A new vision for agriculture
momagri, movement for a world agricultural organization, is a think tank chaired by Christian Pèes.
It brings together, managers from the agricultural world and important people from external perspectives,
such as health, development, strategy and defense. Its objective is to promote regulation
of agricultural markets by creating new evaluation tools, such as economic models and indicators,
and by drawing up proposals for an agricultural and international food policy.
Focus on issues

The False Promise of Financial Liberalization


19 march 2007

By Dani Rodrik
Professor of International Political Economy at the John F. Kennedy School of Government, Harvard University

Today agriculture is considered by Pascal Lamy or Peter Mandelson as the main sticking point in the process of liberalizing international markets. In their opinion, agriculture is stopping the World from benefiting from the potential gains produced by the liberalization of markets for industrial products and services.

However, this assertion is contradicted on several levels.

First, the “highly optimistic” profits forecast in the event of liberalization of agricultural exchanges have now been officially questioned, echoing the criticism voiced on this point by WOAgri since December 2005 2 .

Secondly, the belief according to which an agreement on agriculture would be the key to success of the Doha round, because it would lead to an immediate agreement on Industry and Services, is more and more disputed. The recent opposition of Boeing and Airbus, the reluctance of Brazil to open its financial markets, the appetites of India in the industrial sector and the refusal of the United States to reform its Foreign Sales Corporations (FSC) , are just a few examples of the incapacity of the different member States to reach a consensus on the issue of liberalization of international markets.

Finally, the view that the ultraliberal dogma is the “one best way”, or a better way, to improve the well-being of all regions throughout the world, is crumbling, as can be seen in the change in position of International Institutions on this issue, whether it be the OECD, the World Bank, or the FAO.

Agriculture is not, as many claim, the “exception that proves the rule” according to which unregulated liberalization of international agricultural exchanges would benefit all of the world’s populations, since other sectors also suffer from the damage liberalization causes. This is what Dani Rodrik demonstrates in his article entitled “

The False Promise of Financial Liberalization

” that we have published here in its entirety.

This is why it is urgent, in light of these all too numerous “exceptions” and in keeping with WOAgri’s recommendations, that international decision-makers realize that it is not up to agriculture to adapt to a narrow and imperfect “rule” dictated by the WTO, but on the contrary, it is up to the WTO to adapt to the specific and strategic character of agriculture.

Something is amiss in the world of finance. The problem is not another financial meltdown in an emerging market, with the predictable contagion that engulfs neighboring countries. Even the most exposed countries handled the last round of financial shocks, in May and June 2006, relatively comfortably. Instead, the problem this time around is one that relatively calm times have helped reveal: the predicted benefits of financial globalization are nowhere to be seen.

Financial globalization is a recent phenomenon. One could trace its beginnings to the 1970s, when recycled petrodollars fueled large capital inflows to developing nations. But it was only around 1990 that most emerging markets threw caution to the wind and removed controls on private portfolio and bank flows. Private capital flows have exploded since, dwarfing trade in goods and services. So the world has experienced true financial globalization only for 15 years or so.

Freeing up capital flows had an inexorable logic – or so it seemed. Developing nations, the argument went, have plenty of investment opportunities, but are short of savings. Foreign capital inflows would allow them to draw on the savings of rich countries, increase their investment rates, and stimulate growth. In addition, financial globalization would allow poor nations to smooth out the boom-and-bust cycles associated with temporary terms-of-trade shocks and other bouts of bad luck. Finally, exposure to the discipline of financial markets would make it harder for profligate governments to misbehave.

But things have not worked out according to plan. Research at the IMF, of all places, as well as by independent scholars documents a number of puzzles and paradoxes. For example, it is difficult to find evidence that countries that freed up capital flows have experienced sustained economic growth as a result. In fact, many emerging markets experienced declines in investment rates. Nor, on balance, has liberalization of capital flows stabilized consumption.

Most intriguingly, the countries that have done the best in recent years are those that relied the least on foreign financing. China, the world’s growth superstar, has a huge current-account surplus, which means that it is a net lender to the rest of the world. Among other high-growth countries, Vietnam’s current account is essentially balanced, and India has only a small deficit. Latin America, Argentina and Brazil have been running comfortable external surpluses recently. In fact, their new-found resilience to capital-market shocks is due in no small part to their becoming net lenders to the rest of the world, after years as net borrowers.

To understand what is going on, we need a different explanation of what keeps investment and growth low in most poor nations. Whereas the standard story -the one that motivated the drive to liberalize capital flows - is that developing countries are saving-constrained, the fact that capital is moving outward rather than inward in the most successful developing countries suggests that the constraint lies elsewhere. Most likely, the real constraint lies on the investment side.

The main problem seems to be the paucity of entrepreneurship and low propensity to invest in plant and equipment - what Keynes called “low animal spirits” - especially to raise output of products that can be traded on world markets. Behind this shortcoming lay various institutional and market distortions associated with industrial and other modern-sector activities in low-income environments.

When countries suffer from low investment demand, freeing up capital inflows does not do much good. What businesses in these countries need is not necessarily more finance, but the expectation of larger profits for their owners. In fact, capital inflows can make things worse, because they tend to appreciate the domestic currency and make production in export activities less profitable, further weakening the incentive to invest.

Thus, the pattern in emerging market economies that liberalized capital inflows has been lower investment in the modern sectors of the economy, and eventually slower economic growth (once the consumption boom associated with the capital inflows plays out). By contrast, countries like China and India, which avoided a surge of capital inflows, managed to maintain highly competitive domestic currencies, and thereby kept profitability and investment high.

The lesson for countries that have not yet made the leap to financial globalization is clear: beware. Nothing can kill growth more effectively than an uncompetitive currency, and there is no faster route to currency appreciation than a surge in capital inflows.

For those countries that have already made the leap, the choices are more difficult. Managing the exchange rate becomes much more difficult when capital is free to come and go as it pleases. But it is not impossible -as long as policymakers understand the critical role played by the exchange rate and the need to subordinate capital flows to the requirements of competitiveness.

Given all the effort that the world’s “emerging markets” have devoted to shielding themselves from financial volatility, they have reason to ask: where in the world is the upside of financial liberalization? That is a question all of us should consider.

1 Copyright Project Syndicate 2007 www.project-syndicate.org
2 Cf. the article entitled “Testing international agricultural models” available on the WOAgri website (www.momagri.org)
3 FSCs are fiscal subsidies for exports that enable American companies to deposit profits from exports in tax havens through bogus companies located in these havens. One quarter of American exports use this channel and the agricultural sector is thought to be the second largest user just like Boeing, General Motors, Microsoft…
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Paris, 22 June 2018