Eight Steps to a New Financial Order

BACK TO BRETTON WOODS

Financial crises once made most people's eyes glaze over; they were subjects of intense interest to only a limited clientele, many of whom wore green eyeshades. Not any longer. The topic has unfortunately acquired a mass audience in the second half of the 1990s. Stunning currency collapses in Mexico (1995), southeast Asia (1997), Russia (1998), and Brazil (1999) have pushed the subject to the front page. Financial conflagrations have become too frequent, too devastating, and too contagious to be ignored.

As the World Bank's chief economist Joseph Stiglitz has put it, when so many cars run off the road, you start wondering whether the road itself might be the problem. And indeed, many questions are now being raised about the global financial architecture. Much of the discussion centers around the concept of "moral hazard," an awkward phrase that economists borrowed years ago from the world of insurance. In the financial context, it means that people (or banks, or governments) who are shielded from the consequences of their actions may take imprudent risks -- hoping they will be bailed out if things go wrong.

But there is a vastly more important hazard of much greater moral urgency: the fact that financial crises afflict literally hundreds of millions of innocent bystanders who play no part in the speculative excesses but nonetheless suffer when the bubbles burst. The present global financial system manifestly fails to protect these poor people from extreme hazards. This failure is the chief reason to seek reform. Those who bet wrongly in financial markets should suffer losses. And borrowers should repay their debts, even when they are onerous. But citizens who take no part in the game should be shielded from the consequences of financial collapse to the maximum extent possible. This is plainly not happening now. How did we get into such an awful mess?

The story starts back in 1944, when the major Allied nations met at Bretton Woods, New Hampshire, to design a mechanism for restoring the shattered world economy to health. They created a new international financial architecture based on fixed exchange rates and the convertibility of the U.S. dollar into gold. And they established a new multilateral institution, the International Monetary Fund, to police the system.