Less Prosperous and Less Stable Bretton Woods Institutions - Essay Example

Bretton Woods s (Less Prosperous and Less Stable 30 April (word count = 3,534) Introduction The Bretton Woods Conference took place from July 1-22, 1944 in Bretton Woods, New Hampshire to carve out a new international monetary, financial and trade regime after World War II. It was attended by representatives from the 44 Allied nations knowing that a new economic order was necessary to prevent future wars. The view at that time was major world wars were caused by trade frictions; the legacy of Bretton Woods is a liberalised economic and trade system can enhance understanding between nations before disputes escalate to casus belli (justifications for war). Global financial institutions were put up such as the World Bank (WB), International Monetary Fund, General Agreement on Tariffs and Trade and the International Bank for Reconstruction and Development. The ideas behind Bretton Woods were open and free markets to prevent trade blocs. Before World War II, countries competed against each other in an unhealthy manner in economic nationalism. Trade discrimination resulted in few countries getting rich while countries that did not belong to blocs were left out of the bandwagon. This paper will discuss how institutions of the Bretton Woods Conference, namely the World Bank (WB), the International Monetary Fund (IMF) and the successor to the GATT which is the World Trade Organization failed their mandates of improving the international economic order. The present economic order is based on a biased system in which strong nations imposed their preferences on other countries. The number of trade disputes pending at various arbitration bodies are ominously increasing. These arbitration courts are perceived as favouring stronger nations in interpreting WTO rules although all members are bound to abide by the rules. The noble idea that free trade and open markets will raise the living standards of everybody, in the concept of “a rising tide raises all boats,” did not happen. Richer nations deal with weaker neighbouring countries by bilateral trade agreements (BTA) and free trade agreements (FTA) like the North American Free Trade Agreement (NAFTA), the Asia-Pacific Economic Cooperation (APEC) and Asean Free Trade Agreement (AFTA). These agreements practice discrimination by the grant of most-favoured nation status (MFN) to countries in exchange for political or diplomatic considerations. These agreements violate the non-discrimination rule in the WTO charter. Discussion The great Industrial Revolution took place in imperial England 200 years ago. Foremost among these inventions was the steam engine. This propelled many industries such as coal mining and the iron ore and steel industries. A number of factors made England the right environment for which the Industrial Revolution took place. It has a primitive form of capitalism (in lieu of the existing feudal system in much of Europe back then), a melting pot of the greatest minds at that time which discussed novel ideas, the rise of the manufacturing and textile industries and efficient ways of raising relatively-cheap capital at that time (at 5% only versus 20%-30% in Europe). England was the right fertile ground for capitalism. Karl Marx himself believed England favoured the growth of capitalism because it had all the ingredients. Its novelty as an economic system was attractive to many sectors because England had an excess population which needed to be re-deployed from farms. Capitalism provided the saving grace for the government because people can be employed in factories in large urban areas by capitalists. The old feudal system gave way to new ways in the creation of wealth through manufacturing and exports. Capitalism became entrenched with the right combination of political and social changes (Hindess & Hirst, 1975:288). The Industrial Revolution and capitalism are being discussed here to give the reader an overview of today’s global order which is based on the economic system of capitalism. Before capitalism, nations in the world had a different concept of economy and trade. It was based on a “just price” regulated by the traditional political and religious institutions of pre-capitalist societies. There was no market-pricing mechanism in which the price of a good or service is based on supply and demand. It was capitalism that changed the economic structure from being a “moral economy” in which the producers make something on the basis of reciprocity and not on the aim of getting rich at the expense of society. The “invisible hand” of markets through exchanges of goods and services was not yet evident and earlier societies functioned on basis of kinship for a community. According to Karl Polanyi, pre-capitalist societies did not allow such narrow interests to prevail because it leads to ostracism and exclusion (Polanyi, 2001:45). The key principle of capitalist economics which is efficient allocation of resources had not taken hold yet. The economic system of early societies was embedded in the social system and had subordinate functions of the social organization (Deutschmann, 2009:4). In today’s societies, the social structure revolves around the economy which is reverse of previous arrangements. Capitalism freed economic relations from the strictures of social regulations; economics is now the order into which all other social relationships are embedded (ibid.) and this new structure extends beyond individuals and societies to the entire global system among nations. The view of Polanyi was that capitalism was an inevitable historical process that should eventually lead to general welfare and a universal democracy. This idea was a direct contrast to the views of Karl Marx which were more influential but rather also more radical (or anti-liberal). The political and diplomatic order in today’s inter-connected world is based on economics. Financial globalisation can be better understood when it is viewed within context of Polanyi’s thesis in the Great Transformation. The use of trade policy as instrument in crafting diplomatic and foreign policy objectives is becoming more common with the use of MFN and General System of Preferences (GSP) with China as example of threats in withdrawing MFN status for human rights violations and trade embargoes against Cuba or South Africa (Mundo, 1999:25). There are many threats to stability of the global political system. A major source of threats is a feeling of alienation and discrimination in many trade disputes awaiting resolution at the WTO. However, it is not only trade disputes that may undermine the whole global trade and political structure. Other sources of threats are World Bank (WB) and the IMF through their policies which are viewed as crafted by rich nations to control weaker countries through a selective application of harsh conditionalities for granting loans or economic relief in case of trade imbalances. A term commonly used for these conditions is economic structural adjustments which cause more pain to citizens of a recipient country, such as tight credit conditions to control inflation. A true laissez-faire global regime cannot exist from power imbalances (Frieden & Lake, 2000:506). Origins of the Present Disorder – ironically, today’s problems brought about by the globalization process had their origins in the way Bretton Woods was designed to achieve the desired international order at that time and for the foreseeable future. As economic historian and author Fred L. Block pointed out, two main mechanisms by which open markets were supposed to function were inherently defective (Block, 1977:2). The nations which decided on setting up Bretton Woods influenced many decisions of its subsequent global institutions (WB, IMF & WTO). It is inevitable that disputes will arise in the new international economic order. The two main tools used by countries with open markets are changing their levels of domestic economic activity or changing their rates of exchange of currencies (ibid.) which are intertwined with social stability. This dilemma is compounded by the nature of economics which is an inexact science and any economic proposal is controversial. Countries facing trade problems often manipulate their currency exchange rates (an example is China). In the previous paragraph, either of the two tools mentioned can be used by governments to help them improve their balance of payments (increase revenues and/or reduce expenditures) but the choice is between what is worse – the medicine or the illness it aims to treat. The choice falls to either deflation or devaluation; any course of action is bound to be hard and leads to political instability and social chaos. The net effect would also be less open markets which is opposite of what the Bretton Woods agreements had sought for. At any rate, the capitalist class of Western nations would be hardest hit as it would contravene their need for open markets for exports and investment purposes. A study of history and economics will reveal globalization is not a new phenomenon. There was globalization in the previous centuries, specifically the decades before 1914 (the start of World War I) but it was based on the dangerous mix of nationalism and militarism based on imperialism (Frieden, 2007:xiv). Globalization today is now founded on the twin principles of fair and equitable treatment (FET) and non-discrimination in trade but this are more honoured in the breach and repeat the same trade conflicts under a subtle disguise. Opponents of globalization point out inequalities in trade agreements as justification for rejecting this new international economic order but opponents have not offered any viable alternatives. Globalization proponents say that it is the right path to worldwide economic development and eventual prosperity. A way out of this conundrum is to argue for softening the effects of globalization by creating good social safety nets that address the social conflicts and class struggles that can arise out of globalization. Like any international regime, there is leeway for interpretation of rules, principles, norms and procedures. As John G. Ruggie pointed out in his article, international regimes like the WB, IMF and WTO regard what is right or legitimate closest to the realm of political authority (Ruggie, 1982:380). The Western nations dominate these world institutions to the detriment of weaker nations. There is bias in these bodies as they pertain to the principles of FET and non-discrimination. It contributed to the instability of the world economic order. Despite the collegial nature of decision making in the WTO, consensus has not produced the desired results (WTO, 2011:1). The World Trade Organization – the WTO is a collegial body that decides on matters as a committee of the whole. The entire body takes up an issue or complaint by any member country as a sitting body which is a unique but cumbersome organizational set-up. This is designed to address the concerns of weaker and smaller nations about having a voice to make them heard. The structure of the WTO can be considered as ad hoc in nature unlike that of business corporations that has a board of directors or an executive committee with powers delegated to it. The WTO is the ultimate expression of democracy where one country, one vote is the norm. Critics call this as “mass management” which is not designed for efficiency but smaller countries prefer this set up. The WTO is a big improvement over the previous GATT that was pockmarked with incessant trade disputes and multi-lateral conferences that went on seemingly forever (the last round of trade talks lasted a decade). Another big improvement at the WTO compared to the GATT is the adoption of fixed regulations and rules that serve as their de facto constitution. Membership in WTO means acceptance of these rules in arbitration proceedings. The WTO is admittedly a bit unwieldy from its organizational set up but that is partly compensated by the WTO now becoming a rules-based organization. Although international legal jurisprudence is still evolving, the shift to using rules in arbitration disputes gives the WTO legitimacy. However, this is undermined by how trade disputes are decided by arbitration tribunals. The WTO Appellate Body is under criticism for its decisions (Jackson, Davey & Sykes, 2008:8). An example of how contentious trade issues can become is in the interpretation of the terms, conditions and language contained in international investment treaties. At any rate, it is almost always the international investor who gets his rights protected. This finding is borne out by empirical research in which investors won most of the cases they filed against the governments of developing countries. There is a lingering suspicion of bias and unfairness at a systemic level of the WTO despite its claims to promote international trade and commerce through fair and open markets. It has given smaller countries reason to complain amid the growing perception of bias and creates a new threat in international trade relations as shown by lack of results in the latest round of talks held in Doha, Qatar (GATT, 1999:1). There is a disturbing pattern how WTO adjudicates trade cases filed by the member countries against other countries. A study to determine the apparent bias of arbitration bodies showed 90% of the cases filed had been decided in favour of complainants (international investors) while only 10% favoured the defendants (in this context, to mean the governments of weaker countries). A normal view would have shown cases to be decided equally between complainants and defendants but data showed this glaring disparity across all types of cases (Colares, 2009:383). The first globalization that occurred before 1914 showed that finance was the servant of the capitalists and international capital movements flowed freely to where investments can be made for profits (Helleiner, 1993:20) but today, a reverse situation is more the norm. The large and economically-powerful countries used world bodies like the WTO to extend their post-imperialism hegemony in the new world order and retain control of global affairs. The World Bank – this public international financial institution is mandated to take poverty-reduction measures. This is accomplished through grant of loans and other credits for social and economic development with concessional rates of interest. Majority of its lending functions are accomplished by its subsidiary which is International Bank for Reconstruction and Development (IBRD). The loans are also granted to poor countries with long repayment (maturities). This is the process for government-funded projects designed to uplift the well-being of citizens. In private-sector development projects, lending is channelled through the International Finance Corporation (IFC) and a related sister agency which is the Multilateral International Guarantee Agency (MIGA). Unlike the World Trade Organization (WTO), the World Bank is governed by a board of executive directors of 24 members from various countries. Moreover, another crucial difference between the WB and the WTO is the way voting power is held. Membership in the World Bank is done by subscription to shares determined through a quota system as allocated in the International Monetary Fund. In this connection, the presidency and the chairmanship of the board of directors has always been held by a citizen from the world’s economic powers. It has been criticized as a club for the rich since its policies have often been in favour of the rich countries. Two main procedures at the WB have earned the ire of critics. The first is its policy in how concessional loans are granted to poor countries. Although its mandate is poverty alleviation, there were many instances when the WB funded projects which had adverse environmental impacts on the population. Its promotion of long-term economic development is likewise hinged on compliance with a host of conditions that can have severe adverse social implications in the long run. An example is funding for dams that generate electricity but harm the environment. The World Bank had been under severe criticisms in the past but its traditional ways of not responding directly to them have merely perpetuated those criticisms. There is a lot of secrecy at the World Bank and this contributed to a growing perception it is not attuned with changing times (Marshall, 2008:148). Although it is an important global financial institution, it is also one of the least understood. Its activities have come under increasing scrutiny from non-government organizations and advocacy groups which claimed it is doing more harm than good. It became a tool of rich countries with various impositions prior to granting loans and this contributed instead to making the world less stable in this regard. In many cases, it stands accused of ostensibly giving loans but in fact exploiting a country’s natural resources. World Bank officials are fond of extending billions in aid supposedly to help poor countries lift themselves. However, economic data tends to point out the reverse is true. What happened is poor nations develop a mental dependency on aid and soft loans from institutions like the World Bank and fail to implement reforms. The billions given out in loans did not reduce poverty or malnutrition nor increase economic growth rates (Moyo, 2010:5). World Bank officials are aware of criticisms and are trying to find better ways of lending, perhaps on a same paradigm as the Chinese commercial investments in Africa. .The WB policies as currently implemented did not contribute to making the world prosperous but created market distortions. International Monetary Fund – the mandate of the IMF is more country-specific than the World Bank. The IMF is to promote harmonious international relationships in terms of financial and monetary cooperation among countries. It gives technical and policy advice to individual countries to strengthen their economies, such as maintaining a healthy balance of payments (IMF, 2011:1). The IMF also gives out loans (short term) from contributions of members in the fund for temporary liquidity crises such as meeting international payments. The IMF is supposed to monitor economic and trade imbalances early so remedial measures can be implemented. It can do this through rates of currency exchange and the overall balance of payments a country has in its international trade account. However, the recent financial crisis which had spread throughout the global financial system was not detected early. In particular, I am referring to the asset price bubble in the United States domestic housing market. A lot of wealth in global stocks had been wiped (estimated to be $30 trillion). The bursting of the bubble in the housing industry had a very bad knock-on effect on countries whose economies were closely tied to the global finance. In this aspect, it can be safely said that the IMF failed in its mandate to promote global financial stability. In the run-up to the US housing market “price bubble”, it had not raised an alarm as to its possible consequences. Kindleberger had correctly pointed out this bubble and moral hazards when governments give bailouts (Kindleberger, 1995:56). The US housing market (which is a significant sector) had been bubbling for a good number of years prior to collapse yet even the US Federal Reserve did not anticipate it. The US Fed has been a believer of “benign neglect” policy of Alan Greenspan and continues to do so under chairman Bernanke. The real estate market is a significant asset class which doubled house prices in a short period of time (Malkiel, 2010:1) and yet major financial bodies failed to recognize it. The IMF failed to take action to let this asset bubble burst gently which could be due to the US with the largest quota allocation (equivalent to 17% of total IMF votes). The global economy today is a delicate inter-connected system and a market distortion in one country (the US as example) has serious consequences for the rest of the countries plugged into a global economy. Politicians, economists and academicians wondered how such a big asset bubble failed to attract the attention of policy makers for them to have taken appropriate steps to avoid a meltdown or preventing it. Today, the world economy is in tatters with countries suffering from effects of the worst recession since the Great Depression. The IMF former head mentioned about the lack of data to make an early detection of market distortions like housing asset bubbles yet Jacqueline Best had put a straightforward answer with regards to this claim. In her article, Best argued economists are often enamoured with their own theories and often fail to see that the best solutions are simple (Best, 2008:47). In the US housing bubble, there was enough data to go by and yet these were ignored because of euphoria or market mania. The financial crisis spread to some countries in Western Europe such as Italy, Spain, Greece and Ireland; both WB and IMF meetings had tackled these major problems (Xinhua, 2011:1). Conclusion The recession caused savings to be wiped out. People in developed countries feel poorer today because of failures of the IMF and the WB in their mandates. Other European countries mentioned earlier as suffering from economic collapse had citizens feeling less prosperous too. The IMF admitted its shortcomings in dealing with global threats such as soaring food and gas prices (Crutsinger & Dunphy, 2011:1) and yet appears to be constrained to act. If the IMF is to succeed, the US and other big nations must address domestic issues. European countries which sought bailout packages from the European Union and the IMF are now collectively termed as PIIGS (Portugal, Italy, Ireland, Greece and Spain) but the IMF demands more severe budget cuts before giving financial help (Cendrowicz, 2011:1). A default by Spain could trigger a round of bailouts or put the euro at risk (Schuman, 2011:1). The twin institutions of WB and IMF are supposed to embody the liberalism in economic policies to sustain development in poorer regions but it made poor people live precariously with rising food prices putting additional 44 million people into poverty. References Best, J. (2008) “Hollowing Out Keynesian Norms: How the Search for a Technical Fix Undermined the Bretton Woods System” In: J. G. Ruggie, ed. Embedding Global Markets: An Enduring Challenge. Hampshire, UK: Ashgate Publishing. Block, F. L. 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