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J. Bradford DeLong
University of California at Berkeley and NBER
My reaction to hearing Jeff Sachs present this paper this morning was one of cognitive dissonance.
First of all, the five-fold classification of crises advanced in the paper is very nice. The point that the proper response to a crisis depends on what kind of crisis it is is well-made. And I share the view that lenders-of-last-resort in financial panic and disorderly workout cases should recognize that in a sense fundamentals are sound in East Asia today--and that in such cases there should be a kinder, gentler IMF.
But on the other hand you can never be certain in real time of the mix of crisis types: all crises are mixtures, with some "moral hazard" and some "policy induced" component as well as "financial panic" and "disorderly workout" components. So you should never make policy as if the crisis is entirely made up of one and only one pure type.
Moreover, as far lenders-of-last resort that put their existence at risk by the scale of intervention are concerned, they have to be prudent, to act as if the crisis has a substantial policy-induced and moral-hazard component. In this case the IMF very badly needs to get its money back quickly, in time for the next crisis, due in 2001.
Remember that the right thinks that because of the IMF East Asian economies are not suffering enough, while the left thinks that, because of the IMF, East Asian and Wall Street power elites are not suffering enough. All the political criticisms from right and left--from members of bodies to which the IMF is accountable--are that the IMF is giving the hard-earned wealth of first-world taxpayers away to the unworthy, and should stop. Calls for making the IMF more "accountable" are thus implicitly calls for it to loan less--and impose more conditionality--on East Asian economies.
Thus, cognitive dissonance.
Steven Radelet and Jeffrey Sachs as economic analysts have have a sophisticated argument that the IMF is getting much less than its money's worth of lender-of-last-resort services from the massive resources it is committing. But when I look at Jeffrey Sachs as op-ed writer--who calls the IMF "arrogant", making an "untimely request [for additional funding]", "so used to secrecy", holding a "monopoly of power", "unaccountable", "[W]hat happened to the first $117 billion?... used... to pay off Western banks, thereby keeping Wall Street happy", I find that the strong substantive argument of Radelet and Sachs is just not getting through. The point that the desired end is a kinder, gentler IMF that will loan more money on easier terms (rather than an IMF that will make East Asia's forthcoming depression deeper) is completely lost.
When the argument is shrunk down to op-ed length, somehow Jeffrey Sachs sounds like a clone of Lauch Faircloth--which he is not. Somehow the rhetoric has drifted very, very far away from the true analytical position.
Notes on Steven Radelet and Jeffrey Sachs, "The Onset of the East Asian Financial Crisis," February 7, 1998
- A close-to-theory reading of East Asia, in the context of our theories of lenders-of-last resort
- Not all financial crises are alike
- Five types:
- Macroeconomic policy-induced crisis (Krugman first-generation)
- Financial panic (Sachs' preferred explanation of East Asia: multiple equilibria, noise traders, Diamond-Dybvig)
- Bubble collapse
- Moral-hazard crisis
- Disorderly workout
- A sharp reduction in the inflow of foreign capital: a sudden and abrupt drop in the supply of foreign capital
- Mexico in 1994-1995 as a canonical case of financial panic
- Unnecessary and unfundamental financial embarrassment
- Strategic complementarity
- How are foreign crises different from domestic ones?
- We see so much more cross-border panic because there are no international lenders-of-last-resort
- No international deposit insurance in international crises
- Orderly workout mechanisms through bankruptcy law in domestic crises
- While there were lots of imperfections in East Asia, this crisis is a financial panic
- The destruction of real wealth is vastly out of line with whatever fundamental problems existed
- No reason for the panic to arrive when it did
- No one seems to like this particular explanation
- People like large events to have large causes
- Today people think the large cause was "crony capitalism": they are wrong
- The essential shock was the large, dramatic, abrupt reversal of capital flows to East Asia
- From +$93 billion to the Asian 5 in 1996 to -$12 in 1997: that's a swing of 11% of GDP.
- Swing from second half of 96 to second half of 97 is much greater.
- Bank-to-bank lending less than bank-to-nonbank lending
- lending because they viewed these countries as credit-worthy, not because they viewed these loans as implicitly guaranteed.
- A bubble story would have had a very different pattern of credit-worthiness in advance of the crisis.
- A very substantially unanticipated crisis (but falling equity markets from mid-1996).
- Bond ratings
- trigger put options, all kinds of restrictions on portfolios, and so on
- The doctrine of "sovereign ceiling" and its effects when sovereign debt ratings are downgraded.
- Ratio of short-term assets-to-liabilities: short-term debt to foreign exchange reserves.
- Avoid worsening the panic; how the IMF should act.
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