Sustaining Global Growth and Development

G7 and IMF Governance

Michele Fratianni, Paolo Savona

• Publisher: Routledge
• Year: 2016
• ISBN:
  9781317047520
• Edition: 1
• Topic: Política y relaciones internacionales
• Subtopic: Relaciones internacionales

Sustaining Global Growth and Development focuses on the new challenges for sustaining growth in the twenty-first century and the role of the G7 and IMF in meeting these challenges amidst the new processes of regionalism now emerging. The volume has three central purposes: · to assess how and how well the G7 has addressed its core 2002 agenda of sustaining global growth, reducing poverty in Africa, and combating terrorism and its financing · to examine how the IMF has approached these issues, and related work of the G7 · to explore how the G7, IMF and other international institutions are addressing global growth and development challenges in the context of the new processes of regionalism. Pressures such as currency consolidation in Asia and economic union in Africa are studied. This book builds on previous volumes in the series with a heavy focus on the World Bank, the regional development banks and the many other international institutions that work in the field of development.

Chapter 1
Introduction, Observations, and Conclusions

Michele Fratianni, Paolo Savona, and John J. Kirton

The Challenge of Growth and Development

The central challenge facing the G8 leaders meeting at Kananaskis, Alberta, on 26-27 June 2002 was lifting economic growth in Africa — the one region most left out of the benefits that globalisation can bring. The issue of African development had also been at centre stage at the 2001 Summit in Genoa, but with a lesser focus and ambition. At Kananaskis the invited African leaders in attendance acknowledged, as their New Partnership for Africa’s Development (NEPAD) had emphasised, that African governments must take responsibility for their own development and governance, be accountable for their actions, and link aid to domestic performance. The G8 leaders, in turn, in their G8 Africa Action Plan, promised to raise aid spending and to direct a significant portion of it ‘to African nations that govern justly, invest in their own people and promote economic freedom’ (see Appendix I). According to the plan, aid will be spent to enhance peace, security, governance, trade and investment, debt relief, knowledge, health, agriculture, and water resources. While G8 and African leaders agreed that most of the financing for Africa’s development would flow from the repatriation of Africans’ own savings, foreign direct investment (FDI), trade liberalisation and debt relief, enhanced flows of official development assistance (ODA) from G8 and other donors were critical components as well. Certainly, aid was the centrepiece subject as G8 and African commentators and citizens judged how successful the Kananaskis Summit had been, and how successful NEPAD and the G8 Africa Action Plan were likely to be.

African leaders were pleased by the G8’s reaction at Kananaskis. Yet the African leaders along with others waited for deeds to follow words. However, there also remain more fundamental questions, directed at whether even a fully implemented program will accomplish the ambitious task of actually delivering to Africans the development they deserve. Does ODA actually raise standards of living in the receiving country? Does aid affect the receiving country’s economic growth, and do so in the desired way? Does the form in which aid is given materially affect outcomes in the receiving countries? These are legitimate issues that NEPAD and the G8 Africa Action Plan bring to the foreground, especially as their design for African development is significantly different than the approaches that have usually prevailed and often failed in the past.

Determinants of Economic Growth

To begin this inquiry into more fundamental questions, it is important to ask what the basic determinants of economic growth are (Fratianni and Huang 1995). The following essentials are clear. First, labour productivity is an important determinant of per capita output, which is a measure of economic well-being. In an economy where the ratio of working people to population is constant, changes in per capita output perfectly mirror changes in labour productivity. Second, labour productivity differs markedly among countries, with rich countries having higher labour productivity than poor countries. Third, capital deepening — a higher ratio of physical capital to labour — improves labour productivity, but at rapidly diminishing rates.

Fourth, technological progress plays a much bigger role in the growth process than the accumulation of physical capital does. Such technological progress comes in different forms and shapes. Information and communications technology (ICT) is the latest wave of technological progress. The ICT revolution means that information is processed and delivered more efficiently; that business can manage production and distribution, including inventory, more efficiently; and that processes and products can be redesigned and improved faster than before. Thus ICT not only lowers production and transaction costs, but also speeds innovation. The data, at least for the United States and Canada, are now starting to show the positive effects of ICT, as Chapters 2 and 3 discuss in detail. In the U.S., as Chapter 3 indicates, ICT accounts for 75 percent of the almost one percentage point increase in labour productivity that has taken place from 1973-1995 to 1995-2000. In Canada, the contribution of ICT to labour productivity has been estimated at approximately one third. In both cases it is the use of ICT, more than the growth of the ICT manufacturing sector, that produces the greatest results.

Fifth, productivity growth correlates positively with the stock of human capital. Education and learning by doing are two critical ways to raise human capital. In education, not surprisingly, quality works better than quantity. However, for a given level of quality, more schooling leads to more growth. For some growth theorists, human capital enrichment can potentially propel the economic system from a state of constant returns to the blessed state of increasing returns. The implication is that spending on education and training has high payoffs.

Sixth, more open economies tend to have higher growth than closed economies. One possible mechanism is the effect of competition when borders are relatively open. Another, as Chapter 2 elaborates, is the spillover effect in the development of knowledge across industries and across borders.

Seventh, population growth is a deterrent to economic growth, a result that partially vindicates the seminal work by Thomas Malthus (1798). Population growth is higher in poor countries than in rich countries, although causality between income and population growth may well run in both directions.

The final facts relating to the nexus between growth performance and government policy are particularly important for foreign aid. Government policy matters a great deal for economic growth. There are at least three aspects of government policy relevant here. The first is the basic regime of law, order, and respect for property rights. Political upheaval and revolutions are negatively correlated with economic growth. The fact that peace, order, and good government are essential is not surprising, given the basic intuition that economic transactions must be hindered by chaos and enhanced by a stable rule of law and well-received customs and norms. The second aspect is that government can influence the stability of macroeconomic variables through regime choice. Stable macroeconomic policies foster economic growth. The third aspect is that a government can determine the international trade regime, making it open or closed. As already stated, open economies tend to grow faster than closed economies.

The Link between Aid and Growth

There is full agreement that foreign aid can temporarily raise the consumption level in the receiving country, although this increase may benefit primarily a small elite. The interesting issue is whether aid can permanently raise consumption. The appropriate analogy is between catching a fish for someone and teaching someone how to catch a fish. Those who oppose foreign aid argue, implicitly, that foreign aid is equivalent to giving a fish to a needy person instead of teaching the skill of fishing. Thus, the effectiveness of foreign aid depends on whether the transfer is put to productive use. Unfortunately, money is fungible: a donor country may direct aid to infrastructure projects but it has no control over the behaviour of the receiving country, which opportunistically may divert an equivalent amount of domestic funds from infrastructure projects to less productive uses, but politically more important ones. So, what is the actual relationship between economic growth and foreign aid? How can foreign aid be structured to maximise intended results?

The weakest evidence on the effectiveness of foreign aid comes from cross-country empirical studies that correlate sample averages of per capita output growth with the ratio of aid to gross domestic product. The relationship is negative, suggesting that aid has perverse effects (Dalgaard, Hansen, and Tarp 2002, Figure 1). But other variables, as noted above, do explain economic growth — in particular, government policy. In their careful study, Craig Burnside and David Dollar (2000) test the hypothesis that aid, after allowing for other determinants of growth, is sensitive to the quality of government policy pursued in the receiving country. The quality of government policy rises with a higher budget surplus, a lower rate of inflation, and a more open economy. The conclusion is that

on average aid has little impact on growth, although a robust finding was that aid has had a more positive impact on growth in a good policy environment … We found no signifîcant tendency for total aid or bilateral aid to favor good policy. On the other hand, aid that is managed multilaterally (about one-third of the total) is allocated in favor of good policy. These findings, combined with a separate finding that bilateral aid is strongly positively correlated with government consumption, may help to explain why the impact of foreign aid on growth is not more broadly positive (Burnside and Dollar 2000, 864).

Thus, the case for foreign aid as a catalyst of economic growth is weak unless it is tied to good government policy. Moreover, multilateral organisations are better equipped to direct aid to countries that follow good policies than are individual governments. There is an obvious parallel between aid linked to good policies and the conditionality lending of the International Monetary Fund (IMF). The IMF has a rather poor record on conditionality lending, as Chapter 10 explores.

A key issue here is that the present regime of international trade and finance is not a level playing field (Fratianni, Savona, and Kirton 2002). The industrial countries have captured the bulk of the net benefits of the existing order, leaving an inadequate amount for developing countries. G7/8 summits, as Andreas Freytag points out in Chapter 4, can be interpreted as collusive agreements that give incumbent governments a competitive advantage over their rivals in domestic politics. These governments tend to blame international agreements and co-ordination for unpopular decisions at home. In particular, governments of industrial countries have preferred aid to trade, despite the overwhelming evidence that international trade is the strong engine of growth. The reason is that these governments respond more to pressure from domestic industries than to the legitimate calls of the developing countries. Labour-intensive agricultural products and textiles are protected in the industrial countries. For example, in 2002, the U.S. enacted a very protectionist farm bill, an action that will not inspire the European Union to dismantle its pernicious Common Agricultural Policy, or Japan and Canada to reduce their own costly protectionism. The industrial countries, in particular the U.S. and the EU, are also the most active employers of antidumping measures to restrict imports. It remains to be seen whether the Doha development round, launched by the World Trade Organization (WTO) in the autumn of 2001, will successfully conclude by its scheduled date of 2005 and offset these negative trends (Cohn 2002).

Thus, while the G8’s Africa Action Plan should be saluted, the more sure road to development is through trade and not aid. The developing countries have a legitimate complaint that the degree of globalisation is too narrow, not too broad. The right slogan for future G7/8 summits is more trade, finance, FDI, and aid directed at countries that implement good governance policies. Aid alone cannot substitute for trade and finance. On the other hand, aid is amply justified, as Paolo Savona and Chiara Oldani discuss in Chapter 6, to stem epidemics and lessen the impact of natural disasters.

International Finance and the International Financial Architecture

Currency and banking crises have characterised the current age of global finance: Mexico in 1994, Southeast Asia in 1997, Russia in 1998, Brazil in 1999, and Argentina in 2001; the Argentine crisis sparked, in turn, crises in Uruguay and Brazil in 2002. The reaction of the international community has gone through four different phases. The first was to go beyond the institutionalised procedures and resources of the IMF to contain the costs for those in the developing countries and developed world alike (Kaiser, Kirton, and Daniels 2000). The second was to move aggressively to relieve directly the debt of the poorest countries. The third, undertaken just as the IMF and G7 finance ministers meetings began to attract violent protests in 1999, was to assemble a new international financial architecture that would effectively govern the intensely globalised world of finance and to devise more socially sensitive ways to protect the losers in this process (Fratianni, Salvatore, and Savona 1999; Kirton, Daniels, and Freytag 2001; Savona 2000; Kirton and von Furstenberg 2001). The last, which is being implemented by the new IMF management, is to help countries that follow good economic policies (e.g., Brazil) or are caught in a crisis through no fault of their own (e.g., Uruguay) and deny help to countries that follow poor economic policies (e.g., Argentina). This distinction is oversimplified because politically important countries, such as Turkey, receive help regardless of the quality of their economic policies. In fact, multilateral institutions serve the foreign policy objectives of their critical shareholders, as Chapter 10 details.

The G7 countries signalled their interest in redesigning the international financial architecture at the 1999 Cologne Summit. The adopted strategy was to improve sections of the building and fix the plumbing in preference to redesigning the entire construction. Thus, the G7 leaders called for more transparency in financial transactions, more transparency at the IMF, adoption of financial standards, better macroeconomic policies in emerging markets, improvement in crisis prevention and crisis management, a mix of official bail-outs and private bail-ins when financial crises erupted, and promotion of social policies to protect the poor. It is fair to say that not all of these objectives have been met. There has been progress on transparency, but the system has remained stuck on fixing the problem rather than preventing it. On the other hand, not much has been done to reconcile financial globalisation and monetary policies, in particular the extent to which financial innovation erodes the ability of monetary authorities to control the money stock (Savona 2002).

Currency crises correlate with fixed exchange rate regimes. Fear of floating remains widespread among emerging economies, despite the risk of a crisis. Once a crisis explodes, the primary financial lever is the official bail-out. No significant progress has been made in institutionalising debt restructuring. Moral hazard, on the side of both debtors and creditors, remains the bete noire of official bail-outs.

Other Challenges

In addition to the central focus on African development and ongoing concern with international financial system reform, at Kananaskis the G7/8 confronted the classic challenge of sustaining global growth. At the time of the Kananaskis Summit and afterward, the G8 members, led by Canada and the U.S., were coming out of the worst simultaneous slowdown in a quarter century. Yet the global economy still faces a series of critical economic challenges — stagnation in Japan, slow growth in Europe, high consumer and corporate debt in North America, corporate governance in the U.S., the large U.S. current account deficit, volatile world oil prices, financial collapse in South America, and anxieties about the prospect of deflation. Moreover, if current economic growth is to prove sustainable and be fed by the productivity increases promised by the information technology revolution of the 1990s, current fiscal and monetary stimulus will need to be converted into smart investments and sustained by structural reforms that build a genuine new economy for the twenty-first century. Such domestic changes will need to be reinforced by a new generation of deep reforms to the international financial system. These reforms should anticipate and prevent financial crises, install proper incentives for sound market behaviour, mobilise the expertise and resources of the private sector in this process, ensure high standards of transparency and corporate governance, build ecological and social capital, and give rising economic powers and the values of a rapidly globalising world their proper place.

Sustaining prosperity in the wake of the shock and slowdown of 11 September 2001 is also vital to the conduct of the ongoing war against terrorism, another subject of central concern at Kananaskis and afterward. Sustainable growth is required to show that the confidence of citizens and corporations has not been destroyed and to produce the tax revenues required to finance a long campaign. ‘Smart spending’ is also needed to help ward off any inflation that would present painful choices between security and civilian spending. It can fuel a new generation of technologies to help combat terrorism more efficiently. It can also ensure security while keeping financial systems and borders open in the ways now required by globalised firms, their customers, workers, families, and communities. Reciprocally, wise security investments can foster the innovation that will enhance the productivity of the civilian economy for decades to come.

Finally, producing sustainable growth within the G7 and other developed countries is equally essential to reducing poverty in Africa and the developing world as a whole. Sustained prosperity makes it easier for G7 governments and the international institutions they lead to provide the required increases in effective ODA, debt relief, market access, streamlined conditionality, and appropriate financial support at times of crisis. It will also, much as the earlier Marshall Plan did in Europe — discussed in Chapter 7 — encourage the private sector to undertake the investments required as the leading instrument of the NEPAD.

The Purpose and Approach

This volume focusses on these new challenges for sustaining growth in the twenty-first century, and the role of the G7 and IMF in meeting them at the G7/8 Kananaskis Summit in June 2002 and afterward. It has three central purposes.

The first is to assess how and how well the G7 countries, both as individuals and as an interrelated group, have addressed their ambitious core 2002 agenda of sustaining global growth, reducing poverty in Africa, and combating terrorism and its financing. The second is to explore how the G7, IMF, and other international institutions are addressing global growth and development challenges in the context of the new processes of regionalism, such as pressures for currency consolidation in Asia and economic union in Africa. The third is to examine how the IMF has approached these issues, particularly in relation to the work of the G7.

To address these issues, Sustaining Global Growth and Development combines the contributions of those based in each of the G8’s constituent regions of North Ainerica, Europe, and Japan. The contributors coine froin the disciplines of economics, the international political economy field of political science, and management studies. They are based at leading universities and institutions in all G7 countries: the United States, Japan, Germany, Britain, France, Italy, and Canada; two have particular expertise in English- and French-speaking Africa. Many of the au...