The Yomiuri Shimbun, 18 January 2009
This is the sixth installment in a series of interviews with leading intellectuals both at home and abroad about the present state of world affairs and potential solutions to challenges that face the world in 2009. The following is excerpted from an interview with Prof. Joseph Stiglitz, 65, winner of the 2001 Nobel Memorial Prize in Economic Sciences.
The Yomiuri Shimbun: What do you see as the primary reason for the global financial crisis?
Joseph Stiglitz: On the fundamental level, the global financial downturn has to do with the U.S. financial downturn. It is the result of excess liquidity and lax regulation in the United States. Macro-mismanagement. It was the explosive mixture. From a global perspective, this can also be viewed as the disorderly unwinding of the global imbalances.
So you can say that the U.S. downturn has been converted to a global downturn for three reasons. First, we exported our toxic mortgages, which caused problems in Europe. Secondly, we exported our deregulatory philosophy, which caused problems all over the world. And thirdly, we have been the source of the global imbalances, the adjustment of which is now causing huge problems around the world.
This is going to last a long time. If it were just a problem in one financial system, you could solve it. But it’s also a macroeconomic problem and a global problem. To solve all three at the same time is very difficult.Do you see these days as a turning point in economic and political philosophy?I think this is a major turning point for economic and political philosophy. There will be more intervention, [so] that even the conservatives turn to government for the bailout.
Clearly, the mainstream economic philosophy is shifting toward Keynesian philosophy. There will be a debate between those who say that basically the system works pretty well, and we just had a few excesses that we have to correct, and those who say no, the system is fundamentally flawed.
Incentives matter, but if private incentives are not aligned with social reward, private rewards are not aligned with social returns, the people using incentives are distorted. And the modern market system has that fundamental flaw, pervasive. For instance, at the core of the market economy is the financial system. It did not manage risk, did not allocate capital well, but the CEOs and the managers walked off with billions of dollars. So they have negative social returns, that we are all having to pay the price for. If that happens, then obviously people don’t have the incentives to do the right things.
What reforms do you think we need for the global financial system?
Clearly we need fundamental reforms of the global financial system. The current system’s failures are highlighted by the fact that, even though the U.S. is the source of the problem, money is coming back to the U.S., because our government can guarantee deposits in a way that a developing country can’t. This is not a market economy, this is a government economy. It’s not a competition among markets, it’s a competition among governments. It’s not what a market economy is supposed to be about.
In fact, it’s been this way for many years, that we forced East Asia to have pro-cyclical policies, we raised interest rates in the [1997-98] East Asia crisis, we cut back expenditures. But now when the U.S. has a problem, it lowers interest rates and increases expenditures. This is either hypocrisy or asymmetry. It’s hurting the poor countries for the benefit of the U.S. and the advanced industrial countries.
The U.S. and the IMF pushed the deregulation philosophy. They inflicted enormous suffering and pain on other countries, not on the basis of economic science, but on the basis of special interests and ideology.
Do you think the IMF Special Drawing Rights (IMF monetary reserve currency system) should be reformed?
As I argued in my book “Making Globalization Work,” we need a reform of the global reserve system. The dollar is not a good storer of value. The instability of the dollar leads to part of the global turmoil. Better-off countries can help manage it, but poor countries suffer. So we need a new global reserve system. But moving from the dollar to a dollar-euro, or even a dollar-euro-yen, would be even more unstable. So you need to go to the SDR, to a global reserve system what we call a “global greenback.” We need to strengthen the multilateral system.
How should we reform Wall Street and the modern financial instruments it has created?
The fundamental problem was the excesses of deregulation. There is a long list of reforms. Transparency is important. But there’s also a problem of complexity. Even if you disclose the documents, nobody can understand them. Opacity was deliberate. But we also know the incentives system was flawed. They encouraged excessive risk-taking, short-sighted behavior, opacity. They did not innovate.
We need a financial products safety commission to make sure that the products they produce are safe, a financial stability commission to make sure that the financial system works in a stable way. We need restrictions and leverage, countercyclical capital adequacy standards, better provisioning, and speed limits.
There’s a comprehensive agenda that we need. Decreasing leverage is one, but the system is rife with conflicts of interest, the ratings agencies failed, partly because of conflicts of interest. Self-regulation was a crazy idea and didn’t work. The regulatory reform has to be very comprehensive and global. We have to stop the secret bank accounts.
What do you think Japan can do to contribute to the recovery of the global financial system?
Where Japan’s contribution can be most important is helping reform the global economy. Japan has offered to give money through the IMF to help the developing countries’ recover. However, the IMF is a fundamentally flawed institution. Before giving the money to the IMF, there should have been a demand for reform. Or, to say, “We can’t give the money to you until you reform.” We need to get money from China, from the Middle East, to have a new credit facility and a new recovery program to help the poor countries have expansionary policies.
You mean another fund such as the IMF?
Yes. During the East Asia crisis, they said we need an Asian monetary fund, so now we needed a global recovery fund with the voice of those who are not being reflected in the IMF.
In the long run, we need to either reform the IMF or to build another institution. But in the short term, we need to have an emergency global credit facility, a recovery facility, that everybody can feel confident contributing money to.
It could be managed partly by the World Bank and the IMF together, but with a different governance, because it may take another 20 years to figure out how to reform.
Regarding economic philosophy, did free market principles cause the huge gap between rich and poor people?
Free market economics never claimed to be socially just. It never said that it would lead to good distribution of income. It always said we are an efficient system, but it will require government intervention to redistribute money. But now we see that the free market is not efficient. So there was always concern about social injustice, but the justification was that it was efficient. Now it’s lost that justification.
How many years will these difficulties go on?
It will depend in part on how strong the actions are that are taken. So far the actions taken by the administration of [U.S. President] George W. Bush have been totally incompetent, totally ineffective. Things have just gotten worse and worse. Obama has indicated that he will take much more forceful action in the right direction. But because of the delay, the downturn will last longer. So we cannot expect the recovery until 2010. But the issue is, when the recovery occurs, whether it will be a robust recovery, or whether we will have an experience like Japan’s, a very weak recovery. It is more likely that we will go into a weak recovery; that it will take many years before we have a strong economy again. But we aren’t sure on how effective we are in addressing some of the global issues, not just the American issues.
Stiglitz is a U.S. economics Nobel laureate and professor at Columbia University who currently chairs a U.N. panel on reforming the global financial system.
Read the Interview at http://www.yomiuri.co.jp/dy/business/20090118dy01.htm