The Finance Track stays on track

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Image: Stock blackboardThe G20 Finance Track remains on track after the Hamburg Summit. The final statement reads: “An open and resilient financial system, grounded in agreed international standards, is crucial to supporting sustainable growth”. Sounds familiar? It should. Leaders recognized the need of “effective and representative global economic and financial institutions to underpin growth and sustainable development”. No news here, either.

 

The Summit endorsed the “new financial normal” born after the Lehman Crisis but prior to Brexit & Trump, which is still a work in progress that will demand further political collaborative efforts as well as concrete action on the ground. No signs of divergence emerged.

If words matter, and not only big numbers, the survival of phrases such as “open system”, “agreed international standards” or “sustainable development” within the final communiqué should be deemed remarkable, at least given previous expectations. It is well known that President Trump will push for deep financial reform in the US and favor a return to broad deregulation – unraveling Dodd Frank legislation established after the Great Crisis to diminish leverage, bridge dangerous operational gaps and improve oversight so as to prevent future setbacks –, but whatever his specific plans might be, they played no interference. The conventional official discourse was kept untouched. Cooperation – as in international tax matters – was praised. Is it a proof of shared conviction or just the dull routine of diplomacy? Only time can tell.

Basel III is a pending task

In Hamburg, G20 leaders embraced several important ongoing commitments. They urged implementing and developing the Financial Stability Board’s (FSB) Agenda. Pending tasks involve finalizing Basel III, the global regulatory framework for more resilient banks and banking systems. Members agreed that the work should be done “without further significantly increasing overall capital requirements across the banking sector, while promoting a level playing field”. Is that a fresh sign of willingness to lower (or, at least, not raise) the bar? Not fresh: the line was borrowed from the 2016 Hangzhou Summit. It is understood that a trade off exists between asking for more capital and the bottom line. Basel III strongly pushed for increased levels of bank capital (and the introduction of a novel liquidity buffer), but the political decision is not to carry that zeal much further. Clearly, if there is a devil, it will lie within the details (and usually, if authorities collude, nobody notices the fine print until a headache arises). Monitoring and addressing risks and vulnerabilities linked with “shadow banking, other market based financial activities and asset management activities” also belong to the package. And there is a third chapter that was agreed upon: assessing resolution systems for banks and other systematically significant financial institutions. Progress in that area is needed if bailouts are to be abandoned. Recent episodes in Spain and Italy (involving Banco Popular, Veneto Banca and Banca Popolare di Vicenza) reveal that when things get tough national authorities still prefer to deal with trouble using a piecemeal ad hoc scheme rather than relying on their book.

The Global Safety Net and the IMF

What about the international financial architecture at the macro level? The aim is to strengthen the Global Safety Net with “a strong, quota-based and adequately resourced IMF at its centre”. Leaders look forward to the completion of the 15th General Review of Quotas, “by the Spring Meetings 2019 and no later than the Annual Meetings 2019”. Efforts by the IMF to further enhance “the effectiveness of its lending toolkit in line with its mandate” are supported. Nothing new though there are innovations in the IMF´s tube such as “a new short-term liquidity instrument and a new non-financial policy cooperation instrument”.

Is that enough? Keep in mind that the IMF 2010 Reforms – that completed the 14th General Review of Quotas and improved governance and representation through a change in quotas shares composition– took far more time than expected to turn into a reality.  The new quotas – that were doubled to approx. SDR 477 billion – only became effective on January 26, 2016. They determine the size of contingency funds at the disposal of the IMF to lend to countries that need financial assistance. The 15th Review was supposed to be completed by October 2017, but the deadline has been moved away to 2019. Could it be a case of too little, too late? Unfortunately (or not), you will need a crisis to prove that. There is a big question mark here. How will the IMF centered Global Safety Net work under the same roof than President Trump´s America First doctrine? For emerging markets economies, self insurance, through foreign exchange reserves accumulation, will remain a priority even though other growing sources of funds could be tapped (bilateral central bank swaps, regional financial arrangements, and even China).

Leaders approve the state-contingent debt instruments (SCDIs) initiative that is under study by the IMF as a potential addition to sovereigns´ toolbox. SCDIs can be linked to a country’s GDP, to commodity prices, or to natural disasters such as hurricanes or earthquakes. When negative shocks occur – an economic recession or a natural disaster – they could provide an automatic reduction in the public debt service burden. In this way, they might preserve policy space to undertake countercyclical and stabilization policies, and enhance public policy capabilities. The IMF believes that where the size of the debt burden reduction is large relative to capacity to pay, “SCDIs may also help avert the need for a costly debt restructuring that may have otherwise been necessary”[1].

Nonetheless, the G20 will continue to promote the incorporation of enhanced collective action and pari passu clauses in new issuances of sovereign bonds (and explore options for “incorporation into existing stock where feasible”). Improving debt sustainability and debt restructuring processes is an ongoing resolve.

Political change and financial risks

Considering that the purpose of the Finance Track is to make the financial, economic and monetary system more stable it should be noted that huge risks could arise from the Sherpa´s Track. Drastic changes in voters´ preferences have altered the global political map (in special in advanced economies), and populism and anti-globalization forces now command higher stakes. While in the near past problems in the financial arena had been the drivers of unease in the real economy, crisis could also transmit itself the other way round. Trade disruption – if severe enough – could ignite damage in the real world first, and then provoke serious financial disturbances afterwards. Contagion is a two way road, mutually reinforcing. Is the multilateral trade system at risk? That is the key question, even for the Finance Track. Protectionism might pull the trigger, but while loud in political campaigns at both sides of the Atlantic, and growing in the number of individual actions taken, it has not crossed any sensitive threshold. In that sense, the Hamburg Summit´s communiqué rhetoric brings room for moderate optimism.

“We will continue to closely monitor and, if necessary, address emerging risks and vulnerabilities in the financial system”, leaders pledged. “Improving the analysis and monitoring of capital flows and management of risks stemming from excessive capital flow volatility” is another familiar line within the Finance Track. Such task is even more important if chances are that deglobalization and sudden stops – through the imposition of barriers in trade, investment flows or labor mobility – could derail the real side of the economy. Building up resilience and improving risk management strategies remain a must do.

José Siaba Serrate is a member of the Argentine Council of Foreign Relations (CARI) and the Argentine Academy of Capital Markets, teaches finance at Universidad de Buenos Aires and UCEMA.

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