The G20 summit

Regaining their balance

A new chapter for the world economy, maybe

THE last time the leaders of the Group of Twenty (G20) met, in London in April, their unenviable task was to steer the world economy away from a 1930s-style depression. They succeeded, thanks to an unprecedented fiscal and monetary gusher and a raft of measures to prop up teetering financial giants. But while stability has returned, much more needs to be done to put economies, and particularly their banking sectors, on a sounder footing. The group’s aim this week in Pittsburgh was to “turn a page on the era of irresponsibility” by adopting reforms to “meet the needs of the 21st century economy.” But writing a new chapter will require agreement on precisely what those needs are, and the final communiqué gave sceptics plenty to chew on.

There was, at least, a consensus on what should not be done. The leaders pledged not to withdraw stimulus measures until a durable recovery is in place. They agreed to co-ordinate their exit strategies, while also acknowledging that timing will vary from country to country depending on the forcefulness of measures in place.

There was also agreement that macroeconomic policies should be harmonised to avoid the imbalances—America’s spendthrift ways and deficits; Asia’s savings glut—that made the financial crisis so much worse. But strengthening co-operation, through the snappily named Framework for Strong, Sustainable and Balanced Growth, will not be easy, even with the International Monetary Fund (IMF) knocking heads together, as is envisaged. Developing countries are uneasy about formalising such a realignment. They are publicly supportive, but that may only be because they suspect it will be impossible to police.

They will, however, be pleased with another sort of rebalancing: that of global institutions to better reflect today's economic realities. From now on, the G20 will replace the narrower, Western-dominated G8 as the primary global economic talking-shop, giving the likes of China, India and Brazil a permanent seat at the table. In return, it is hoped that they will be more flexible in other areas, such as climate change and trade. (The G20 pledged to eliminate subsidies on fossil fuels, but only “in the medium term”; as for trade, there was only a weak and implausible commitment to get the Doha round back on track by next year.) The governance structure of the rejuvenated IMF will also change, with “under-represented” (mostly developing) countries getting at least 5% more of the voting rights by 2011. Taken together, the Fund’s overhaul and the G20’s expanded powers mark an important shift in international macroeconomic policy.

The other big institutional change is the ascension of the Financial Stability Board (FSB), a club of central bankers and financial regulators, which has also been broadened to include the big developing countries. From now on it will take a lead role in co-ordinating and monitoring tougher financial regulations and serve (along with the IMF) as an early-warning system for emerging risks. To co-incide with the summit it released two reports that flesh out its thinking on a range of regulatory issues. Tim

Geithner, America’s treasury secretary, told reporters that he considered the FSB to be the “fourth pillar” of the modern global economy, along with the IMF, the World Bank and the World Trade Organisation.

The FSB will also help to ensure that the rules governing big banks are commensurate with the cost of their failure. The main tool for this will be higher capital requirements. All agree that banks need more capital and that a greater share of it should be pure equity, the strongest buffer against loss. The G20 communiqué also supported forcing banks to hold especially high levels in good times so they are better prepared to ride out the bad—though it did not endorse an American proposal for big banks to hold more than smaller ones.

But there will be much wrangling over amounts and timing. The G20 has set a deadline of the end of 2012 for new standards to be adopted, with exact figures to be decided by the end of next year. The Europeans have gone along with this but may not be able to deliver, since their banks entered the crisis with much feebler capital cushions than their American counterparts. These have since been plumped, but with hybrid instruments that do not count as pure equity.

Nor will France and Germany be particularly thrilled with the fudge on bankers’ pay. Going into the summit they had pushed hard for firm numerical limits on bonuses as a proportion of revenues or capital. The language of the communiqué, however, was closer to the Americans’ position. Efforts will be made to tie remuneration more closely to long-term value creation—more paid in restricted shares, with employers able to claw back a portion if trades lead to big losses and multi-year bonus guarantees to be avoided. But bonuses will be limited to a particular percentage of revenues only if the bank’s capital levels are dangerous low or the payouts threatens its soundness. Never one to admit to defeat, Nicolas Sarkozy, France’s president, hailed the deal on financial regulation as a “revolution.”

That is pushing it. The biggest worry, however, is not that the deal struck in Pittsburgh is too tame, but that even what has been agreed could unravel. Given how politically charged the pay issue is, there is a risk of countries like France going their own way. As for the economic rebalancing, the peer review envisioned in the communiqué is a poor excuse for an effective enforcement mechanism. The deal struck in the America’s Steel City is a step in the right direction, but it could soon begin to buckle.