Le blog du CEPII

Towards an international financial public order

Monnaie & Finance Politique économique 
Billet du 9 février 2016
Par Christophe Destais
The shift from the concept of an “international monetary system” to that of “global financial safety nets” is positive but, still, limited mostly to emergency liquidity assistance. The broader notion of an “international financial public order” including crisis prevention would be more suitable.
The idea of an International Monetary System (IMS) is influenced greatly by the prevailing state of the world during the 1944 Bretton Woods Conference and the following 40 years, characterized by the existence of an undisputed hegemon, the US dollar, and stringent restrictions on international capital flows in most countries, with the notable exception of the United States.

During preparations for the Seoul G20 meeting in 2010, the Korean presidency introduced the notion of “Global Financial Safety Nets” (GFSN). This semantic shift conveyed a meaningful message: the transition from the Cartesian idea of a well structured, coherent, and hierarchical “system” focusing on money and exchange rates to a more flexible idea of a network of different layers of domestic, regional, and international schemes aimed at limiting the adverse consequences that result in some instances from financial globalization. The concept of GFSN reflects a pragmatic approach, yet it emphasizes the indispensable coherence among the various safety nets. It is therefore appealing and gradually gaining ground.

In the first documents published by the Koreans during their six-month presidency in 2010, they mentioned as safety nets: Foreign Exchange Reserves, Regional Financial Agreements (RFAs), Central Banks Currency Swaps (CBCSs) and the IMF. CBCSs were later dropped from the list.

This is unfortunate since CBCSs have become a prominent instrument that is used to provide unconditional liquidity assistance in reserve currencies to a discretionary set of partners chosen by the reserve currencies issuers. CBCSs proved to be very efficient at limiting the propagation of a crisis that featured reserve currency shortages in the domestic financial systems of some countries. CBCSs also contribute to shaping the future of international monetary and financial relations as demonstrated by the Chinese swap policy and the October 2013 agreement between the Fed and five other western central banks.

Although some countries and central banks who issue reserve currencies or putative reserve currencies may not like the idea of including CBCSs as an additional layer in GFSN, because they see this as a way to tie their hands, there is a powerful intellectual argument to do so. In my opinion, this should not lead to submitting CBCSs to stringent international regulations but to introducing some transparency and perhaps some general guidelines.

So far, the main purpose of the layers identified as part of the GFSN is to provide some sort of emergency liquidity assistance in reserve currencies through the use of Forex reserves, international financial institutions facilities or central bank swaps. This is coherent with the notion of “safety nets”. It is naturally not the sole purpose and, in the case of most IFIs facilities, comes with other functions such as macroeconomic surveillance or financial sector monitoring in order to prevent the use of such facilities.

However, somewhat paradoxically, crisis prevention is not the center piece of the schemes that are part of the GFSN. One may therefore wonder if the GFSN concept is wide enough in today’s financial world.

I believe that it is possible to go further and to speak of an “international financial public order” (IFPO). The notion of “public order” is more familiar to lawyers and political scientists than it is to economists. I nevertheless find it convenient to qualify what is needed, as far as global financial and monetary stability is concerned.

This concept would entail more explicitly the various crisis prevention schemes that are slowly devised in order to render the use of emergency liquidity assistance less likely and therefore include a larger set of public policies and institutions than those covered by the Koreans in their GFSN concept.

Indeed, prevention is key in international finance as it is in the case of “law and order”. In a financially globalized world, prevention encompasses the concepts, principles, and rules attached to financial regulations and macro-prudential regulations which are aimed at avoiding financial crises and limiting their costs if and when they occur.

One little-disputed conclusion that can be drawn from the happenings in the last eight years is that emergency liquidity providers –aka lenders of last resort– must take into account crisis prevention and risk management. I would agree that how they do this and their ability to do it are still under discussion. However, this must not prevent us from both conceptual and operational reflections on how this could be achieved at the international level.

Since the inception of the crisis, the Bank of International Settlement (BIS) and its many related institutions, most notably the Financial Stability Board, have played an increasingly important role in coordinating, even initiating the design and implementation of new rules which aim at better managing financial risks. Regional endeavors have also taken place.

In my opinion, it is of utmost importance that these crisis prevention and management role be played out and developed in very close coordination with the emergency liquidity providers be they domestic reserve currencies issuers or international financial institutions, such as the IMF.

This post is a shortened and edited version of a presentation given at the T20 International Policy Forum - Global Financial Governance and Innovation - January 27-28, 2016 Shenzhen, China.

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