World leaders heralded the G20 summit as the day the world "fought back against the recession" as they put on a show of unity that lifted global markets and mapped out a new future for financial regulation. A satisfied, if not elated Obama said, "Today, we have finished a very productive Summit that will be, I believe, a turning point in our pursuit of global economic recovery. By any measure, the London Summit was historic. It was historic because of the size and the scope of the challenges that we face, and because of the timeliness and magnitude of our response."
The Magnitude of the Challenge
According to Obama, "The challenge is clear. The global economy is contracting, Trade is shrinking. Unemployment is rising. The international finance system is nearly frozen. Even these facts can't fully capture the crisis that we are confronting, because behind them is the pain and uncertainty that so many people are facing." He further added, "Today, we have learned the lessons of history. But after weeks of preparation and two days of careful negotiations, we have agreed on a series of unprecedented steps to restore growth and prevent a crisis like this from happening again. To prevent future crises, we agreed to increased transparency and capital protections for financial institutions. We are extending supervision to all systemically important institutions, markets and products, including hedge funds. Ultimately, the challenges of the 21st century cannot be met without collective action."
Battered by the most severe crisis since the Great Depression, there were high hopes that the meeting of the G-20 would provide a significant impetus for reviving the world economy. The ambitious agenda for the Summit included providing the stimulus for the revival of the world economy; coordinated calibration of stimulus measures; avoidance of protectionism by the countries; clamping down on tax havens and reforming the global financial system by introducing stronger regulation and closer supervision.
The Convergence of Views
Happily, there were some wide-ranging convergence of views or shall we say declaration in the Summit including pumping an additional $1.1 trillion into the International Monetary Fund, multi-lateral development banks and international trade finance, agreement to crack down on tax havens, and strengthening regulation and oversight over all financial institutions including hedge funds and credit rating agencies. The meeting also reaffirmed the commitment to the World Trade Organisation (WTO) to support free trade and check protectionism by the members. Let us see how practical are the declaration made at the G-20 Summit at London, including the impact that these declarations could possibly have on the global economy.
How practical are the Declarations?
Soon after the outbreak of recession, several Governments, particularly those in developed countries, announced hefty stimulus packages to revive their national economies through financial help for investments which could uplift the demand. All these stimulus packages aggregated $5 trillion. Considering the magnitude of the problem, additional stimulus to enable international development institutions to spend an additional 1.1 trillion can make only a marginal difference. An overwhelming proportion of this is for providing additional resources of $500 billion and $250 billion by way of SDR to International Monetary Fund. The multi-lateral developments will have an additional $100 billion and a further $250 billion will be provided to support the trade finance.
Will Availability of Funds be Adequate?
While admitting that a substantial increase in resources available to the IMF and other financial institutions is indeed a big achievement, the fact remains that the immediate increase is $250 billion, far less than the headline grabbing $1.1 trillion mentioned in most reports. According to Summit communiqu, IMF's resources could increase up to $500 billion. To that extent, there will be an increased availability of funds in the near-term, which could make a big difference to the countries hard hit by drying up of international capital flows. The multi-lateral developments will have an additional $100 billion and over the medium-term, this accretion in funding would b e supplemented by additional resources of $250 bill for trade finance. Not only, one cannot be too sure as to how much impact these disbursement of funds will make on the economies of the countries which are funded or on aggregate demand in advanced countries, the fact remains that the actual disbursements of these funds will take quite, quite sometime. Much indeed would depend upon the state of the economy, at each individual country. It is not only in terms of adequacy of availability of funds, but also over what period of time the disbursement is affected and gets percolated in the world economy to push it up.
It is better not to hazard a guess on how much the proposed pump-priming by IMF would be successful even with all the resources available with the International Monetary Fund.
Tightening Financial Rules and Strengthening Regulation
One of the gains claimed for G-20 Meeting was agreement on tightening financial rules and strengthening regulation and oversight of the financial sector. Though this decision might have been highlighted now in the context of global recession, it had already received considerable focus in recent times. It is an acknowledged fact that regulation and supervision have always lagged behind-and the complexities in the system and emergence of new financial products have always put regulators on a perpetual learning curve. It will indeed be a difficult task, with most of the Governments failing to tightening financial rules and strengthening regulation and over-sight of the financial sector. The success in this case will not be easy to come by with the result that notwithstanding the high-sounding advices and commitments, the financial sectors in all economies would prove smarter than the regulators, only to revert back to their original conduct.
Ending Banking Secrecy
Another important declaration of the Summit relates to ending banking secrecy relates to ending banking secrecy when the leaders agreed to deploy sanctions and name the countries, which are considered "non-co-operative jurisdictions including tax havens". The OECD has already named some countries like Costa Rica, Malaysia, the Philippines and Uruguay in the black list. In any case, despite the pressure, the financial systems in these and other countries are unlikely to allow much transparency. In case of countries like India, even if they get information about the ill-gotten wealth from tax havens, it is not likely to be of much use because of the influence that the tax evaders exercise on the Government babus. Elsewhere, too this declaration has evoked strong reaction like the Philippines, which claimed that it has one of the worlds strictest banking secrecy laws, while other countries like Luxemberg and Switzerland have questioned the method of preparing the list of "non-co-operative countries".
Though the G-20 Group has reaffirmed its commitment to the WTO's basic premise of free trade, but the scale and intensity the protectionist policies that have gone deep in to the minds and working of most of the economies would make this declaration only a lip service. Only recently, the World Bank had reported that since the financial crisis, almost 17 countries in the Group, were involved in implementing 47 trade-restricting measures including increases in tariffs, erection of non-tariff barriers and enhancing budgetary support in terms of tax concessions and subsidies. It is already well known that the US Government stimulus package has already excluded the outsourcing firms from being eligible for bailouts. Similarly, almost every advanced country in the Group like the UK, Canada, France, Germany, China, Argentina, Brazil and Italy, besides the US, have been found involved in direct or indirect subsidy to their exporters. All these steps go strictly against the letter and spirit of WTO. The latest call of "Buy American" is a further proof of how the participating countries of the Group have gone against the professed adherence to the free trade. The fact that nothing concrete has been decided in the meeting in terms of reversing these measures would only mean that the members of the Group have decided to pay only lip service to the issue.
Setting up Financial Stability Board
Apart from some areas, where lip-service was more pronounced; or even perhaps intended, there have been certain areas where some more positive steps have been taken. Setting up of Financial Stability Board (FSB), as a successor to the Financial Stability Forum was one such action. The FSB is expected to collaborate with International Monetary Fund to provide an early warning of macro-economic and financial risks. It will also take action against non-co-operative jurisdictions, including tax havens, besides extending regulatory oversight and registration of credit rating agencies. The forum would have representatives of each of members of G-20 Group.
Immediate Availability of Funds to IMF
Another encouraging news is his immediate and voluntary commitment of funds to fight back the world recession. It must go to the credit of some of the participating countries that they have announced their contribution to IMF, which has been promised immediate availability of $100 billion by European Union, another $100 billion by Japan and $40 billion by China, which would enrich IMF capacity to take care of the immediate requirement of funds of the developing countries. India has gone about a little consciously and has related its contribution to its share holding. "We do not visualise any need in the near future to go to the IMF" said Indian Prime Minister, adding that India would, instead consider raising its contribution to the fund in proportion to the enhanced quota. This works out roughly to $10-11 billion. India has also made it clear that it does not intend to draw any funds from IMF for any stimulus package.
However, the fact remains that the G-20 Summit in London, billed by some as the "New Bretton Woods", is nowhere near as epoch-making as the 1944 conference that gave the world its present financial architecture, but looking at the much greater complexity of the global economy today, the extent of the crisis, which has truly acquired global dimension without any country whatsoever remaining unaffected and the short period within which this important initiative has culminated in the Summit, G-20 Summit could be considered as its worthy successor.
Impact of Recession on India
The acknowledged recession in the US, the EU, and Japan as also almost all the countries around the globe has indeed has deep impact in more than one way. In India, imports and exports shrank by record levels in February 2009 on continuing weak global demand. Experts say that the trend is likely to continue for a few more months with major world markets like the US, the EU and Japan likely to stay in recession. The data released by Ministry of Commerce shows that exports dipped 21.7% to $11.91 billion in February 2009, which is the sharpest contraction in about two decade and the fifth consecutive month that exports have been in the negative territory. Imports, too, declined by a similar margin to $16.82 billion.
The trade deficit during third quarter (October-December) of 2008-09 narrowed down marginally from about $38 billion to $36 billion; however, the current account deficit widened from a little under $12 billion to over $14.5 billion. The most significant development, though, is the transition of the capital account from positive to negative territory. For the first time in over 10 years, the economy saw a quarter with net capital outflow of $3.2 billion, compared to net inflow of around $8 billion in July-September quarter. The combined effect of twin deficits was to bring down foreign exchange reserves by about $17.9 billion, in contrast of to an accumulation of $4.7 billion in previous quarter and in even sharper contrast to an increase of $26.7 billion in third quarter of 2007-08. If the capital account deficit continues for another few quarters, the drawdown in foreign exchange reserves will begin to erode credibility, which will deter foreign investments. An additional threat also is the prospect of a sovereign ratings downgrade by one or more of the global rating agencies.
According to RBI's weekly statistical supplement, India's forex reserves have fallen by over $50 billion in 2008-09 and as on March 27, forex reserves have touched $252.36 billion.
The Straws in the Wind
According to a recent research study by Federation of Indian Chamber of Commerce & Industry (Ficci), majority of exporters in India anticipate a flat growth or a decline in exports in 2009. Of those, who participated in the survey, 61% said they expect exports to decline or remain at the same level as last year. Some of the sectors expect negative or zero growth in exports during the current fiscal. However, some others like garment exports are expecting to witness a modest recovery in exports in the current fiscal. The overall growth of exports during 2008-09 could be somewhat misleading, as there was an export growth of 46% in the first half of the year.
Quick estimates by Ministry of Commerce reveal that exports fell by 30% in March 2009 to $12 billion. The aggregate export figure for the entire fiscal is, therefore, pegged at $168.59 billion, which is more than a billion dollar short of the lower range of $170-175 billion, which was a watered down version of the original export target of $200 billion. The Government officials expect the contraction in exports to continue in the first half of the current fiscal because of falling global demand and the base effect.
India and G-20 Meeting
Indian Prime Minister made two announcements at London. One , India has no plans to approach the IMF for support. He said, "We do not visualise any need in the near future to go to the IMF." Second, he said India would, instead, consider raising its contribution to the Fund in proportion to the enhanced quota. Thus, India has voluntarily abdicated its rights and privilege of getting IMF funds which has seen strong accretion due to contributions from the EU, Japan and China, among others.
Aside from these two announcements, the Government plans tighter regulation of the financial services sector to eliminate conflicts of interest and unhealthy compensation schemes, to meet the bench-mark planning by G-20. India is a member of the Financial Stability Board set up by G-20 and would be involved in drafting global benchmarks for financial sector regulation. "We would set the global regulatory benchmarks and would also implement them in India, said Ashok Chawla, Secretary, Department of Economic Affairs. In fact, a G-20 statement earlier this month and a report by Reserve Bank of India Deputy Governor Rakesh Mohan had highlighted the need for addressing crucial problems plaguing the financial services sector. Following its pledge at G-20 Summit, India may also have to rewrite its company laws to ensure that pay for senior company executives relate to their performance.
Underscoring the role of countries like India China and Brazil with that of the developed world to tackle the economic crisis, Obama said at the conclusion of the Summit: "We felt that it was very important to strengthen our international financial institutions because developing countries, emerging markets are threatened-even though they may not have been cause of this crisis-they are threatened by capital flight; they are threatened by reduced trade finance, drops in consumer demand in developed countries that were their export markets."
Apart from the two announcements that Manmohan Singh made at London, RBI is likely to come up with the next round of rate cuts as a part of fiscal stimulus, as a fall-out of commitments made by India at G-20 Summit. RBI is slated to announce its monetary policy review on April 21st, when the further rate cuts of interest could be announced. The fall in inflation to 0.8% gives RBI greater room to cut key rates, although bankers expect it to maintain status quo in the near term. ADB had said in its 2009 outlook that India has no scope for another fiscal stimulus, but Planning Commission Deputy Chairman Montek Singh Ahluwalia said recently that the economy might need "some more stimuli". Some more relief in terms of further cuts in the interest rates is in the offing.
What Future Holds Forth for the World?
I would expect that there is a rational chance of the world trade picking up, based on the encouraging reports of the US economy, showing signs of recovery as read by its President Obama and others, with the initial support of $750 billion injection in the US economy, though the actual requirement of funds may work out to be many times more. Similarly other stimulus packages offered by several governments-all totally $5 trillion -, the general demand and world trade in various products is likely to look up, while the developing countries will also be given help through International Monetary Fund and other multi-lateral arms. Once the recession weakens and the demand for goods and services picks up, which is most likely in view of pump priming by financial institutions, the world trade should pick up -and so will Indian exports, which hinge and rest on pall of recession being lifted both in the developed and developing countries.