Together with the Bank of Mexico and the Bank of Canada, CIGI jointly-sponsored a conference on strengthening the Financial Stability Board (FSB) today in Mexico City. Governors of both central banks along with an impressive group of academics and senior policy makers attended.
In a sense, the subject of the conference is linked to a much broader topic: the governance of global capital markets.
This wasn't an issue in the Bretton Woods era immediately after the Second World War because, at the time, most countries adopted capital controls to deal with the international policy "trilemma" associated with the Bretton Woods system of fixed exchange rates. This reflects the fact that countries could choose to fix exchange rates, allow capital flows, or pursue independent monetary policies, but not all three. The choice of any two determines the third.
Over time, however, capital controls were eroded and became porous, and were eventually removed, as markets found ways to evade them and governments sought the benefits that capital account liberalization provided. As a result, capital flows increased in size, and with the inevitable bouts of optimism, followed by pessimism, financial crises ensued. From the perspective of the "system" (but certainly not for the individual countries subjected to the outflow of capital and subsequent draconian adjustment) these crises were "manageable."
But as demonstrated by the Asian crises, and more recently the global financial crisis, with the remarkable integration of global capital markets achieved over the past 30 years, we are now at a point where financial crises are truly global, posing genuine systemic risks.
Moreover, the risk today is that another crisis even remotely approaching the crisis of 2007-2010 would undermine the consensus on the open, liberal trade and payments system that over the past decades has lifted millions out of extreme poverty and, notwithstanding its shortcomings, is the wellspring of prosperity for millions more.
This is the benchmark against which efforts to strengthen the FSB are to be judged. The global financial crisis has shown that the integration of capital markets has outpaced governance arrangements: we have global capital markets, yet nationally-based regulatory and prudential supervision. The FSB (and the Financial Stability Board before that) was created to fill gaps in governance arrangements.
The international community has to come together around the governance arrangements needed to support and sustain the vision articulated at the Bretton Woods conference. In a sense, this entails completing some unfinished business from Bretton Woods: getting the governance arrangements for global capital right.
The risks of failure have never been greater. It is worth recalling, however, that the IMF was created in the wake of the Great Depression and a decade-long period of global stagnation that contributed to social disruption and political polarization.