By Steven Mufson, Mary Jordan and Edward Cody
Washington Post Staff Writers
Sunday, November 2, 2008
Presidents and prime ministers from major countries around the world will gather in Washington in two weeks to begin heated negotiations over the shape of global financial regulation as they scramble to avoid a deep worldwide recession and restore confidence in markets.
Key European allies are pushing for broad new roles for international organizations, empowering them to monitor everything from the global derivatives trade to the way major banks are regulated across borders. But the Bush administration has signaled reluctance to go that far. In the past, it has resisted similar proposals as potentially co-opting the independence of the U.S. financial system or compromising free markets.
Some economists and policymakers say the summit could launch important reforms. But others predict it could turn into an economic tower of Babel, with weak political leaders promoting solutions fundamentally at odds with one another. And if leaders cannot bridge their differences, they could risk another bout of financial disarray.
There are also differences of opinion on the issue of timing. French President Nicolas Sarkozy, who pressed for the 20-nation summit, says it must produce concrete and immediate results. But the host, President Bush, is a lame duck who says the meeting will be "the first in a series" and should focus on principles even though "the specific solutions pursued by every country may not be the same." Emerging proposals to sharpen existing regulatory tools appear to conflict with plans to create entirely new ones.
What is clear is that expectations for the summit among many observers are high.
"At the moment, I don't think it would be acceptable for the major leaders to come back from this conference and to go to their respective parliaments or whatever and say, 'Yes, we rearranged the deck chairs a little bit.' Because this is genuinely a Titanic crash," said Howard Davies, director of the London School of Economics and former head of Britain's financial regulator, the Financial Services Authority.
The summit does have a precedent, one reaching back more than six decades. At the 1944 Bretton Woods conference, world leaders gathered to design the current international financial architecture, laying the groundwork for the International Monetary Fund and the World Bank. The Nov. 15 summit has been popularly referred to as Bretton Woods II.
But this time is different. Two years of preparation went into the 1944 summit. And whereas the United States and Britain largely shaped the postwar financial system, financial regulation and coordination will now require the participation of a broader and more unwieldy group, including emerging economies, many of them loaded with foreign exchange reserves, foreign debts and influence over global financial markets.
Those emerging economies, far from being "decoupled" from traditional industrial powers as many analysts believed just a few months ago, have found that they and more developed nations need one another.
One unknown factor, for now at least, is the U.S. president-elect. Both Sen. Barack Obama (D-Ill.) and Sen. John McCain (R-Ariz.) have said little about their views on the summit. The White House has said it does not expect the winner of Tuesday's election to attend, but to have input to some extent.
Bush, meanwhile, has been reserved. "We need to proceed with caution and care but also with all due speed," White House press secretary Dana Perino said recently. "The president is concerned about moving too far too fast and wanting to avoid unintended consequences."Locking In Allies
World leaders are already maneuvering for position. Sarkozy, in particular, has methodically sought allies.
He won a key, although carefully worded, endorsement for action from China on Oct. 25 in Beijing, where a Europe-Asia economic cooperation summit called for more regulation of global financial markets.
"Each of us perfectly understood that it was not possible to meet [Nov. 15] just to talk," Sarkozy told reporters at a closing news conference.
"This is about no less and no more than the creation of a new financial constitution," German Chancellor Angela Merkel said.
Sarkozy has also called a Nov. 7 summit of the European Union's 27 heads of state and government in hopes of winning a Europe-wide mandate to demand swift action in Washington. Recognizing Britain's special contacts with the United States, Sarkozy invited Prime Minister Gordon Brown to a strategy session Tuesday at a presidential retreat in Versailles.
Still, despite all the posturing, there are different views on what concrete action would mean.
Sarkozy and Brown have voiced support for a new international regulatory body to supervise large transnational banks. Brown has called for strengthening the Financial Stability Forum, created after the Asian financial crisis of the late 1990s. The group of central bankers, finance ministry officials and international financial institution representatives produces important recommendations, Brown said in a speech this week, but, he added, "It never had enough teeth."
Merkel, who has been more conservative in dealing with the crisis than the hard-charging Sarkozy, favors a stronger International Monetary Fund, giving it a supervisory role in international finance and making it a "guard" of financial stability. Brown, too, has proposed making the IMF "an early-warning system" for financial problems, singling out low bank capital ratios or wildly mispriced securities.
IMF officials have embraced the idea that the fund could take on a larger role, perhaps as part of a secretariat involving other multilateral institutions.
Sarkozy has also sought support for proposals to curtail tax havens with new international investigative powers; require increased transparency on high-risk hedge fund investments; and regulate financial traders' compensation packages in a way that would reduce the incentive to make risky investments. But a French analyst said Sarkozy may scale back some of those ambitions given U.S. opposition. "He may have overreached a bit," said the analyst, who spoke on condition of anonymity so that he could speak candidly.
Japanese Prime Minister Taro Aso, in power just five weeks, spelled out in a nationally televised speech Thursday night what he wants from the summit: international regulation of financial institutions and of credit rating agencies as well as standardized accounting for international business and markets.
"The current system under which the authorities in each individual country supervise their respective financial institutions is insufficient," Aso said.
He blamed "grave shortcomings" in the credit ratings of subprime mortgage securities and questioned whether the U.S. accounting requirement that firms value securities at market value made sense "given the tremendous volatility in the financial markets that we are currently seeing." Many financial institutions have argued that market panic drives down the value of those securities too far; other experts say that alternatives give financial institutions too much leeway to come up with their own, often inflated, valuations.
China may prove more cautious than any other nation. Wu Xiaoqiu, director of the Institute of Finance and Securities, said he thinks Chinese officials, while joining their European counterparts in calling for an overhaul of current regulatory systems, would stop short of supporting a proposal for a worldwide organization with significant power.
"It is important to have an agency which can coordinate the global market and policies of different countries," Wu said. "But China doesn't like the idea of having a global SEC since no organization should affect the sovereignty of countries."Prospects for Politicians
For some leaders, the financial crisis offers a political opportunity at a time when electorates are deeply concerned about the future. Brown, Merkel and Sarkozy are all facing low approval ratings.
"I think all of the governments are uncomfortably aware that they have got very, very nervous electorates. Point one is just to show that somehow there is an agenda which can allow people to feel that something's under control," said Davies, the director of the London School of Economics. "People like Sarkozy, in particularly, and Brown know that their future depends on it appearing that they are responding adequately to this crisis."
There are dangers, though. The pressure to be seen as taking vigorous action could lead to overregulation, say many business leaders, especially in London, where the financial services sector plays a key role in the economy.
Willem Buiter, a professor at the London School of Economics and a former Bank of England policymaker, said he feared "we will . . . end up regulating so tightly that a lot of financial institutions will be untenable and unprofitable and we will spend the next decade slowly chipping away at over-regulation."
Disunity is another risk. If world leaders fail to coordinate, the consequences could be severe. Their staggered responses to the financial crisis in September contributed to bank runs and currency fluctuations, as money fled to whatever country was promising the most generous guarantees.
"If we forbid alcohol in two pubs only, everyone would just go to the other pubs," said Dimitrios Tsomocos, professor of financial economics at Oxford University and a consultant to the Bank of England, who added that one nation's regulatory scheme must not be more attractive to business than another's.
"Now, with the crisis I think the chances have improved for coming to an international consensus," said Michael Meister, a parliamentarian with Merkel's Christian Democrats. "I hope the crisis will serve as a chance for real reform. . . . The more time elapses, the more difficult it will be to change regulations because once the urgency passes, there will be reluctance for action."
Robert Hormats, a vice chairman at Goldman Sachs and former National Security Council staffer, said that the November summit would be valuable if it became the first in a series of G-20 meetings, widening economic coordination.
"We're at a point of time where the role of emerging economies has become very apparent and where the G-7 does not have the capacity in the eyes of many people in the world to solve this problem alone," Hormats said.
"We've learned from this crisis that you can't conceivably in the future try to pretend that the global financial system can be run by the occasional phone call between the Fed, the Bank of England, the SEC and the FSA," Davies agreed. "That's not going to work anymore."
Brown, in a speech to business leaders in London this week, said, "We have got to . . . involve China, India and all the emerging market economies because the world economy is changing before our eyes, and the system that is just built on Europe and America will not survive the test of time."
Jordan reported from London, Cody from Paris. Correspondents Blaine Harden in Tokyo and Ariana Eunjung Cha in Shanghai, as well as special correspondents Karla Adam in London, Akiko Yamamoto in Tokyo, Shannon Smiley in Berlin and Stella Kim in Seoul contributed to this report.