Why global markets need to be open to free information flows

Diane Coyle on the most important lesson from Asia's crisis
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The Independent Online
WE LIVE in an economy whose life blood is information. It is one of the things that everybody knows. Everybody, that is, save for one category of players in the world economy - governments. Governments need to wise up to the information age, not in terms of having the right kind of technology policy or enthusing about the internet in speeches, but in the more fundamental sense of recognising that less than full disclosure of information is an economic inefficiency as much as a matter of democracy. This is the deepest lesson of the Asian crisis.

There is a great appetite to draw lessons from Asia, to try to avoid repeats. The responses are tending to fall into two camps. One, the backlash camp, has concluded that globalisation is a Bad Thing, and needs to be tamed and resisted. It has a lunatic fringe but its more sensible proposals include introducing restrictions on inflows of foreign "hot money" by imposing reserve requirements for the first year of an inward investment - the system in Chile.

Another popular idea is a "Tobin Tax", a small tax on foreign-exchange transactions which would, in the words of its inventor, the Nobel laureate James Tobin, throw sand in the wheels of the global markets when they are careering out of control.

The opposite point of view, the Panglossian camp that insists all is for the best in the globalising world economy, reckons the crisis reflects inadequate liberalisation. Its proponents will admit that globalisation causes upheavals and problems about the distribution of gains. Nevertheless, the gains are undeniable. A new report from the OrganisationOECD this week, "Open Markets Matter", from which the chart is taken, spells out the links between free trade, free investment and economic prosperity. The moral drawn by this camp is that, whatever the turmoil caused by the crisis, it is essential to press ahead with more and more deregulation and globalisation. Preventing crises is a matter of liberalising in a more measured way, perhaps, and with better supervision, but it must go ahead with minimal political interference.

Of course, the fact that the initial reactions have divided into two basically opposed camps has set the stage for a series of political rows over what has become known as the international financial architecture. Take the Multilateral Agreement on Investment (MAI), which crumbled at this week's OECD meeting, to the undisguised glee of some campaigners. The long negotiations had shaped this into a sensible set of rules, with some exclusions to defend national interests and the first ever recognition of basic environmental and social standards in a multilateral treaty. But it has been derailed by politicians recognising a domestic backlash against globalisation, even though they will privately admit that a new framework governing investment by multinationals is needed.

As France's minister of commerce put it at this week's OECD meeting, demanding a suspension of the talks: "Globalisation ... has a fundamental human, social and environmental dimension which must be taken into account from the start." It could not be left to the experts and diplomats alone, he argued.

However unfortunate the effects of French stubbornness on the MAI - a treaty which does more than most international financial agreements to recognise such concerns - it indicates that some more considered assessments of the Asian crisis and its lessons for globalisation are starting to filter through. For the backlash camp ignores the huge economic gains that the post-war process of globalisation has delivered, while the Panglossian camp overlooks the justified political concerns about the costs imposed by the way that process is occurring.

A recent paper by Harvard economics professor Dani Rodrik attempts to explain why some developing countries have enjoyed massive gains in per capita living standards while others have not. So, despite the past year's upheavals, Asia has fared well while Latin America has not. He finds the key is not simply the degree of openness to the world economy. Rather, it is how well different countries handle the turbulence that inevitably results from setting sail on the choppy seas of globalisation.

"How well" turns out to depend on institutional factors such as the degree of ethnic division within a country, the extent of military repression, the quality of the civil service and so on. These influences - whose measurement is necessarily a bit rough and ready - explain more of the difference in growth than do conventional measures such as exports as a share of GDP.

Professor Rodrik concludes: "The main message that I take from the kind of evidence presented here is that it is not whether you globalise that matters, it is how you globalise. The world market is a source of disruption and upheaval as much as it is an opportunity for profit and economic growth."

Taking part in globalisation therefore demands a programme of institutional reform, which would include - on top of the IMF recipe of low government budget deficits, an anti-inflation strategy and privatisation - an improvement in the quality of the government apparatus. It would require increased democratisation in place of the typical technocratic approach to economic management in emerging markets. And it would need an improved social safety net so that the damage caused by crises like the present one in Asia do not fall entirely on the very poorest.

One of these themes is taken up by another economist, Rudi Dornbusch at the Massachusetts Institute of Technology (in a paper available from his web site at http://web.mit.edu/rudi/www/). Professor Dornbusch is sympathetic to proposals like a Tobin tax or controls on short-term capital. But he points out that they cannot prevent crises, any more than seat belts prevent car crashes: "A Tobin tax would not have avoided the Asian bankruptcy. Anyone who contemplates a 30 per cent depreciation will happily pay a 0.1 per cent tax."

He adds that high transaction costs in emerging markets add up to the equivalent of a Tobin tax anyway. Rather than emphasising capital controls or other brakes on globalisation, he concludes: "A modern answer to the question of integration with the world capital market is enthusiastically positive."

Capital markets deliver the potential for higher living standards and prevent governments from running bad economic policies - all round good news for savers, investors and workers. The catch with liberalisation as we know it, he argues, is a shortage of information to make it work properly.

For if modern economies rely on information, for the financial markets it is essential. Financial crises all, in some way, result from unexpected bad news. Crisis prevention depends on minimising the unexpected. The real lesson is not that financial systems in emerging markets need to be better supervised or sweetheart deals with cronies brought to an end. It is that maximum disclosure is absolutely key. Professor Dornbusch condemns the IMF and the credit rating agencies for their failure to transmit necessary information to the markets.

His conclusion can be taken one step further. It is not just to the markets that openness and transparency are essential. They are also fundamental to the political credibility of globalisation. People do not trust experts who tell them everything is all for the best when it patently is not. If one result of events in Asia is to help end the technocratic dominance of international finance, this will help ensure that globalisation really does deliver the benefits it promises.

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