The new international economic disorder

By Mohamed El-Erian
December 21, 2011

By Mohamed El-Erian

The views expressed are his own.


A new economic order is taking shape before our eyes, and it is one that includes accelerated convergence between the old Western powers and the emerging world’s major new players. But the forces driving this convergence have little to do with what generations of economists envisaged when they pointed out the inadequacy of the old order; and these forces’ implications may be equally unsettling.

For decades, many people lamented the extent to which the West dominated the global economic system. From the governance of multilateral organizations to the design of financial services, the global infrastructure was seen as favoring Western interests. While there was much talk of reform, Western countries repeatedly countered serious efforts that would result in meaningful erosion of their entitlements.

On the few occasions that such resistance was seemingly overcome, the outcome was gradual and timid change. Consequently, many emerging-market economies lost confidence in the “pooled insurance” that the global system supposedly put at their disposal, especially at times of great need.

This change in sentiment was catalyzed by the financial crises in Asia, Eastern Europe, and Latin America in the late 1990’s and early 2000’s, and by what many in these regions regarded as the West’s inadequate and poorly designed responses. With their trust in bilateral assistance and multilateral institutions such as the International Monetary Fund shaken, emerging-market economies – led by those in Asia – embarked on a sustained drive toward greater financial self-reliance.

Once they succeeded in overcoming a painful crisis-management phase, many of these countries accumulated previously unthinkable levels of international reserves as precautionary cushions. They extinguished billions in external indebtedness by generating and sustaining large current-account surpluses. And they increased the scale and scope of domestic financial intermediation in order to reduce their vulnerability to external storms.

These developments stood in stark contrast to what was happening in the West. There, unprecedented leverage, massive debt creation, and a seemingly infinite sense of credit entitlement prevailed. Financial excesses become the rule rather than the exception, facilitated by financial innovation and the erosion of lending standards and prudential regulation.

Suddenly, the world turned upside down: “rich” countries were running large deficits and, in some cases, tipping from net creditor status to net indebtedness, while “poor” countries were running surpluses and accumulating large stocks of external assets, including financial claims on Western economies.

Little did these countries know that their divergent paths would end up fueling large global imbalances, and eventually trigger a financial crisis that has shaken the prevailing international economic order to its foundations.

There is no restoring fully that order. Rather than recovering strongly, sluggish Western growth is periodically flirting with recession at a time of high unemployment and multiplying debt concerns, particularly in Europe. In an amazing turn of events, virtually every Western country must now worry about its credit ratings, while quite a few emerging economies continue to climb the ratings ladder. We can now consider the image of Western delegations heading to emerging countries to plead, cap in hand, for financial support, both direct and through the IMF.

At first blush, this unusual convergence between Western and emerging countries seems to reflect what advocates of a new international economic order had in mind. But appearances can be misleading, and, in this case, they are misleading in a significant way.

Advocates envisaged an orderly process in which economic convergence accompanied and facilitated global economic growth. They foresaw a collaborative process guided by enlightened policymaking. But what is occurring is far different and more unpredictable.

Rather than exhibiting enlightened leadership, Western policymakers have consistently lagged realities on the ground, with a bewildering mixture of denial, misdiagnosis, and bickering undermining their responses. Rather than proceeding in an orderly manner, today’s global changes are being driven by the disorderly forces of de-leveraging emanating from a Europe in deep financial crisis and an America seemingly unable to restore sustained high rates of GDP growth and job creation.

Multilateral institutions, particularly the IMF, have responded by pumping an unfathomable amount of financing into Europe. But, instead of reversing the disorderly deleveraging and encouraging new private investments, this official financing has merely shifted liabilities from the private sector to the public sector. Moreover, many emerging-market countries have noted that the policy conditionality attached to the tens of billions of dollars that have been shipped to Europe pales in comparison with what was imposed on them in the 1990’s and early 2000’s.

Fortunately, despite having lagged rather than led this process of consequential (and increasingly disorderly) global change, it is not too late for policymakers to catch up. But doing so requires more than just better national policymaking in Europe and America; it is also time for urgent and deep reform of the multilateral system and its main institutions. That process requires joint leadership by the emerging world as a true equal and partner of Western powers.

Mohamed A. El-Erian is CEO and co-CIO of PIMCO, and author of When Markets Collide.

Copyright: Project Syndicate, 2011.
www.project-syndicate.org

PHOTO: International Monetary Fund’s Managing Director Christine Lagarde (C) smiles with Nigeria’s Finance Minister Ngozi Okonjo-Iweala (R) as they hold a joint news conference in Lagos December 20, 2011. REUTERS/Stephen Jaffe-IMF/Handout

16 comments

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Mr. El-Erian, I believe this is going to work out much harder for the emerging markets as both outsourcing and demand will withdraw. It’s not 2008.

Thanks for an interesting article.

Posted by FBreughel1 | Report as abusive

The under-developed part of the world with growing demographics is clearly where there is smart investment potential.

Posted by matthewslyman | Report as abusive

Is this the same guy who works for a company that witnessed record outflows in the hundreds of millions of dollars because he and his budddy, Bill Gross are busy pontificating about their view of the world?

Posted by NoHopeNoChange | Report as abusive

Nothing wrong with the “Western” system. China smartened up real fast and turned itself in less than 20 years from being a dirt-poor country to possibly the world’s largest and most dynamic capitalist nation in the history of humanity. Time to stop “blaming” the “West” for the self-imposed failure of the Third World. When the Negro and Muslim nations finally smarten up, like China did, mass poverty & hunger will disappear.

Posted by Anthonykovic | Report as abusive

China is not a simple retread capitalist model…it is a new and poorly understood hybrid…a managed economy with a 20 year view….outside of 4 or five years north american capitalism cannot remember the past nor see the future or for instance… build electric build rail transport…you get the picture

Posted by maltadefender | Report as abusive

Just wait for the commodities super cycle to end and things will get upside down again….Capital is a smart animal and will side with willingness to pay…

Posted by hawkjr | Report as abusive

In Europe, “the policy-makers have merely transfered liabilities from the private sector to the public sector.” I.E. – A European Bailout, which European taxpayers end up paying instead of the banks. Boy, this sounds familiar!!!! American banks make trillions of dollars in reckless loans, then pass the tab to the unsuspecting taxpayers. They did it twice in the 1980′s with the Savings and Loans, and then 2002 – 2008 with the sub-prime mortgages and secondary mortgage markets. Wonder why banks are doing so badly? Tisk… Tisk… I think a shed a little crocodile tear… Where is a guillotine when you need one?!!!!

Posted by DanielCrickett | Report as abusive

Since Tony Blair won his first election we have assumed a culture of entitlement. The thriving Eastern economies guaranteed for 15 years low inflation and low prices. With lax credit, we went on a binge. We believed Gordon Brown’s “End of Boom and Bust”. This lulled the UK (other Western countries had similar narratives)into a false sense of security. We had to become more competitive to maintain our living standards. Only in Germany did increased productivity go hand in hand with a refusal to spend or pay the citizens more. A hierarchical corporate dominated culture that has its own historical specificity. For three terms of the Labour government we did nothing. Gordon brown was more interested in securing number 10 than facing unpleasant truths, which might have jeopardised his premiership. It is not true that nobody saw it coming. I did. The trouble was did not want to accept that we have to work harder, more productively to earn a lot less.

Posted by robinson99 | Report as abusive

Mr. El-Erian,
Good article,I find it interesting that from such a defined explination of the facts surrounding the global demise from West to East; we continue to see the conclusion… it’s all going to work out for the western countries. The majority of western civilization debt is equal to or greater than their GDP. More importantly they have NO answers and are not taking steps to change the underling problems.We as Americans need to open our eyes and start to understand where we are headed. our current debt is over 15 trillion and our future liabilities for ONLY Medicare and Social Security exceed 116 trillion. With no answers on the table to even adress these issues we as a Nation continue to spiral out of control.

Posted by tangibleb2b | Report as abusive

ref comment form Anthonykovic

Reuters you really must try and get racist wankers like Anthonykovic away from your site

Posted by DavidSibbald | Report as abusive

A well written article, with a lot to read between the lines.

Posted by American213 | Report as abusive

“For decades, many people lamented the extent to which the West dominated the global economic system. From the governance of multilateral organizations to the design of financial services, the global infrastructure was seen as favoring Western interests. While there was much talk of reform, Western countries repeatedly countered serious efforts that would result in meaningful erosion of their entitlements.”

Well, of course. This “global economic system” was really the aggregation of what various countries (primarily Western) had done to further their own best interests. Similarly, the various “multilateral organizations” were created by various countries (again, primarily Western) to avoid conflict, which basically means to preserve the status quo. That’s what institutions do.

“Advocates envisaged an orderly process in which economic convergence accompanied and facilitated global economic growth. They foresaw a collaborative process guided by enlightened policymaking. But what is occurring is far different and more unpredictable.”

Anyone who thought that was unrealistic. Anytime a complex system (chemical, economic, etc.) changes from one state of equilibrium to another, the transition involves a period volatility and upredictability. The faster the transition happens, the more chaotic it appears. It’s normal.

Posted by Bob9999 | Report as abusive

What would perhaps help would be to look at this problem from the Mercantilists point of view, since all global trade is merely a fine balance between the rising Mercantilists surplus export countries and the Western consumer debt behemoths. What is apparent is that the Debtors of the West, particularly America, are completely intransigent towards any change or a leveling of the trade playing field. For too long, America has led the economic field, not by her export surplus trade like the rest, but by simply exporting dollars in a free-credit-forever economic philosophy that has substituted for any worthwhil trade surplus over the last 30 or so years.

As a result of such, and because of the poignant need for perpetual trade advantage and dominance, America, quite naturally only eer blames the Mercantilist countries for this imbalances problem — while completely ignoring criticism of the insignificant symbiotic involvement of America’s now miniscule manufacturing uncompetitiveness — thereby absolving any necessity for America’s equally gross part in causing these “world imbalances”.

As a result, and for longer than the past 4 years, China and the BRICs and other mercantilist blocks have steadily been slowly eroding away and untangling from their own forced dependencies to buy US Treasuries.

People may well laugh and scoff at this — but only this week, China, India and Japan have all entered into massive currency swap arrangements in order to avoid the the vagaries of the selfish and lazy dollar. This action is very harsh comment on the trade dollar and, of course, represents a deliberate downward accrual purchase-rate of US Treasuries from three of the biggest Mercantilists on the planet. This action will of course affect America’s much needed free credit/debt supply from foreign nations as a much needed surrogate for a proper trade surplus. So if America cannot successfully counter and up this rate of purchase of her Treasuries, then I am afraid that the days of the US Dollar as the untouchable world reserve hegemon are now sadly numbered.

So far, America has been completely unable to bend these foreign exporter upstarts and holders of US Treasuries to her will. Squirm and moan as she might, America cannot rat out on the fact that she has so willingly, wilfully and delibrately accrued so much foreign and internal debt — which has been equally balanced by massive amounts of US Treasuries held in excess by such countries as China — who have accrued all these savings by simple trading, whereas America accrues her own creaky surplus credit by printing…printing…printing.

For some western economists, these notable American economic policies are fair and normal. Trouble is that these Mercantilists, now much stronger, are using all the monetary methods and precedents set by America against her now — so how can America dare to complain?

Posted by slowsmile | Report as abusive

The real sea change in Western countries, especially in the USA, is that Government is coming to be seen as predatory and hostile to its own population. This change is simply dismissed by the power elite but is nonetheless very real.

The days of US Government fleecing of the American people for money to export or for the benefit of their corporate economic partners are over. Since the political system appears to be incapable of adjusting to a reduced supply of victims in the USA, supply and demand will lead to continuing decline in Government revenues and increasingly dangerous social disorder. There is a danger that, since we are following a Third World social policy, that we will get a Third World military coup to slow the deterioration. US representative government is failing and failing badly.

Posted by txgadfly | Report as abusive

And that is why Ron Paul makes the most sense. IN the 80′s 1.5 yuan to 1 dollar. Devalued to 8.5 to 1. Jobs left with the currency change. Today 6.3 to 1. The jobs will return with a sound ” fiatless” currency.

Posted by dr.bob | Report as abusive

One more thought. Read that USA exported more oil than it imported in 2011. Why are we increasing our debt by interfering in Eastern Affairs? You are right, we are broke! In more ways than one.

Posted by dr.bob | Report as abusive