MacroScope

The wavering faith of capitalism’s high priests

November 18, 2010

Yet another guardian of market orthodoxy has uttered what was once an unspeakable heresy.

This week, the European Bank for Reconstruction and Development‘s (EBRD) acknowledged that its old approach of encouraging growth in client economies by reducing the role of the state and fostering private ownership was “simplistic”.

“The problem with this view is that markets cannot function properly unless there are well-run, effective public institutions in place,” the London-based development bank said in its annual transition report.

The EBRD was set up at the end of the Cold War to help former Soviet bloc economies make the transition to free markets so this admission is startling to say the least.

Barely three years ago, the belief that untrammelled free markets were anything but a force of good was unassailable. Other tenets of this creed were that market forces could best allocate resources and that ‘light-touch’ regulation of the financial industry ensured growing prosperity for all.

Then the world economy was pushed to the brink. The proliferation of barely regulated financial derivatives amplified the  spectacular housing bust in the U.S. globally, shaking faith in free markets to the core  so much so that then-U.S. President George W. Bush was prompted to mount an extraordinary defense of capitalism.

But the doctrinal drift has already set in.

The International Monetary Fund (IMF), another of global  capitalism’s august institutions, strayed from the gospel earlier this year when it said capital controls could be useful policy tools for countries seeking to moderate potentially destabilising money flows.

A decade ago, of course, the IMF was vociferous in denouncing Malaysia for adopting capital curbs to cope with the Asian financial crisis, accusing it of backsliding on free-market reforms.

Perhaps the IMF’s change of heart reflects one in Washington, which gave its name to a set of economic prescriptions to entrench the free market.

More likely the ideological shift is a result of the displacement of the G7 in the global order with the G20.

This month, the G20 endorsed “carefully designed macro-prudential measures” that would help emerging economies cope with massive investment inflows.

In other words, capital controls.

Unlike its Western-centric predecessor, the G20 comprises of a larger group of countries with a broader spectrum of economic ideologies. No surprise then that it’s more than ready to abandon free-market fundamentalism.

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