Updated: Mar 4
Jae Hyung CHOI
The 2008-2009 Global Financial Crisis (GFC) was a major blow to the liberal international economic order. It unveiled the vulnerabilities of the international financial system. The liberal order came under severe criticism. However, under the US leadership, G20 leaders managed to devise a successful global governance response and overcame the crisis. Now, we are facing a second blow. The economic crisis created by the global Covid-19 pandemic is likely to be bigger and worse than the previous one. Many problems were lurking behind the ostensible success of the global economy measured by rising stock prices.
The underlying political-economic conditions that enabled leaders to come up with a robust solution to the GFC have now changed for the worse. The US is no longer willing to take the leadership role, and the global debt level exceeded the level we faced during the GFC. While the full extent of global governance response is yet to be known, and although we have seen some early positive reactions to the crisis, I argue that global governance response to the current crisis has been insufficient and is likely to remain inadequate.
The liberal international economic order
The liberal international economic order that the US and its Western allies purposely designed to prevent military conflict and economic nationalism was put in place by the Bretton Woods agreement in 1944 (Ikenberry 2018). Although the US had to make some major adjustments, such as abandoning gold backing of the dollar, the global liberal order has continuously adjusted itself to numerous challenges and managed to flourish after the Cold War. Albeit with some ups and downs, the net effect of global liberal order until the early 2000s has been positive. The tariff rate went down to the record low level, and subsequently, trade volume increased constantly.
However, as trade volume grew and our economies became more interdependent, underlying problems of globalization came up to surface. The level of inequality between rich and poor has risen, and the foreign workers became an easy scapegoat to blame. This has brought about the rise of nationalism and the subsequent rise of populist governments with anti-multilateralism and protectionist agenda. To make matters worse, the liberal economic order paved the way for the rise of China and the following US-China rivalry. The US became less tolerant to China and has taken measures that go against the principle of liberal economic order it created. Such problems of the liberal economic order are now making effective global governance response to economic crisis difficult.
2008-2009 Global Financial Crisis
The 2008-2009 Global Financial Crisis began in 2007 with a downturn of the subprime mortgage market. The financial uncertainty that the real estate market created spread into the banking sector. The massive financial sector shock generated from the bankruptcy of Lehman Brothers, coupled with significant losses that individual households suffered, contracted economic activity. What started as a financial sector crisis resulted in a global economic downturn. The Great Recession caused the largest contraction in international trade throughout history. GDPs of many Western countries contracted, and millions lost their job.
The economic crisis created by Covid-19 pandemic
Unlike the Global Financial Crisis, the locus of the current economic crisis lies outside the financial sector. It is caused by an exogenous shock to the real economy from the public-health crisis. To contain the spread of the virus, desperate measures were imposed by governments around the world. Lockdowns, movement restrictions, closing down of shops, restaurants, and factories are now producing huge shocks to the global economy.
We are already observing some devastating consequences of such measures. Unlike the trade collapse of the global financial crisis, the current crisis is driven both by demand and a supply shock. Since the beginning of the crisis, more than 26milion US citizens have lost their jobs, and many expect international trade to contract sharply. WTO Director-General Azevêdo expects the volume of global merchandise trade to fall by 13% compared to 2019 (WTO 2020). The current crisis is taking a toll on the service sector as well. According to one report from Deloitte, purchasing managers’ indices (PMIs) that indicate the direction of economic trends in the manufacturing and services sectors have sharply declined (Deloitte Insights 2020) In the Eurozone area and the US, PMIs for both manufacturing and services are at its record low (ibid.).
According to Baldwin, “the trade crisis, in domino fashion, is likely to tip emerging markets into further crises” (VOX 2020). Significant loss of dollar export earnings is highly likely to trigger sovereign debt crises in vulnerable economies (ibid.). This would, in turn, bring problems for creditors. The aggravating underlying economic conditions before the crisis makes this scenario more likely. The volume of the global debt was at an all-time high level by the end of 2019 (World Bank 2019). Plus, the price war in the oil sector is adding burdens to the already heavily indebted energy sector (Smith 2020). If price war among oil-producing countries persist, and global trade does not recover soon enough, “we could face a ruinous cycle of debt-deflation that will jeopardize the world’s huge pile of corporate debt” (Tooze 2020).
Global economic governance and evaluation criteria
Drezner defines global economic governance as “a set of formal and informal rules that regulate the global economy and the collection of authority relationships that promulgate, coordinate, monitor, or enforce said rules” (Drezner 2013). According to him, the purpose of global economic governance is “to provide public goods—most importantly, keeping barriers to cross-border exchange low” (ibid.). The global economic institutions, namely, the United Nations, the G20, and the Bretton Woods institutions like the International Monetary Fund and World Bank, and the World Trade Organization, carry out the job.
When one argues that global governance is effective or not, it is all too easy to rebut the argument with stylized counter facts. Therefore, when evaluating the response of global governance, we need to be prudent and try to come up with a comprehensive assessment. In this regard, Thompson provides a useful framework that helps assess three different aspects of global economic governance performance (Gutner et al. 2010): First ‘Governance Processes’ examines whether governance structures demonstrated improved policy processes. Second, ‘Policy Outputs’ examines if the policies implemented by the global economic governance are significant and useful. It also investigates whether such policies could have been implemented without a global governance structure. Third, ‘Economic Outcomes’ examines how global trade and capital flows changed after global governance intervention. Since the full extent of the economic outcome of the global governance response to the current crisis is not yet known, this paper will primarily focus on the governance processes and policy outputs.
Global ‘governance processes’ evaluation and comparison
The global governance response to the global financial crisis was robust, the most prominent example of which is the response of G20. Under the US leadership, G20 quickly supplanted G7 and became the focal point of global economic governance (Drezner 2013). This change correctly reflected and considered the growing economic prominence of emerging economies. G20 at that time represented “85 percent of global economic output, 80 percent of global trade, and 66 percent of the global population, which made it a far more legitimate and representative body” (ibid.). As Geoffrey famously puts it, “The G20 is globally representative yet small enough to make consensual decision-making feasible” (ibid.). By adjusting the global governance process and with policies that followed, leaders were able to restore consumer and business confidence.
The joint action among G20 countries would not have been possible if the US and China did not share the sense of crisis. One anecdote from Drezner’s article demonstrates a cooperative relationship between the US and China. Only a few days after President Obama sent a letter to G20 colleagues stressing the importance of market-determined exchange rates, the chinse government reciprocated by enhancing exchange rate flexibility.16 The nominal value of the renminbi appreciated for the next two years (ibid.).
Unfortunately, the US leadership and a cooperative relationship between the US and China are largely absent in the current crisis. Instead, it is replaced by the US president Trump’s indiscriminate hatred toward multilateral institutions and the US-China rivalry. The US essentially gave up America’s leadership role in global economic governance. As Rudd pointed out, “It took France, not America, to convene a G7 summit. It took Saudi Arabia, not America, to summon the G20. Neither produced a co-ordinated, global economic-stimulus strategy” (The Economist 2020).
To make matters worse, the US and China are wasting their valuable time and energy in the moment of crisis on blaming each other. The US has been blaming China for mishandling the virus, and China also blamed the US military for purposely spreading the virus in Wuhan (Spetalnick 2020). During G7 foreign ministers meeting, efforts to release a joint communique, addressing the political and security dimension of the pandemic, collapsed over the issue of naming the virus (Hudson and Mekhennet 2020). The US insisted the virus should be referred to as the ‘Wuhan virus’ to blame China for its global spread (ibid.). The US’s unnecessary and unproductive provocation resulted in each nation writing its own communique.
‘Policy output’ evaluation and comparison
In the 2020 G20 joint statement, G20 member countries pledged to “do whatever it takes” to minimize adverse economic consequences from the pandemic (G20 Leader Statements 2020). Although the language used to emphasize their determination is both reassuring and appropriate in the time of crisis, the document was devoid of concrete commitments. In contrast, the G20 member states in 2008 provided more specific measures to safeguard the liberal international economy. Baring in mind the fact that the crisis is still ongoing and that it may push states to do more, this paper will now compare policy outputs of global economic governance response to the global financial crisis and the Covid-19 pandemic crisis.
The most significant difference comes from the G20’s commitment to free trade. The G20 nations’ limited resort to protectionism during GFC helped avoid falling into the vicious circle of beggar-thy-neighbor trade policies. Facing great financial uncertainties, George W. Bush administration, together with leaders of G20, made an important pledge: “We underscore the critical importance of rejecting protectionism and not turning inward in times of financial uncertainty. In this regard, within the next 12 months, we will refrain from raising new barriers to investment or to trade in goods and services, imposing new export restrictions, or implementing World Trade Organization (WTO) inconsistent measures to stimulate exports” (Bown 2020). Throughout the global financial crisis, G20 countries refrained from using protectionist trade policy to protect their economies. Instead, G20 leaders relied on multilateral institutions. Drezner argues that “the WTO’s dispute-settlement mechanism helped to contain the spread of protectionist measures that the Great Recession triggered” and that “the Great Recession of 2009 does not coincide with any obvious increase in protectionism” (Drezner 2013).
The Covid-19 pandemic, however, broke apart the solidarity we observed during GFC. In the face of medical supply shortages, many countries around the world have turned inward. The US halted its exports of masks and allegedly hijacked masks that were destined for Europe (Okello 2020). The European Union likewise banned the exports of medical supplies for the same reason. Even within Europe, trade barriers were erected quickly. Exports of vital hospital equipment outside national borders were banned. These beggar-thy-neighbor policies are highly likely to make the virus’s toll even worse.
Temporary medical equipment export bans will be eased once more countries overcome pandemic. However, protectionist sentiment may linger much longer. Brown believes that the asynchronous timing of the pandemic could spark protectionism (Brown 2020). Countries like China, which recovered faster than Europe, will soon fill the European ports with its subsidized products while European factories are not yet fully operational (ibid.). It is especially more likely to happen when the trade war between the US and China is still ongoing. Soon, European governments will face pressure from domestic industries to protect them from unfair trade (ibid.). Companies seeking relief from imports will ask for more tariff barriers, and governments outside Europe will come under similar pressure.
To make matters worse, current WTO rules allow states to exchange retaliatory anti-subsidy tariffs easily. Brown argues that “The WTO’s conditions for levying tariffs are pretty accommodating. The industry needs to show that it has been injured”, which is not difficult to prove in the moment of severe economic crisis (ibid.). He adds that subsidies and tariffs to support the domestic industry may ignite a ‘countervailing duty’ that is designed to discourage unfair state intervention in markets (ibid.). When WTO rules are making such protectionist measures more likely, and when tariffs will prolong and deepen the recession, there is no explicit political commitment to avoid protectionism. G20, in March 2020, failed to address the problem of protectionist pressure adequately.
Given the Trump administration’s position on China and WTO, it is unlikely that G20 will come up with a moratorium on protectionist measures soon. The US commitment to free trade was already eroding since Trump launched a tariff war against China. Trump often used tariffs as a policy tool to coerce other nations, and his disregard for WTO rules are well known. Although a temporary truce was reached with China, Trump will soon launch another attack. In 2020, the year of the US presidential election, Trump badly needs a scapegoat to blame for the mass unemployment and economic downturn. His next step is likely to be more tariff and protectionism. On 29 April, he again blamed China for trying to make him lose the race using the virus (Holland 2020). Moreover, on the following day, he threatened China with new tariffs as one of the retaliatory measures he can take over the outbreak (Mason 2020).
Macroeconomic policy coordination
On a positive note, we observe some policy measures implemented during GFC being repeated in the current crisis. One crucial policy output is macroeconomic policy coordination. During the G20 Toronto summit, leaders of G20 agreed to implement “aggressive and expansionary fiscal and monetary policies” (Drezner 2013). By 2008, G20 countries demonstrated a coordinated interest rate cuts that were unprecedented. As a result, global real interest rates fell by 3 percent on average (ibid.). During the current crisis, most of the G20 countries are playing by the same playbook. In a short period of time, many states introduced aggressive monetary and fiscal policy. Interest rates have gone down, and the total fiscal policy spending of G20 countries mount to 5 trillion dollars, which is equivalent to 7.4% of G20 countries’ GDP (CSIS 2020).
Another important policy output is the ‘currency swap.’ In the time of crisis, investors seek liquidity and safety of dollar-based assets; subsequently, the demand for dollar spikes around the world. During the global financial crisis, unlimited currency swap lines were established among G7 plus Switzerland to solve this dollar shortage problem (Drezner 2013). The US then extended the currency swap to other major economies. During the current crisis, on 19 March, the US Federal Reserve established temporary swap lines with an expanded list of central banks (CSIS 2020). The coverage of US Fed swaps in 2020 is equal to that of 2007.
International Monetary Fund and the World Bank
While Fed’s swap lines are critical to financial market stabilization, more has to be done as the swap lines do not cover many emerging economies. International Monetary Fund (IMF) and the World Bank can fill in the gap by providing emergency financing. In 2009 the G20 agreed to triple the IMF’s reserves to $750 billion. Compared to the previous crisis, The IMF’s response to the Great Recession “was larger in magnitude, was more rapid, and carried fewer conditions” (Drezner 2013). For the current economic crisis, more than half of the world has asked for IMF financial assistance (Pham 2020). As a result, funds available to the IMF suddenly became insufficient, and the IMF is “urgently seeking US$18 billion in new loan resources for the Poverty Reduction and Growth Trust” (Georgieva 2020). In response to IMF and WB’s request, G20 governments recently agreed to suspend bilateral government loan repayments from the world’s low-income countries until the end of 2020 (Barbuscia 2020). If G20 leaders this year could significantly increase IMF’s reserve as they did for the Global Financial Crisis is yet to be seen.
Explaining the differences
Then what explains the differences in global governance response? Why has global economic governance worked better during GFC than the Covid-19 pandemic crisis? The lack of US leadership is one major reason. As repeatedly mentioned above, the US effectively gave up the role of a defender of liberal international economic order. The combination of factors such as the rise of populism, nationalistic protectionism, and relative decline of the US power partly explain this phenomenon.
The highest cost of the global financial crisis was political, not economic. Although G20 leaders did an impressive job in preventing further aggravation of global liberal economic order, the elites, who created GFC such as bankers, regulators, and politicians, largely shrugged off their responsibility (Stephens 2018). The economic crisis has disproportionately affected lower-middle-class, and scars remained deep. Trust in the political system eroded, and people were blaming the rich and elites for the crisis they created. This has opened a door for “political entrepreneurs who try to set the people against the ruling class” (Funke 2018). In the time of economic crisis, people turn to right-wing politicians for the stability and order that they promise to provide. However, when Trump’s response failed to provide economic stability and order, he provided easy scapegoats for people to attribute blame for their sufferings. According to Funke, “Right-wing populists are much more willing to … blame economic problems on foreigners and those who supposedly put the interests of a global elite above those of their fellow citizens” (ibid.). His beggar-thy-neighbor nationalistic policies “blamed China for the virus and closed off the US to migrants, and his base cheered” (Velasco 2019). Such a response has taken an enormous toll on much needed global economic cooperation between the US and the rest of the world.
Although populist leader Trump has accelerated the US’s diverge from the liberal international economic order, the diverge began before him and will last after him. Behind this movement is a geopolitical power shift. Mearsheimer believes that “Liberal international orders can arise only in unipolar systems where the leading state is a liberal democracy” (Mearsheimer 2019). Due to the inherent flaws of liberal international order and China’s rise, it was already difficult for the US to sustain liberal international order. Domestically, liberalism is blamed for making the US delegate too much decision-making authority to international institutions. Internationally, the spread of liberal international order was blocked by nationalistic fervor around the world. Most importantly, it gave ground for China’s impressive rise, which helped transform the international system from unipolar to multipolar. As Mearsheimer argued, China’s rise resulted in a growing security competition with the US (ibid.). Compared to the situation of GFC, the US’s relative economic and military power diminished further, and it is no longer willing to tolerate the rise of China. This has, in turn, prevented the US from fully cooperating with China.
The current crisis clearly shows that the US is not interested in sustaining the liberal international order nor in leading a coordinated global economic governance response. Without the US, the global governance response to the economic crisis will remain below the optimum level. However, the Trump administration is more likely to be continuously preoccupied with countering China. Such a response to the crisis is worse than a simple absence as it will drive up populist and nationalist fervor in both the US and elsewhere.
While the global economy is going down the hill without a leader, the world is not ready for an alternative. According to Rudd, “it is simply inconsistent with Beijing’s political playbook, as well as China’s perception of its still-limited national capabilities, for it to assume sweeping global leadership or drive an effective multilateral order that was not simply a direct expression of China’s own national interests” (The Economist 2020). Besides, China’s direct assertion of global leadership will not be accepted favorably by many other countries.
However, another hegemon may not be what we truly need at the moment. As French President Macron said, the current crisis could be a ‘chance for multilateralism’ (Khalaf 2020). The crisis has made us realize how interdependent we are and forced us to review the ‘grammar of multilateralism’ (ibid.). We can no longer leave the future of multilateralism in the hands of a few hegemons. Multilateralism needs change. As Macron pointed out, “Multilateralism has always lived its finest hours in the aftermath of great world wars” (ibid.). The current war-like crisis will bring change. The leaders who believe in multilateralism must now come up with effective global governance responses that not only save the world economy but also address the economic grievances of the people.
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Jae Hyung CHOI is Co-Founder and President of APRA.