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What worries Joe Stiglitz?

Author’s note: I’m actually steamed at the IMF at the moment over some of the bionically annoying things they’ve been saying about Brazil recently. But rather than get into a whole load of that, I thought I’d repackage the Stiglitz Critique of the IMFfor the peanut gallery. With, as usual, a chunk of saloon-bar language at no extra cost.

Joseph Stiglitz is obviously a hero of D-Squared Digest, because he used his Nobel Prize to do exactly what I would have done in the unlikely event of winning one; to immediately start arguments with everyone who ever pissed him off, in the knowledge that his opponents are on a complete loser because Stiglitz can end the argument at any time by saying “Look, sunshine, there’s only one of us who’s got a Nobel Prize here and it isn’t you”. He also picked a very, very pleasing target in the form of the current IMF, and if the calvalcade of twisted knickers we’ve seen from that institution in response is anything to go by, he struck a raw nerve the size of Lincolnshire.

For those sensible souls who couldn’t be fagged looking up the details but just enjoyed the fight, Stiglitz had a very specific critique of the IMF to begin with (since the original IMF seminar where it all apparently kicked off, he appears to have signed off on the whole bill of goods of the crusty Seattle crowd). The original Stiglitz Critique went as follows:

  1. The IMF are not as damn clever as they think they are (“third-rate students from first-rate universities”)

  2. They don’t know as much economics as they think they do
  3. They’re unsufferably arrogant that they are all that when it comes to economics, which given 1 and 2 above, makes them downright dangerous.

I don’t want to get into the personality issues … well, of course I do, but I don’t know enough of the people concerned to do so. Instead, here’s a central example of the sort of thing that Stiglitz is talking about; the question of “sequencing”.

Basically, the “sequencing” literature revolves round the following idea (this para. cribbed from the excellent Dani Rodrik:

“Imagine landing on a planet that runs on widgets. You are told that international trade in widgets is highly unpredictable and volatile on this planet, for reasons that are poorly understood. A small number of nations have access to imported widgets, while many others are completely shut out even when they impose no apparent obstacles to trade. With some regularity, those countries that have access to widgets get too much of a good thing, and their markets are flooded with imported widgets. This allows them to go on a widget binge, which makes everyone pretty happy for a while. However, such binges are often interrupted by a sudden cutoff in supply, unrelated to any change in circumstances. The turnaround causes the affected economies to experience painful economic adjustments. For reasons equally poorly understood, when one country is hit by a supply cutback in this fashion, many other countries experience similar shocks in quick succession. Some years thereafter, a widget boom starts anew.

Your hosts beg you for guidance: how should they deal with their widget problem? Ponder this question for a while and then ponder under what circumstances your central recommendation would be that all extant controls on international trade in widgets be eliminated.

Substitute �international capital flows� for �widgets� above and the description fits today�s world economy quite well.”

I’d recommend the whole of Rodrik’s paper; it’s an excellent summary of the literature, the basic conclusions of which are

  • that there is no definite relationship, nor even any particularly useful analogy between free trade in goods markets, and liberalised capital markets, and,
  • most importantly, that a country which opens up full capital account convertibility in the context of a weakly capitalised or poorly regulated domestic financial system is asking for trouble.

It’s important to note that these are really quite well-established results of the literature, with good theoretical foundations and decent empirical support. This isn’t some wild heterodox theory; it’s what one ought to learn at a decent graduate school if one studies the area at all. Note also that Rodrik’s paper is dated 1998; it’s not really “bleeding edge” stuff. While you’re noting things, have a good old note at this whacking great collection of references to the sequencing literature, particularly this review article from the IMF’s own economics team, also dated 1998.

So given that the sequencing question is mainstream economic thought, you might have guessed that it would be shaping IMF policy, right? Wrong. Although the IMF’s economists will freely and happily admit, in public, that sequencing matters, I defy anyone to find an instance of an IMF program where a country with liberalised capital markets has been advised to impose restrictions, or even one where a country that has existing capital account controls has not been either required or strongly exhorted to remove them. The IMF knows (somewhat behind the times) that liberalisation of the capital account is something that should happen very late in the development process, but it can’t put this knowledge into action, because to do so would be tantamount to admitting past mistakes, and would “slow down the pace of reform” at a time when reform desperately needs to be slowed down.

That’s institutional arrogance, and the evidence to date is that it’s seemingly incurable. That’s why Stiglitz thinks there’s no saving the IMF, and lots of people, myself included, are beginning to believe him.

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