After the Meltdown Danish Institute of International Studies 9 November 2010

Three views of structural changes due to financial crises 1.Collapse of capitalism –Financial crisis represents systemic crisis –Parallel to Great Depression: movement towards command economies

2. Reversal of globalisation –Increasing protectionist pressures in US –Capital flows are unstable and create financial crises –Historical parallels: reversal in 1914 and Great Depression

3. More state, less market –Crisis shows failure of Anglo-Saxon capitalism (or liberal-market variety of capitalism) –State-led capitalism in emerging economies success –State has come to play decisive role in financial sector: Nationalisation of financial institutions, stricter financial regulation and tighter financial supervision

Speech by M. Nicolas Sarkozy, President of the French Republic – 40th World Economic Forum – Davos – Wednesday, Januar 27, 2010: “without intervention of the state, everything would have collapsed” “From the moment we accepted the idea that the market was always right, unconditionally, without reservation and without limits, and that no other opposing factors need to be taken into account, globalisation skidded out of control”

Demise of capitalism? 1.Recent financial crisis not unique resembles financial crises in Nordic countries and in Japan in the 1980s and the 1990s and previous financial historic crises

2.No belief in superiority of command economies after collapse of communism different situation prior to Great Depression when many advocated superiority of command economy (socialists, fascists) 3.Capitalism has brought huge advantages over recent decades prosperity to emerging and developing economies, etc. different situation prior to Great Depression when capitalism was blamed for World War I and hyper-inflation caused big losses for savers in Germany

Reversal of globalisation in product markets? 1.Main argument against: successful perfor- mance of world economy over recent three decades

2. Instrument to reduce unemployment –Households will over prolonged period concentrate on debt reduction, can no longer function as engine for growth –Uncertainty about situation of financial institutions will over prolonged period cause credit restraint –Unemployment may come to play larger political role: Debt burden of households makes unemployment a heavier burden, expectations to governments have risen

–Attempts to stimulate economies through expansive fiscal and monetary policies in 2009 have failed –No support in US for policy of large-scale investment projects –Requilibration of demand at world level: Countries with current account surpluses resist pressures to conduct more expansive economic policies and currency appreciations

3. US political interest in open markets is reduced –After fall of communism, open product markets no longer necessary as means to exercise political pressure on Third World Countries 4.Importance of nationalism has increased (China, India, US, Russia, etc.)

Reversal of globalisation in financial markets? 1.Several emerging economies have introduced restrictions on ingoing capital flows to counter new speculative bubbles 2.Academic support of free capital flows has weakened: Belief in efficiency of financial markets shattered after Asian crisis in and after recent crisis

3.Are capital flows behind financial crises? Ingoing capital flows have increased scale of house price bubbles but not cause of financial crisis Spread of investments and foreign banking reduced adverse effects of financial crisis: foreign banks in Eastern and Central Europe played stabilising role, US mortgage-backed securities held by banks in Europe Alternative policy instrument to counter financial crises: restrictions on lending, (possibly) better governance

4.Trend towards countries reneging on debt obligations? Shut out from capital flows Until now, governments in debtor countries have largely guaranteed loans in domestic financial institutions and have not reneged on government debt obligations. Persuaded by loans from IMF and EU. Pressures from rising government debt and tighter conditions for loans from EU may change this policy Cases: Iceland (ruling by Supreme Court), Hungary, Irish Republic (no government support for junior debtholders in Anglo Irish Bank)

More state intervention? 1.Development in 2010 has been towards moving back state: Emphasis is on reduction of budget deficits: drastic budget cuts in several countries, sovereign debt crises in PIGS countries No strong political reactions against budget cuts: no violent protests, recent failure of industrial action in France Political development shows support of budget cuts: Conservative-Liberal government in UK, Republican victory in mid-term elections in US

2.Does intervention in financial sector mark new trend towards state intervention? Nationalisations occurred more by chance and not as deliberate attempt to increase role of the state Nationalisations also during previous financial crises Nationalised firms probably to be privatised again Tighter rules in financial sector represent ”more of the same”, not change in design

3.Has state intervention been sucessful in state-led capitalist countries? Sovereign wealth funds suffered huge losses during financial crisis State intervention in China used to maintain inefficient industries 4.Belief in superiority of state intervention shattered with failure of communism