Joseph E. Stiglitz, "Globalization and its Discontents" (Book Note)

 

The central premise of Globalization and its Discontents is straightforward: pro-globalization policies can yield substantial benefits if implemented judiciously, with due consideration for the unique characteristics of each country. Countries should embrace globalization on their own terms, accounting for their individual history, culture, and traditions. However, poorly designed or universally applied pro-globalization policies can be detrimental, leading to increased instability, heightened vulnerability to external shocks, reduced growth, and elevated poverty.

 

Stiglitz contends that the problem lies in the hasty and inequitable implementation of globalization. Liberalization policies have been introduced too quickly, in an incorrect sequence, and often based on inadequate or flawed economic analyses. Consequently, he argues, we are now witnessing dire consequences, including rising destitution, social conflict, and widespread frustration. Stiglitz places the blame on the IMF, its "market fundamentalists," the "Washington Consensus," and the US Treasury.

 

According to Stiglitz, in the early 1990s, the IMF, World Bank, and the US Treasury collaborated in what he sees as a kind of global economic reform conspiracy—the infamous "Washington Consensus." However, this perspective oversimplifies the situation and overlooks the evolution of reform thinking over the last two decades. In the 1980s and early 1990s, policymakers in many developing nations were often more progressive than the multilaterals or the Treasury. Countries like Argentina, Chile, and Mexico, for instance, implemented reforms based on a "national consensus" that was more imaginative and far-reaching than what Washington bureaucrats were willing to accept at the time. The IMF initially criticized Chile's social security reform, opposed Argentina's currency board, and was skeptical of Mexico's trade-opening strategy during the mid-1980s. Stiglitz contends that the emphasis on how to undertake economic reform originated from a group of developing countries' economists, particularly from Latin America, rather than from the multilaterals.

 

Stiglitz's critique of globalization focuses on three interconnected policy issues: (1) Ignoring crucial aspects of the sequencing and pace of reform during the 1990s, leading to overly fast and improperly ordered implementations. Stiglitz favors a gradualist approach. (2) The significant mistake of advocating and imposing capital account liberalization. (3) The IMF's response to crises, particularly the East Asian crisis, which he deems a disaster that exacerbated problems. Imposing fiscal austerity and raising interest rates, according to Stiglitz, were detrimental mistakes that cost East Asian countries several points in terms of growth. Consistent with his theoretical writings over the past 35 years, Stiglitz frames his criticism around the insights of the theory of asymmetric information.

Stiglitz argues that a different approach, specifically his own, could have led to significantly better social outcomes. While I found his arguments persuasive at times, there were instances where I questioned the seriousness of his proposals. For instance, I was skeptical when reading his suggestion, on pages 129 and 231, that the 2002 Argentine crisis could have been averted by adopting a more expansive fiscal policy.

 

Stiglitz consistently emphasizes the crucial role of speed and sequencing in implementing economic liberalization successfully. While this principle is undeniably important, it is not novel in policy discussions. Adam Smith, in "The Wealth of Nations," recognized the difficulty of determining the appropriate sequencing, attributing it primarily to political considerations. He advocated for gradualism, much like Stiglitz, based on the belief that abrupt liberalization would lead to a significant increase in unemployment.

 

In the early 1980s, the World Bank extensively explored issues related to sequencing and the speed of reform. A consensus emerged on key principles: gradual trade liberalization supported by substantial foreign aid, efforts to minimize unemployment consequences, early management of fiscal imbalances in high-inflation countries, establishment of modern supervisory and regulatory agencies for financial reform, and liberalization of the capital account at the end of the process.

 

However, during the early 1990s, this consensus on sequencing and speed was challenged, with calls for simultaneous and rapid reforms gaining traction in Washington. Advocates argued that this approach was necessary politically to overcome opposition to liberalization efforts. Stiglitz critiques this "rapid and simultaneous" reform strategy, particularly exemplified by Vaclav Klaus. Yet, his criticism fails to address the political economy concerns that motivated Klaus and other reformers in Central and Eastern Europe at the time.

 

In 1992, responding to perceived US pressure on capital account liberalization, a conference organized by Yung Chul Park highlighted broad support for appropriate sequencing and the risks of premature capital account opening. Participants, including Robert Mundell, recognized negative externalities, such as borrowing for consumption rather than investment, potentially leading to unsustainable debt burdens.

 

Stiglitz's contention that a more deliberate approach could have yielded better outcomes echoes longstanding discussions in economic thought, emphasizing the importance of political, economic, and social context in reform implementation.

At the 1992 Seoul conference on capital liberalization, Manuel Guitian, a senior IMF official, was among the few dissenters favoring a swift move toward capital account convertibility. In contrast to Stiglitz's characterization of IMF leadership, Guitian's stance lacked dogma or arrogance. Guitian's paper, titled "Capital Account Liberalization: Bringing Policy in Line with Reality," documented the IMF's evolving views on sequencing and capital account convertibility. Guitian argued that there was no a priori reason to delay simultaneous opening of current and capital accounts.

 

From 1995, several countries started relaxing capital controls, but they adopted different strategies. Some focused on relaxing bank lending, others permitted only long-term capital movements, and countries like Chile employed market-based mechanisms to control capital inflows. Many countries, however, opened their capital accounts without external pressure. Indonesia and Mexico, for instance, had a longstanding tradition of free capital mobility.

 

While Stiglitz acknowledges the importance of sequencing, he does not delve into the nuanced and challenging issue of how and when to remove capital controls. Recent research suggests that, in certain circumstances, a freer capital account positively affects long-term growth. Transparent mechanisms, like Chile's flexible tax on short-term inflows, are considered effective transitional devices, but even these have associated costs.

 

Stiglitz critiques the IMF's handling of the East Asian crisis, citing major mistakes such as closing banks during a financial panic, bailing out private and foreign creditors, opposing capital controls on outflows, and enforcing tight fiscal policies and high-interest rates. Stiglitz argues that China and India's experiences, along with Malaysia's quick recovery without following IMF advice, support his views. However, these arguments are deemed unpersuasive due to oversimplification and failure to account for multiple factors influencing crisis outcomes.

 

Stiglitz's criticisms regarding the IMF's fiscal and interest rate policies during the East Asian crisis are severe but lack empirical support. He contends that the IMF's insistence on contractionary fiscal policies exacerbated the recession and that mandated interest rate increases led to bankruptcies, deepening the confidence crisis. However, these arguments are challenged as the situation in late 1997 constituted major currency crises, not just severe downturns, necessitating a different policy approach to address declining demand for government securities and domestic money.

 

In the midst of a major currency crisis, the primary imperative is to restore confidence. Recurrent bankruptcies, substantial deficits translated into money printing, and rapidly depreciating exchange rates are all factors that fail to contribute positively to achieving this goal. However, a delicate balance must be struck, as large deficits converted into money printing and allowing the exchange rate to depreciate excessively may not be conducive to re-establishing confidence.

 

Ultimately, the decision revolves around trade-offs, specifically how much to permit the exchange rate to depreciate and to what extent, and for how long, interest rates should be increased. The government's objectives play a crucial role in determining the course of action. If the authorities aim to prevent default and runaway inflation, as is typically the case for East Asian governments, allowing the exchange rate to spiral out of control poses significant risks. In most situations, injecting liquidity when the demand for money is dwindling and issuing government debt when there is a mass sell-off of government securities may not be effective in restoring confidence or preventing an inflationary crisis.