It looks like Raghuram Rajan is living up to his ‘rockstar‘ reputation.
Last week, India’s central banker created quite a stir in central banking circles when he chided central banks of developed countries for not taking into account the ‘spillover’ effects of unconventional monetary policies. Well, I say chided, but if you heard the speech, it felt more like “urged”.
What was the response of Fed/ECB officials? A polite but firm “sorry, but we don’t care” collection of statements. In particular, former Federal Reserve chairman Ben Bernanke (who happened to be in the audience of the event at which Rajan spoke) disputed Rajan’s claims that there was little consideration of the impact of unconventional monetary policies on the rest of the world.
He added that the Fed for instance, met with central bankers of other nations several times a year to communicate Fed monetary policies. But in the end, he too shrugged off the idea that there could be more co-operation on monetary policies between developed and developing nations.
(If you want to read more on the actual comments and controversy, you can read media reports here and here.)
Until now, I have sided with Bernanke and co, and have even argued in an earlier post that the Reserve Bank of India governor is wrong to ask for global monetary co-operation.
My argument then, was that every policymaker , in the end, take decisions that are in the best interests of his/her economy. Every man/woman/country for himself, so to speak.
But now given the building resistance to Rajan’s idea, I find myself asking, is global monetary co-operation really that far-fetched an idea?
My answer: No. It’s not that implausible to imagine global co-ordination in monetary affairs.
In fact, you don’t need to imagine very much. We already have a real-life example of global monetary co-operation in the International Monetary Fund, which was created in 1945.
Brickbats on its workings aside, the Fund was created in 1945, among other goals, to foster global monetary co-operation and ensure financial stability.
As a result of the IMF, today, countries can’t willy-nilly devalue/depreciate their currencies to gain an unfair advantage in global trade. The IMF (and the US) monitors that kind of behaviour, and while the monitoring mechanism is far from ideal, it’s still a form of global agreement on monetary behaviour of countries.
Currency management is, in theory, comes under monetary policy, although few major banks explicitly target currency values (on indeed, have mandates to manage them). The point is, the world is already co-operating to some extent, on this aspect of monetary policy, so why do the US and other central bankers from developed nations think monetary policy co-operation is so unthinkable?
Here’s another example: in 1998, 11 European countries came together to adopt one central bank and common monetary policy to form what we now call the eurozone. Today, it includes 18 countries. Fair enough, the eurozone is standing on some wobbly legs today, but it is a perfectly legitimate example of regional monetary co-operation.
And here’s a third example: on October 8, 2008, at the height of the global credit crisis, central banks of six developed nations decided to cut interest rates simultaneously to stem the fallout of the crisis in financial markets.
So no, Rajan’s plea that developed countries should consider the impact of their monetary policies on emerging markets isn’t that fantastical.
Indeed, in a rapidly globalising environment, few countries can afford to ignore how their neighbours/trading partners feel about unilateral policy actions. Especially because in an interconnected global economy, there is no such thing as unilateral action.
Let’s not forget many companies, including multinationals, headquartered in developed nations have significant investments in emerging economies. Unilever, an Anglo-Dutch company, which is the largest consumer goods company in the world, derives more than 50% of its sales from emerging markets.
Implementing policies that do more harm than good abroad can lead to tit-for-tat retaliation and that only harms everybody in the end.
And to prevent exactly such tit-for-tat retaliations in the global trading arena, the World Trade Organisation was born. Countries that are members of the WTO agree to abide by global rules while trading with each other. Unilateral actions, such as high tariffs to protect domestic industries, can be penalised if those actions are found to significantly (and unfairly) damage another country’s level of exports.
Global agreements are also being sought in the areas of labour standards to taxation and financial results reporting. In general, these regulations aim to bring about a level playing field for all countries.
Not all these efforts will throw up the best results, but at least they are steps towards global financial co-operation.
Similarly, it can’t be that difficult to have some standards/criteria for monetary policies that could, in theory, have a detrimental effect on other nations.
To sum up, I now agree with Rajan. It is possible to consider closer global monetary policy co-ordination.
It’s an idea that is, at the very least, worth studying. That is what Rajan is asking anyway. Time for the US to stop pretending like it doesn’t give a damn. It’s not good enough to simply speak to other central bankers eight times a year, but not change/modify policies as a result.
With increasing globalisation, the external impact of one country’s monetary policies are becoming important enough for other countries to take into account. Rajan may have an idea (of monetary policy co-ordination) that is simply ahead of its time. But its time will come.
The rockstar banker is right.
Wall of Money 