Please respond to lbo-talk at lists.panix.com
To: lbo-talk at lists.panix.com, lbo-talk at lists.panix.com cc: (bcc: DANIEL DAVIES) bcc: DANIEL DAVIES Subject: Re: The pleasures of default
Patrick's comments on my thorts are every bit as penetrating as his comments on Brad's view of the world financial system, and all my replies should be taken as tentative.
>> From: DANIEL.DAVIES at flemings.com
>> But now I want to lift capital controls and start running a big external
>> deficit to help support my reflationary policies (screw the IMF program,
>> I'll renegotiate it). For that, I now need foreign funds.
>Was with you up to here, Daniel.
Actually, you should have left me by the wayside much earlier -- it turns out that the strategy outlined simply wouldn't work for Cote d'Ivoire. For an Ecuador or a South Africa, with plenty of external foreign creditors, it works fine. But for a poor indebted country whose non-trade creditors are mainly other governments and multilaterals, the political economy of default is much more complicated
> But if you're a serious president,
>w.r.t. reflating a stagnant economy and promoting poli-econ
>stability, why would you a) lose control of domestic financial
>circuitry (and with it interest rate determination) by lifting
>capital controls, and b) reflate with foreign funds instead of
>easy-to-print local currency?
The answer to b) is that I'd be doing both. Because I'm printing money domestically, I need to run a large current a/c deficit (even if the cocoa price rebounds, my reflationary policies will tend to create an external deficit. For this, I need foreign funds, because they're the only funds that foreigners will accept, unless I want to get into commodity barter, which I probably wouldn't.
The answer to a) is that I might be making a mistake. I must say that a South-African style dual currency regime might actually make a lot of sense -- I don't really know enough about the financial rand system to make any comment. But I really want to be able to run the current a/c deficit, and I think I'm prepared to give up some control over interest rates in order to attract the money. I also tend to think that the economy's going to get kicked around by the cocoa price no matter what, so the marginal damage caused by floating the exchange rate is small. I'm also a central bank monetarist rather than a post-keynesian, so I cling to the belief that as long as I don't print too much of it, I can still have as much control as I need over the domestic money supply even with open capital markets. I'm not hoping for a miracle; I just want to be able to run a looser monetary policy than would otherwise be possible. I might experiment with Chinese-style controls on capital *inflows*.
> If the answer to a) is to allow your
>elite chums the opportunity to skidaddle and to b) you'll just
>default again (lather, rinse, repeat), I don't think you're being
>realistic about power relations. How long can you stay in power under
>such circumstances?
I would guess that my elite chums would have skidaddled long ago -- as the first leaks started coming out about the planned default. There's very little you can do to stop wealthy individuals from moving their wealth to Switzerland, when it comes down to it; all you can do is factor it into the budget. The aim of my capital controls was always to keep the assets of 1) the local middle classes and 2) the local banking system within the country. By the time I got around to lifting capital controls, I would have expected to have nationalised (or quasi-nationalised) most of the local banks, and to have stabilised things enough that the local middle classes didn't think it worth their while to go to the (considerable) expense and trouble of moving their assets offshore.
This is the real problem of capital flight, IMO -- the departure of the local banking system.
On the lather, rinse, repeat issue, you have a point. I managed to spoil the point out of the wish to make a bad joke. Certainly, I myself would not be able to default again, and Cote d'Ivoire would be advised not to take that option for another "generation in the capital markets" -- ie about ten years. But developing countries can and do default on their debts again and again -- Mexico has done so pretty regularly at thirty year intervals since 1820. As I mentioned in the analogy to corporate equity, I think that default is a legitimate source of finance for a sovereign (albeit, probably an expensive one in the long run). When I was interviewing bond investors for a G10 survey on this issue, we heard a whole load about the "sacredness" of the bond contract (that actual word was the one typically used!). But debt isn't sacred, not in modern times anyway.
>The most interesting default in memory remains apartheid South
>Africa, September 1985, don't you think? Brazil, February 1987, was a
>six-month flash. Others between then and Ecuador?
SA was fantastically interesting, and I wish I knew more about it -- know of any good books? I wonder how far the SA experience generalises though -- due to the mineral resources, I would guess (in an enormously ill-educated way) that the austerity program needed to run a capital a/c surplus in SA would be less due to the more advantageous terms of trade. But I may be talking out of my hat.
The most important defaults between Brazil '87 and Ecuador would have had to have been Poland/Hungary/Czech Republic in 1994/5 (I count these as defaults because this was when the debts were finally written down under their Brady deals) and Russia in 1998 (first and only example of the IMF effectively writing off money)
regards
dd
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