Picking up the pieces of the G20's broken dream

W all Street has taken just a little over two years to recover from one of the worst blows in its long history. Last week the Dow Jones index hovered around 11,435 points, a figure unseen since mid-September 2008, when the Lehman Brothers bankruptcy unleashed a crisis in international finance circles that later morphed into more mundane, lacerating realities such as unemployment and public deficit.

For the group of leaders of advanced and emerging countries that coordinated the political response to the crisis, these two years were sufficient time to squander much of the credit they earned through their swift, joint intervention.

The disease affecting multilateral organizations - long-drawn-out meetings crowned by increasingly lengthy and meaningless statements - has found a new victim in the G20, the group of 20 economies working together to stabilize the financial markets since 1999.

"The problem is that we look for the minimum common denominator"

"Each nation's internal political restrictions are getting stronger"

"Preventing a currency war is an issue where the G20 should play a role"

"What is happening to us is that, in order to reach a consensus, we look for the minimum common denominator, and that common denominator is increasingly minimal; it covers very few topics," explained the Turkish economy minister, Ali Babacan, at the last G20 ministerial meeting in Seoul. In November 2008, the virulence of a crisis that had its epicenter in Wall Street achieved something of a miracle: then-US President George W. Bush put aside his aversion to multilateral responses and, for the first time, brought together in one economic forum the leaders of advanced countries as well as the heads of China, India, Brazil and Russia, countries experiencing the greatest economic growth.

The crisis is not letting up, but if that first historic gathering in Washington gave birth to the greatest joint public stimulus program for the world economy, then the fifth G20 summit, to be held this weekend in Seoul, is already stuck in the preliminary skirmishes of an incipient currency war.

The G20's activism reached its peak at the London summit in the spring of 2009. The occasion was marked by the political needs of the host, then-Prime Minister Gordon Brown, and by the influence of the star guest, the brand-new president of the United States, Barack Obama, who was riding an unusual wave of global popularity, all of which pushed the necessary agreements through. In London, leaders insisted on the need for fiscal stimulus, tasked the new Stability Forum with the reform of the world financial system and told the International Monetary Fund and the World Bank to increase the representation of emerging nations. There was even an agreement to end "the era of banking secrets" and a blacklist of tax havens was drawn up.

Since then, the G20 has been laboring under the slow digestion of the London agreements, and lacks answers to the new challenges of this mutating crisis. The third summit in Pittsburgh just barely served to demonstrate that the financial reform is still taking its first steps, and to certify what was already obvious: that the G20 has become "the main forum for international economic cooperation."

There were also high-sounding expressions like "a framework for strong, sustainable and stable growth," which lent words to a problem at the root of the crisis: the distortions created in the financial markets by excess saving in countries with large trade surpluses (China, Japan, Germany) coupled with excess indebtedness by countries with large deficits (most notably the United States and some European nations such as Britain and Spain).

The fourth summit, held in Toronto a little over three months ago, did not even get that far. The Washington idyll was clearly broken. "We could be generous and say that at Toronto, the ball was kicked forward," said Juan Tugores, an economics professor at Barcelona University who has analyzed the results of the fourth G20 summit.

One would certainly need to be generous to find progress anywhere at the Canadian meeting: the grand new forum for international cooperation was unable to reach an agreement on the universal levy of a tax on banks, which were the recipients of multi-million-dollar rescue packages paid for with public money in many countries.

The only issue everyone could agree on was to end the fiscal stimulus plans, and to replace them with a commitment to tidy up the public accounts as soon as possible. This decision was conditioned by growing pressure from investors against the sovereign bonds of several countries, which had significant collateral effects. For the IMF, the greatest contribution advanced countries could make to reduce external imbalances was to keep up public spending levels to encourage demand, which is actually the opposite of what was agreed to in Toronto.

The economists at Goldman Sachs reached the same conclusion in a recent report on the upcoming Seoul summit: the insistence on fiscal consolidation that came out of Toronto, they say, is a mere distraction - a premature cutback to the public deficit in advanced countries, they hold, will not reduce but rather increase imbalances. It should be restricted to countries with very indebted and vulnerable economies (such as Spain or Ireland, but not Britain or Germany).

Yet there are no indications that the G20 is going to ease up on its recipe against public deficits. On the contrary, Obama's recent electoral defeat, which left the House of Representatives in the hands of Republicans obsessed with federal spending, was the last nail driven into the coffin of fiscal stimulus plans. To be sure, Treasury Secretary Timothy Geithner will insist that, before fixing the public accounts, growth must get priority. The last champion of maintaining an active fiscal policy (more public spending in investment and subsidies for families and businesses) among advanced economies has been left with no leeway to implement these measures.

The consequences of the Democratic Party's defeat in US mid-term elections on the future of the G20 are added proof of the growing weight of internal affairs on the new forum's debates, as opposed to its earlier focus on international cooperation.

"Internal political restrictions are increasingly stronger, and that will make any kind of agreement in Seoul more difficult," admits Federico Steinberg, a researcher at the Real Instituto Elcano think-tank and an economics professor at Madrid's Autónoma University.

Governments' attention has not exactly been focused on the international arena, as a perfunctory look back at world events since July proves: elections in the US and Brazil, a succession of strikes in France against pension reform, a drastic budget cut in Britain, the appointment of the future successor of Hu Jintao at the helm of the Chinese Communist Party, a débâcle in opinion polls for German Chancellor Angela Merkel, supply problems in Russia caused by a flurry of fires and a government crisis in Spain, to name but a few issues. To use the words of Professor Tugores, business as usual is being substituted by politics as usual, a reference to the priority that is being awarded to national interests over international cooperation. And what the Brazilian treasury minister Guido Mantega christened as "the currency war" provides crude evidence of this lack of cooperation.

"Preventing a currency war is one of those issues in which the G20, because of its make-up, could play a determining role," says Steinberg. "It could press for greater coordination between the central banks of advanced countries in monetary expansion and establish the criteria for emerging countries to be able to raise capital controls and avoid bubbles," adds the Real Instituto Elcano researcher.

None of that is happening. The divergence between the Fed and the European Central Bank is plain to see; meanwhile, capital controls are extending among Asian and Latin American countries with no previous consultation of any kind.

The incipient currency war already threatened to become the best symbol of division at the last G20 summit, but China deactivated it by announcing a controlled appreciation of the yuan. But this time around there is no way of concealing the tension. And this time we are not dealing with the usual summit rhetoric that talks about intractable problems in the preamble and lets the leaders come up with a magical solution at the last minute.

Compared with the dizzying climb of some currencies (since July, the euro has appreciated 15 percent to the dollar; the yen 8 percent; the British pound 7 percent; and the Brazilian real, the Korean won and the Indian rupee, nearly 5 percent), the yuan's appreciation was a mere 2 percent over three months, yet the US handles information suggesting that the yuan is between 20 and 40 percent overvalued with respect to the dollar. That marginal appreciation of the yuan allowed China to prevent being backed up against the wall in Toronto, 19 to 1.

Meanwhile, the CEO of HSBC, Michael Geoghegan, recently warned that offering massive loans to emerging economies is becoming a risky sport. "There are too many people concentrating on the same business," he said, in what amounted to a veiled warning about the creation of bubbles in emerging economies. At the preparatory meeting for the Seoul summit three weeks ago, the G20 finance ministers committed to avoid "competitive devaluations" and to work toward a coordinated international monetary system. Everything that has happened since then seems to point in the opposite direction, however.

Ignazio Angeloni, of the Brussels-based research center Bruegel, fears the effect of these unilateral actions dictated by internal convenience. Angeloni, like Steinberg, believes that the main challenge is to incorporate China into the institutions and adds that exaggerated pressure over the yuan's exchange rate does not help.

If the creation of the Group of Twenty undermined the importance of the ultimate wealthy nations' club, the G7, China's resistance to multilateral negotiations has breathed new life into bilateral meetings, at which Beijing has no qualms about displaying its economic clout and its role as chief lender (with 26 percent of international currency reserves.) The most obvious form of bilateral meetings is known as G2, a name for high-level summits between the US and China. Barack Obama's visit to Beijing right before the Seoul summit will influence the outcome of the fifth gathering of the G20. And Chinese President Hu Jintao flew to Paris last week (and signed deals with French companies worth more than 14 billion euros) to pave the way for the 2011 G20 summit that will be held in France.

"This sounds dangerously similar to what happened in London," says Juan Tugores. The professor is not referring to the successful G20 summit of the spring of 2009, but to the failed World Economic Conference of 1933. Back then, the debate got stuck between those who demanded the dismantling of protectionist measures as a condition to enter into agreements over currency, and those who demanded that the monetary system be stabilized first. The US' inhibitions at the time blocked all initiatives. "Now, the currency war will take up all the energy, which will make it very hard to make progress on other issues," Tugores forecasts.

It remains to be seen whether this G20 summit will be able to do anything beyond charging the IMF with making recommendations on this thorny topic of currencies. What will not be on the table at Seoul are new public packages to reactivate the economy, even if growth forecasts are already being toned down. There is also no chance of a coordinated initiative against unemployment. Furthermore, there is no progress with regard to negotiating a new international trade agreement, or in financing measures to fight global warming. Even the decision to increase the representation of emerging economies at the IMF is unlikely to take shape before 2012.

A popular proverb would describe the four previous G20 summits by saying that they started at the speed of a horse and ended at a donkey's pace. In a more rhetorical fashion, the influential weekly The Economist describes the forum's notably reduced expectations as an admission of "the art of the possible." In any case, the Seoul summit does not seem destined to strengthen the faltering steps of world leaders.