It is time for the Managing Director of the International Monetary Fund to come from an emerging market country. But that has been said often before. Whining about the injustice of the 65-year duopoly under which the IMF MD comes from Europe and the World Bank President comes from the US won’t change anything. Only if emerging market countries were to unify quickly behind a single strong candidate would they have a shot at the post. They are evidently too fragmented even to make an effort to come together in this way. Thus the job will probably go to a European yet again.

Why should the person come from the South instead of Europe?  After all, the oft-repeated principle that the IMF Managing Director should be chosen on merit rather than nationality need not necessarily mean a departure from the past practice of choosing Europeans. Europe of course has some well-qualified candidates. Christine Lagarde is very impressive and capable (though I would ideally have preferred someone with economics training for this job rather than a lawyer).

But the proposition that the ongoing sovereign debt troubles in Europe’s periphery are a reason to appoint a European is wrong. Ms. Lagarde herself seems to acknowledge this.   If anything, someone without a stake in Europe might be better situated to deal with the Greeks and the others.

The important point is that Europe has by now lost its implicit claim to be the best source of serious sober adults with the experience required to run the world monetary system. There may have been a time when the adult-child metaphor had a kernel of truth. In the 1980s, for example, the Fund was run by highly capable Managing Directors from France, during a period when huge budget deficits and even hyperinflations ran wild in the developing world. But that time is past.

There are three respects in which Europe can no longer claim to be the special seat of wisdom and responsibility. In the first place, many of the emerging market governments have done better jobs running their economies over the last decade than has Europe. I refer in particular to excessive debts that many European countries accumulated during the last expansion, culminating in the mis-managed sovereign debt crisis of the last year or two. In the second place the Europeans now have three strikes in a row in choosing Managing Directors for the IMF: Each of the last three MDs resigned before the end of his term. True, neither of Dominique Strauss-Kahn’s two predecessors left in the sort of scandal that he faces. But both of their resignations revealed that the men in question had not been taking the job seriously enough.  (Incidentally, over the last decade the US has screwed up as badly as Europe: enacting fiscally reckless policies during the last economic expansion and installing an inappropriate president of the World Bank in 2005.)

Thirdly, and most importantly, it so happens that many of the best candidates this time are not from Europe nor from the United States, but rather from emerging markets. So the merit criterion happens to coincide well with the much-recognized but never-honored need to give emerging market countries more weight in the governance of the IMF, in line with their new weight in the world economy.

Indeed, it is remarkable how many excellent candidates there are now from emerging markets. That is not to say that everyone put forward by his or her government is in truth a good prospect. When Turkey’s leaders say they have at least ten good candidates, they illustrate that politicians often don’t know what qualifications are required for the job. (No country has ten good candidates.)

I count ten emerging market individuals who are unusually well-qualified for the post.  Seven of them appear to be live candidates. They come from every part of the globe.
• Agustin Carstens, current governor of Mexico’s central bank, is described as the leading prospect among the group – because his government lost no time nominating him. He indeed would be good.  And has IMF experience, which is desirable whatever the critics say. But even Latin America is not unifying behind him (for example Brazil has not been supportive), let alone other developing countries. He may be perceived as too close to the US by developing countries to get their support – and also by the Americans who might worry that having him as head of the IMF would undermine their claim to the World Bank presidency.
• Arminio Fraga, former governor of Brazil’s central bank, is another good candidate, with extensive experience. But, again, it is not clear that governments even within Latin America are prepared to unify behind someone from the region’s largest country. Perhaps as a general matter any candidate who is identified with a large regional power is more likely to provoke jealousy than solidarity from the neighbors.  Mexico is unlikely to support a candidate from Brazil and vice versa.    India is unlikely to support a candidate from China, and vice versa.
• Tharman Shanmugaratnam is my favorite candidate. He has excelled as Singapore’s Finance Minister and was just promoted to Deputy Prime Minister. In March he was chosen to head the International Monetary and Financial Committee, the panel of ministers that advise the IMF on strategy twice a year. (The incumbent was forced to leave in a hurry, because he had been Egypt’s finance minister.) I can attest to Shanmugaratnam’s intelligence.  He was my student at Harvard in 1988-89. (He caught a number of errors in a draft of my textbook.)  He also has great political skills. I think he is the sort of candidate behind whom emerging market countries might be able to unify; they need not feel threatened by Singapore.
• Sri Mulyani Indrawati is another candidate from Southeast Asia with all the right credentials. She became one of the three Managing Directors of the World Bank last year, after apparently having been forced out as Indonesia’s Finance Minister for doing too good a job. Incidentally, she is young and could be a good candidate next time around too (as could the first three).
• Leszek Balcerowicz (Poland’s former Finance Minister, deputy PM, central bank governor, and Mr. Shock Therapy) is a credible candidate. Poland would be a compromise with respect to nationality, because it is both an EU country and an emerging market.
• Trevor Manuel was a great success as South African Finance Minister, and it would be good to make better use of him than the current government seems to be doing.
• Zhu Min, former Deputy Governor of the People’s Bank of China and currently a high-ranking IMF official, is another obvious candidate.

I can think of at least three others who would also do a great job, but are apparently not as actively in contention.
• Kemal Dervis (Turkey’s former Minister of Economic Affairs) would have been excellent, but he took himself out of the running early.
• I thought they should have picked Stanley Fischer for Managing Director in 2000. A stellar economist and manager, he was Deputy Managing Director of the Fund at the time. It would have been a first step toward accommodating the legitimate desire of developing countries to break the monopoly of Europe-born and US-born officials on the top jobs in the IMF and World Bank, as Fischer was born in Zambia and had the support of a surprising number of African countries. (Disclosure: He was a professor of mine at MIT in the 1970s.) The US was not prepared to oppose Europe in support of his candidacy because in practice it would have meant having to give up the US claim on the World Bank presidency.  But he would have been the best person for the job, and still is.
• Montek Ahluwalia, the last of the ten, is Deputy Chairman of India’s Planning Commission, a position that is far more important than it sounds. But there is a presumption that the candidate should not be over 65, which would let him out if followed (and Fischer).

June 10 is the deadline for nominations. Any of the ten would do a good job. Personally, I would urge emerging market governments to unite behind Shanmugaratnam. More likely, they will remain disunited. And then it will go to Lagarde.

Comments can be posted on the sites of Project Syndicate (which holds the copyright to the op-ed), the East Asia Forum, or SeekingAlpha.

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[Crosstalk debate, "What the Fund?" May 30.]

Korea may have an opportunity to exercise historic leadership, when it chairs the G-20 meeting in Seoul, November 11-12.    This will be the first time that a non-G-7 country has hosted the G-20 since the larger, more inclusive, group supplanted the smaller rich-country group in April of last year as the premier steering committee for the world economy.  With large emerging market and developing countries playing such expanded economic roles, the G-7 had lost legitimacy.  It was high time to make the membership more representative.    But there is also a danger that the G-20 will now prove too unwieldy, in which case decision-making might then revert to the smaller group.

When countries like China and India used to demand a larger voice in world governance based on their large populations, they did not get very far.   Substantive power in multilateral governance is allocated according to the Golden Rule: “He who has the gold rules.”    But after a few decades of miraculous economic growth rates they now have the economic heft.    China is now larger economically than Japan or Germany.   Brazil is also one of the seven largest economies.

Beyond GDP, we have recently seen a historic role reversal, in which debtor-creditor patterns have changed.    Many developing countries, breaking historic patterns, took advantage of the global boom of 2003-2007 to achieve high national saving rates, particularly in the form of strong government budgets, while the advanced countries did not.   As a result, the debt levels of the top 20 rich countries (debt/GDP ratios around 80%) are now twice those of the top 20 emerging markets.   And it is rising rapidly.   A number of emerging market countries now have higher credit ratings than a number of so-called advanced countries.  A stronger fiscal position is one of the reasons that countries like China could afford to undertake large and sustained fiscal stimulus in response to the 2008-09 global recession.   The United States and United Kingdom, by contrast, had wasted the preceding expansion running budget deficits, and hence by 2010 had come to feel heavily constrained by their debts.

It is understandable if Korea views its hosting of the G-20 as another opportunity for marking its arrival on the world stage (as when it hosted the Olympics) or for consolidating its status as an industrialized economy (as when it joined the OECD).  But it should make more of its opportunity than this.  Korea should seize the chance to exercise substantive leadership.   Otherwise, the risk is that its period in the chair could appear like a replay of the chaotic Czech presidency of the EU in the first half of 2009, which confirmed the feelings of some in the larger European countries that it was a mistake to let smaller countries take their turns behind the wheel.

Korea can serve as a bridge between the G-7 and the developing countries.  But chairing a successful meeting will be a challenge, with respect to both meeting management and substantive issues.

With regard to managing the meeting, the challenge comes from the size of the group.   There is always a tradeoff between legitimacy and workability.   The G-7 was small enough to be workable but too small to claim legitimacy.  The United Nations is big enough to claim legitimacy but too big to be workable.  The latest evidence of this was the Conference of Parties of the UN Framework Convention on Climate Change in Copenhagen last December.  The UNFCCC proved a totally ineffectual vehicle, in part because small countries repeatedly blocked progress.    President Obama was able to make more progress by spending a few minutes in a room with a few big emitting countries than the delegates had achieved in two weeks.

The G-20 has enough legitimacy for its purpose — which is more limited than the purposes of formal institutions such as the UN, IMF, and WTO.  It accounts for 85% of the world’s GDP, for example.    But it is too big to be workable as a steering group.  A principle of multilateral talk-shops is that conversation is not possible with more than 10 in the room.  With 20 delegations, each reads prepared statements;  there is no give and take and the communiqué is a watered down least-common-denominator press release.   Not only does the G-20 have more than 10 delegations; it actually has more than 20.

The G-20 needs a smaller informal steering group within the steering group, a G-6 or G-9 within the G-20.   It could meet in the evening before the main G-20 meeting and discuss how to organize the discussion in the larger group.

Who would be in the G-6 or G-9?   It would be unwise to be too specific at this point.  Nevertheless, the US, Japan, and Europe (represented perhaps by the EU Commission), must be there on the rich-country side; China, India, and Brazil must be there on the developing-country side.   Of course the pressure to expand is always irresistible.  Europe could be represented by both the U.K. and euroland.    In Seoul, Korea has to be there as the host. Who would be the 9^th country in the G-9?   It should be the country of which the person reading this blog post is a citizen.

What about the substance of the meetings?   The group will discuss whatever the bigger countries consider it most useful to discuss at the time.    Five possible topics include:

• At long last, giving more seats on the IMF executive board to big emerging market countries, in proportion to their rising economic clout,offset by consolidation of some of Europe’s seats.
• More financial regulatory reform, such as coordination of any small taxes or penalties that members want to apply to risk-taking banks.
• Global current account imbalances. Perhaps there will be a statement agreeing that large current account deficits or surpluses tend to lead to problem (absent some good economic justification), that exchange rates and budget deficits both bear some responsibility for current large imbalances, and that the burden of adjustment should be born by neither one alone, but rather by both.
• Macroeconomic exit strategies. I personally would favor an articulation of the proposition that concrete steps toward long-term fiscal consolidation in each country need not require premature withdrawal of current fiscal stimulus. An example would be to raise the future retirement age or take other steps today to reform public pensions, even while simultaneously enacting some short-term stimulus in the US and UK.
• Moving toward a new agreement on climate change to take the place of the Kyoto Protocol after 2012. Korea is in a good position to lead, as essentially the first post-Kyoto country to accept emission targets.

Don’t judge the outcome of the meeting by what appears in the media.   Press reviews usually pronounce such summits a let-down.   But occasionally such meetings are important, in ways that are often not clear until later.

Consider the London G-20 meeting of April 2009.    It was not obvious at the time that it had been a success in terms of substantive policies.   Observers even compared it to the infamous failed London Economic Summit of 1933, which was a way of saying that the world had not learned the lessons of the Great Depression.    But the 2009 meeting appears far better in hindsight.  Looking back on 2009, fiscal stimulus turned out to be more widespread in 2009 than one might have guessed.    Similarly, global monetary policy was easy, avoiding another big mistake of the 1930s.  The G-20 unexpectedly agreed to triple IMF resources and bring the SDR back from the dead.  Even in the area of trade policy, despite fears of protectionism, the outcome was not bad at all by the standards of past recessions, let alone in comparison with the Smoot-Hawley tariff of 1930.   Overall, policy-makers’ immediate response to the global recession in 2009 did not repeat the mistakes of the early 1930s.

Currently, however, the advanced countries are in danger of repeating the mistake that President Franklin Roosevelt made in 1937, when he cut spending prematurely and sent the US economy back into recession.  Perhaps the G-20 will be a venue in which the big emerging market countries can remind the U.S. and the U.K. of the lesson they once knew but have now forgotten — what it means to run a countercyclical fiscal policy.

[This column was written for Project Syndicate. Comments can be posted there.]

 
The members of the eurozone and the EU have apparently decided that they must heroically rescue Greece, that this is better than having the IMF do it.   Senior figures in Brussels feel that the latter alternative is unthinkable.   I am a little confused about why.   Martin Wolf writes in the Financial Times this week that to bring in the Fund  ”would demonstrate that this is not a true union at all.”    But the EU and EMU and not true fiscal unions.  If the citizens of Germany and other more successful countries were willing to bail out the Greeks, then fine;  the EMU would be ready to be a fiscal union.  But they are not; so it is not.   Given that reality, what is wrong with something that “demonstrates” it?

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The members of the G-20 are meeting in Washington on November 15 to discuss reform of the global financial system.  The first thing to say about the calls for a “new Bretton Woods” is that they overreach, in the sense that it is very unlikely that any changes in the structure of the international monetary or financial system will or should, at this point in history, come out of multilateral discussions that are big enough to merit comparison with the first Bretton Woods. Certainly we are not talking about fixing exchange rates, as the 1944 meeting did.

Detour for an anecdote.  In mid-1998, when the crisis that originated in Southeast Asia had reached its one-year anniversary without abating, President Bill Clinton decided to give two important speeches.   He wanted to call for a new Bretton Woods.   His economic advisers (including both at Treasury and in the White House) advised him against this, on the grounds that one should not call for something as portentous as a new Bretton Woods when one was not likely to have proposals substantive enough to merit the name.   Soon after the (successful) speeches, British PM Tony Blair called for a new Bretton Woods.    Clinton asked his advisers, “How come Blair got to call for a new Bretton Woods when you wouldn’t let me do it?”    Our answer was along the lines, “Blair’s Treasury Secretary, Gordon Brown, doe s not necessarily have his interests aligned with his boss, in the way that Bob Rubin does.   So Brown had less incentive to stop Blair from saying something foolish.”   The big irony of the story is that Brown today is himself leading the move for a “new Bretton Woods.”

Even though the effort is virtually certain to fall short of a true “Bretton Woods 2,” it is worth taking the opportunity to consider what changes – whether more ambitious or less — might be made at the multilateral level to improve the functioning of the system.

Changes in government policy at the national level have already been radical in many countries, compared to anything that would have been imagined a short time ago:
• central banks’ extension of credit to institutions and under terms not contemplated in the past,
• governments’ buying up bad assets and recapitalizing, taking over,, or otherwise transforming troubled banks and financial institutions),
• agencies guaranteeing deposits (without limit) and money market funds, and so on.

Some of these steps can be done at the purely domestic level (US takeover of Fannie Mae and Freddie Mac); others require cooperation between a small number of countries (rescue of Fortis by Benelux countries); but others arguably require multilateral agreement, and thus are candidates for a modest “Bretton Woods.”

•  The International Monetary Fund has been given the task of outlining what a new Bretton Woods would look like – appropriate since the IMF is one of the original Bretton Woods institutions (along with the World Bank).
      o An Early Warning system is almost certain to be high on its list. But it already developed early warning indicators, after the East Asia crisis of 1997-98, and they haven’t been much help.
      o Now that the financial crisis is spreading to small economies like Iceland, transition economies in easternmost Europe, and poor countries like Pakistan, the IMF country rescue programs will get back in the saddle.
           This time around, however, the Fund has more competition (including from the ECB, the Gulf countries, China, and Sovereign Wealth Funds), and partly for that reason will probably demand less conditionality from the borrowing countries.    Also the Fund will have to turn to newly-wealthy countries like China to help finance  new facilities and programs.
              • Bill Rhodes has proposed that the Fund facilitate expansion of currency swap arrangements, to allow emerging markets to have the same access that has been made available to developing countries.
              • Michael Bordo and Harold James have suggested that the Fund could manage reserve assets of the new surplus countries; but it is not clear why the latter should want it to.
          The Contingent Credit Lines (CCL) – which were launched by the IMF with some fanfare in the aftermath of the 1997-98 East Asian crisis but were never attractive enough to attract a single client country — are back now, in the form of  new Short-Term Lending Facility.  The idea has always been that countries that have followed blameless policy (or as far as we can come to that in the real world), as judged by pre-crisis criteria, should be able to borrow large amounts from the Fund very quickly when faced with global contagion, without the usual conditionality.    Brazil and Korea look like two countries that had done most things right in recent years (flexible exchange rates, high level of reserves…) and have nevertheless since September seen international investors disappear.    The IMF has responded appropriately, with CCL-type loans that are multiples of country quotas.  
          Only a small number of countries qualify for having followed “blameless policy.”  Morris Goldstein suggests that the larger class of countries that have now been hit by forces beyond their control — the US-originating financial crisis — be helped by a revival of a long-ago IMF loan window, the Compensatory Financing Facility.
• The problem is that the money that the IMF is now able to offer is not only small relative to global capital markets (the IMF has long been used to that circumstance), but also small relative to the countries’ own reserves or to the no-condition funds that the Federal Reserve has now offered them through swap lines.   To expand such facilities, the IMF needs more funding.  Where will it come from?  Sovereign Wealth Funds and central banks in East Asia and Gulf countries.   But that in turn requires giving these countries much greater political representation than they currently have in the Fund.
              o There has been a loose one-year campaign to suggest guidelines for the operations of Sovereign Wealth Funds themselves, to “regulate” them.  But benefits of the SWFs may be more widely appreciated now than a year ago, in the context of the current crisis.   
              o The IMF, just as all the multilateral economic institutions, has moved far too slowly to give added representation to the newly important developing countries such as China, Brazil, Korea, India and Mexico – representation at least in proportion to their economic role, to say nothing of population.
                  A big part of the problem is that larger quotas and voting shares for these countries would have to come to a substantial extent out of Europe’s share.
                  In a fair world, Europe would also give up its stranglehold on the Managing Directorship (especially after the performance of the recent incumbents, who have appeared less interested in their jobs than in domestic politics back in their home countries or in putting new meaning into the phrase “foreign affairs”).  The same goes for the U.S with respect to the World Bank presidency.

•  The G-8 has been increasingly handicapped in recent years by virtue of its obsolete membership.
      o The G-7 still retains some relevance, in its role as self-appointed steering committee for world governance. After all, this financial crisis did not start in the developing countries, as it did those of 1982, 1997 and 2001.
     o But the G-7 cannot discuss the spread of the crisis to developing countries without Korea, Brazil, Turkey, India and Mexico at the table.  It cannot discuss central topics such as global current account imbalances, or the need for exchange rate adjustments, or coordinated global fiscal expansion, or requests that surplus countries fund rescue programs,  without China and Saudi Arabia at the table.     Thus it is appropriate that the G-20 is the group that has been invited to to the November 15 summit in Washington to discuss the new Bretton Woods.   
     o  Coordinated fiscal expansion is the most likely substantive macroeconomic policy outcome of the G-20 meeting.
      
• A probable substantive structural outcome from talk of the need for a bold new multilateral initiative is that there could be a “Basel III” to replace the “Basel II” agreement.
      o It would make capital requirements on banks countercyclical, rather than what has turned out to be procyclical, i.e., destabilizing, under Basel II. (Ironically economists at the BIS in Basel probably deserve credit for being the observers, in addition to Charles Goodhart, who most accurately warned of the procyclicality before the crisis.)
      o A Basel III could also replace the option of self-regulation of banks (under which they could choose their own Value At Risk models) with external regulation.    Dan Tarullo, who could have a  major role on the Obama team, offers some ideas .
      o The highly capable chairman of the Financial Stabilty Forum, Mario Draghi, assures us that already this year substantial progress has been made in such important areas as reducing conflict of interest on the part of credit-rating agencies.
      o International guidelines for guaranteeing deposits (possibly reinstating a ceiling, such as $100,000, after the crisis has passed) should perhaps be coordinated, to avoid flight of the sort that Ireland’s European partners experienced.

• Other possibilities:
      o A more ambitious reform would be to try to agree on guidelines to extend prudential regulation from international banks to non-bank financial institutions, since the latter were such a serious part of the problem in 2008 that many either failed or were bailed out, against all expectations.
      o More radically, regulation of this sort not just agreed multilaterally but carried out multilaterally, rather than at the national level, by the BIS (which now includes major emerging market countries) or a new agency.
      o The IMF, Financial Stability Forum, and other institutions will vie to lead the effort.
      o Other proposals, many of which could be attempted at the national level, but would optimally be coordinated internationally:
           A securities transactions tax, harmonized internationally, to raise revenue in a way that satisfies the public’s understandable feeling that the financial sector, which created this financial crisis, should not benefit from the solution.
           Executive compensation reform (especially in the financial sector).   Options-based bonuses have not been implemented in the incentive-compatible way that the corporate finance theorists anticipate  d, and have instead encouraged inordinate risk-taking.  One possible solution is to discourage compensation by options, in favor of restricted stock.    Another is to regulate corporate governance so as to insure that the CEO’s buddies don’t comprise the committee that determines his or her compensation.
         Regulation of the “originate to distribute” model of mortgage lending. Mortgage-Backed Securities were a useful innovation, but were carried too far.  The banks or mortgage brokers that originate a mortgage loan should be required to reattain a certain slice of each one (some have suggested 1/5), before selling the rest on, so that they have an incentive to monitor the creditworthiness of the borrower.  
           Regulation of Collateralized Debt Obligations.   Perhaps it is enough to raise capital requirement on the holders.  Perhaps something more drastic is required. 
           Regulation of certain derivatives, particularly Credit Default Swaps.  Perhaps it would be enough to standardize CDSs and set up a central clearing house, as many observers have suggested.
           But there is a danger that derivatives regulation could do more harm than good, e.g., a ban on futures markets or short-selling.
  o At the other end of the spectrum, one should consider the possibility that doing nothing might in the end be better than undertaking fundamental reforms in the international financial system, if the latter were driven by clumsy politics.

[To anyone wishing to post a comment:  I recommend you go to the RGE version of this post.]