. This is especially the case because the situation in each of the countries differed, in some respects, markedly. But our research concludes that the origins of the crisis lay fundamentally in the interaction between institutional weaknesses in managing domestic financial liberalization and international capital market imperfections. Unlike the Latin America debt crises of the 1980s, the East Asian crisis was not characterized by excessive sovereign borrowing or severe macroeconomic imbalances. As a result, policies that were successful in responding to the debt crisis were not necessarily optimal in the circumstances of East Asia;. The initial policy responses may have failed to recognize quickly enough the costs of exacerbating the downturn at a time when banks and private businesses were already in trouble, demand was falling, and capital was flowing out. In the event, the crisis had serious social consequences, in part because of the absence of social safety nets. The report suggests that the lesson to be learned from these events is that in future financial crises, the primary role for fiscal and monetary policy should be to shore up demand, expand the social safety net, recapitalize banks, and restructure corporate debt. Social safety nets in particular must be a central component of the policy response to a crisis.

The report also explores how to avoid future crises. In an age of large-scale private capital flows, developing countries face very complex problems in managing these flows but have little experience with the institutional and regulatory safeguards necessary to prevent crises. But even industrial countries have, in recent years, faced financial crises. Some of the more recent crises have occurred in industrial countries with advanced institutional structures and high levels of transparency. We know too that establishing the strong institutional infrastructure required to make markets work effectively, to enable the economy to experience stable and sustained growth, are tasks that will not be accomplished overnight, even in countries with a high level of commitment to make the necessary reforms.

When a single car has an accident on a bend in the highway, one might infer something about the driver or his car. But when, at the same bend, there are accidents day in and day out, the presumption changes--there is probably something wrong with the road. The fact that such a large number of countries have been affected by this crisis and required large official bailouts suggests some fundamental systemic weaknesses. In order to deal with the risks posed by large capital flows, especially significant when financial systems are weak, the report suggests that reforms must be comprehensive, and include a combination of more flexible macroeconomic policies, tighter financial and where necessary, restrictions on capital inflows. In some cases it may be necessary to reverse the excesses of financial sector deregulation, especially in situations where countries lack the capacity for the required regulatory oversight. In each case, we need to ask what are the benefits and costs of the proposed reforms; and we need to look at the impacts on growth, stability, and poverty. The balance of benefits and costs of different policy reforms may differ in different countries. We need to recognize that in many of the poorest countries we are not likely to have, in the immediate future, robust safety nets. We have seen the devastation to the lives and livelihoods of millions of people that financial crises can have on innocent bystanders. We are seeing poverty increase overnight, undoing the slow progress that has been taking place year by year. For the poor people in those many developing c ountries without an adequate safety net, the risks are indeed high, perhaps unacceptably so.

While the consequences of the crisis have been severe, the report ends on a note of optimism. Events over the past year may well herald a new, more realistic and stable environment for developing countries. We now have a better understanding of the institutional infrastructure that is required to make market economies work. The international community is giving serious attention to necessary improvements in the international financial architecture--from better bankruptcy laws, a greater willingness to accept standstills and arrangements entailing more equitable burden sharing, to a greater receptivity to interventions designed to stabilize capital flows, to a greater recognition of the need for responses to crises that are better adapted to the circumstances of the country and to protecting the most vulnerable within them. The two together--improvements in domestic institutions and in the international financial architecture--will enable greater numbers of countries to be able to enjoy more of the benefits--and minimize the risks--of the global economy.

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