Financing Development: Feasible Paths Through the Mine Field
The rise of the emerging nations is creating severe conflicts of interest. The global financial system and markets are unstable. The world could be faced with a new global financial crisis at any time. A gap between rich and poor is opening in increasing numbers of countries. Existing models of growth and development are driving the planet towards impending climate disaster. In view of this scenario, the debate on financing development in the new millennium has brought forth a series of suggested solutions. The task at hand now is to bring them to political fruition.
It took almost a decade before the leading industrialised countries in the United Nations agreed to participate in a global conference on financing development. The “International Conference on Financing for Development” finally took place in Monterrey, Mexico in 2002. Almost all countries were represented by their government leaders. The conference agreed on important solutions for financing the development of poor countries and achieving the Millennium Development Goals.
First and foremost these include the mobilisation of local resources through better governance in developing countries, the strengthening of national institutions and collection of taxes owed. More foreign direct investments, in particular for green field investments, were considered effective in making better use of the development potential of direct investments. The development aid goal of 0.7% of the BIP of industrial countries was confirmed. The bilateral debt relief initiative already in place for the most highly indebted and poorest developing countries was also confirmed and an expansion of multilateral debt deemed necessary. The conference’s final document, the now famous “Monterrey Consensus”, promotes ways to involve poor countries in particular in world trade through a WTO Development Round. In November of the same year in Doha, Katar the WTO developed world trade positions between the trade blocs, very few of which have been implemented to date.
The dangers posed by virtual financial markets, expensive, inefficient world financial and currency systems and global inequalities to the stability of the world economy were known. Monterrey even warned of the danger of a financial crisis caused by hedge funds. It was also known that the development model and its financing have a direct effect on the climate due to their dependence on energy production and resource use. But in Monterrey, financing development was still treated as a separate, sectoral issue. There was a lack of political will to place the connections on the agenda and take effective steps. The conferences that followed, Doha/Katar in 2008 and at the UN in New York in 2009, were dominated by the financial crisis. They suggested more comprehensive solutions that are in part repeated below. But with the rise of the G20, the UN lost almost any influence it once had on global issues.
Since 2002 a whole series of global action and climate conferences have taken place. And the G20 have replaced the G8 as the central government committee regulating global issues. But none of the global problems facing financing for development and their links to issues of good governance, the climate and global trade either dealt with or excluded in Monterrey have been solved to date.
The approaches suggested here are only new in part. Some are positions agreed by global or European civil society networks and some are positions that emerged from the United Nations debate.
Mobilising national resources
This issue was already being taken very seriously even before the Financing for Development Conference in Monterrey, and has been joined by debate on international tax evasion, capital flight and tax havens. Raymond Beker from the Washington think tank Global Financial Integrity estimates the annual loss in revenue in developing countries due to tax evasion and capital flight to have been around 500 billion dollars in 2005. Of this, 60% was due to legitimate and illegitimate tax evasion and 40% to illegally acquired money. The funds are generally brought into the global investment cycle via tax havens. It is no wonder, then, that, according to BaFin, German banks have founded 638 foundations in tax oases with an unknown total amount of accumulated capital.
The Tax Justice Network has long demanded the taxation of products and services in the place of their origin (country by country taxation). Furthermore, tax havens need to be dried up by eliminating tax confidentiality and ensuring automatic information exchange on taxes organised by a United Nations tax organisation.
Current global governance on issues of finance and the economy lacks legitimacy. Most countires do not feel they are truly represented at the IWF, World Bank and the G20, even if they are members. The UN plenary principle of “one country, one vote” is lacking.
- The IWF and the World Bank continue to be dominated by the rich countries, in particular the USA and Europe. Equal participation between countries with high and countries with medium or low income is being approached step by step. The USA continues to insist on its de facto veto right.
- The G20 represent around ¾ of the gross global product and 2/3 of the world population. It would only have democratic legitimacy however as a “G192”, as a committee that represents all UN member states.
- The UN Department of Economic and Social Affairs is responsible for financing for development. The Council referred to as the ECOSOC is comprised of 53 countries. Every three years these are replaced by other UN member states. ECOSOC lacks continuity, the ability to impose sanctions, and often the most important economic powers are not members. It is in effect powerless.
The decision-making bodies at the International Monetary Fund, the World Bank and the Global Banking Supervision Committee should vote twice, once according to the principle of equity ratio and once according to the principle of one country, one vote. The United Nations needs a committee similar to a security council with the ability to impose sanctions on issues of global finance and the economy.
The growth model and climate issues are increasingly important factors for financing development. When economic growth increases, the use of resources rises too. Access to resources promotes conflicts over these same resources. Fragile countries become pawns for foreign interests. Resources can then turn into a curse for countries with no rule of law or transparent governance. Important resources are growing scarce (e.g. peak oil). The burning of hydrocarbons, release of methane gas etc. are warming the earth. The predicted climate changes will create economic damage, migration, ecological catastrophes and political changes. The cost of adapting to climate change will consume between 5-10% of the GNP per year depending on the region. According to World Bank estimates, greenhouse gases will cost developing countries between 70 and 100 billion US$ per year for the years 2020-2050, which translates to about 80% of current development aid. The following suggestions have been made:
National economic growth must be completely severed from resource consumption over the long term. A country’s production, services and consumption must be based on renewable energies and resources. Along with development aid, trade in pollution rights should secure the financing of future climate adaptation and reduction goals in developing countries. Emissions trading could also help emerging nations reduce their growing contributions to global warming to meet international reduction targets. International measures should be monitored by the UN Council on the Climate Change Agreement.
Globalisation and independent development
The means and the end of financing for development is to have a developed economy that can fall back on the preliminary products found in the country, efficient technologies, educated experts, high productivity, markets with strong demand and national capital. In his book “Kicking Away the Ladder”, economist Ha-Joon Chang demonstrated how economies in different European countries and in the USA succeeded in considerably improving the state of their own technologies and the level of diversification in the national economy by applying phases of strict protectionism and appropriating intellectual property from other countries in the 19thcentury. By the middle of the 20th century, they no longer needed protection for their markets or ladders to support the development of technology. They had already far outstripped the competition. They then began to praise the advantages of free trade, indisputable from a strong market position. These powerful countries used their strong political positions with the World Bank, IWF and WTO to implement free trade. The balance of globalising trade in wares and capital turns out to be quite negative for developing countries – unless they already had the basis for a differentiated economy, an educational and training system, capital, natural resources and a domestic market with strong demand. Without these preconditions, a nation’s enterprises and banks can hardly survive in the face of global market competition. They are left to depend on offering the global production process what they have: cheap labour, bargain deals on raw materials and natural resources at rock-bottom prices. Free trade would be the right policy for a world in which all countries were at a similar stage of development. This will not, however, be achieved for quite some time. Therefore weaker nations must be able to protect their economies and livelihoods from the market powerhouses while promoting their own exports.
Economies still in an early stage of development should be protected from imports by tolls and capital controls and while their exports are promoted through the opening of developed markets to their goods and services. This “special and different treatment” must take place along with support for and demands on individual branches of the economy by the state with the goal of gradually improving their competitive capacity.
“Corrections” and “hard or soft landings” are painful economic and political developments that economists forecast in connection with economic systems that are out of balance. This applies to the Chinese national economy’s over 2.5 billion US dollar surplus which corresponds to the USA’s out-of-control debt (14.5 billion). It is exemplified in the export surpluses of a few European countries that go hand in hand with the excessive debts of South European countries, and in the surpluses of oil producing countries and the financial burdens of their customers worldwide. Creditors cannot simply turn a blind eye to the possibility of debtors losing solvency. To prevent insolvency, they either have to forgive the debt or accept losses on loans. If debtors do go into default, national insolvency is preferable to what is still the most common creditor-friendly method of meeting old debts by assuming new ones. National insolvency is the option that best accommodates the working population of a country and its future generations. Taking out new loans encumbers budgets, and the debt service is paid de facto by those who depend on the services provided by the budget. First and foremost, a new policy is needed to lead the country back to solvency.
It is the G20’s responsibility to re-balance global imbalances. Currently a working group is developing indicative guidelines that take many national interests into account and are intended to develop policy options to make landings as soft as possible. It will present its initial suggestions at the G20 summit in France in November 2011.
Suggestions: Re-establishing balance in foreign policy via higher wages and social expenditures for Chinese and even German workers too, for example. Early development of energy, heat and transport systems that do not rely on oil and gas. The creation of an international national insolvency procedure.
Global currency reserves
The Asian crisis at the end of the 90s led to the creation of considerable foreign currency reserves in many countries. The experience of countries like Indonesia, Thailand and the Philippines with the conditional aid provided by the IWF was apparently so negative that they were prepared to pay the high price necessary to stockpile foreign currency so as to no longer be dependant on the IWF. Countries like Brazil, Argentina and Indonesia paid the IWF’s standby credits back ahead of time so they would not have to follow its agenda any more. Countries also build foreign currency reserves to ensure the sufficient trust of their trade partners. In many developing countries, these reserves comprise over 2% of the GNP in hard currency. In 2006, economist and Nobel Prize winner Josef Stiglitz estimated that the cost of maintaining these reserves was around 300 billion dollars, almost triple development aid. In keeping with an approach developed around 70 years ago by his colleague John Maynard Keyes, he envisions turning the IWF into a global central bank that can grant member states unconditional and almost free interim loans to cover liquidity crises in “special drawing rights” (SDR). SDR are international reserve assets based on a basket of other currencies. Josef Stiglitz would also like to relieve the US economy of future burdens that will be caused by the use of the dollar as a key currency. The world’s need to complete its international payment transactions primarily in US dollars gives the USA almost unlimited licence to print money. Stiglitz also sees the negative aspect of this ability to generate money. The US financial system will have to pay back the accrued currency loans at some point. Repayment pressure is growing in proportion to the weakness of the US economy and the increased strength of other currencies that could be used as alternative international means of payment. Should they prove successful, they would be subject to the same fate.
A group of experts appointed by the President of the UN General Assembly suggested the comprehensive use of the IWF “special drawing rights” (SDR) currency. Then countries could then “draw” SDR from the IWF in relation to their economic strength at any time and would no longer need to maintain hard currency reserves. Gradually then SDR could be introduced as the sole method of payment for international transactions.
Finance market regulation
At the beginning of the financial crisis, the large financial markets pulled their investments out of developing countries overnight. Capital flight from developing countries increased exponentially. Their currency values dropped rapidly while demand for their resources and products slackened noticeably. The transaction belts of the global finance and trading centres ensured that developing countries were directly affected by the effects of the financial and economic crisis though they had not contributed to its onset. The importance of the financial markets for development has been strongly underestimated to date. They are a central actor in financing development.
Trade in virtual markets has long surpassed trade in securities and goods many times over. Betting on structured, complex financial products derived from them and speculation on sinking prices played a large role in the financial crisis of 2007/8. Speculation on food and raw materials resulted in hunger revolts and the scarcity of raw materials in some instances. The national regulating authorities released the reins of capital requirement for credit-leveraged credit risks for financial market strategy reasons. The risks of this propriety trading by banks (hedge funds) were many times higher than their guarantees. Their impending insolvency jeopardised the credit and monetary systems of entire countries – a catastrophe that could only be averted by pawning the tax income of future generations. At the beginning of 2009, the G20 met in London to settle the financial crisis and expand the credit lines for the IWF, the World Bank and, in part, themselves, to 1,127 billion US dollars. Additionally they formulated a programme for financial market regulation which has been followed by a law and the creation of institutions in the USA and Europe by now.
The American Dodd Frank Act introduced the Consumer Financial Protection Bureau. The Act allows financial institutions threatened with insolvency to be dissolved into their component parts in future. But it has not solved the system risk of banks so large that they would need to be bolstered by tax guarantees in case of insolvency to avert the danger of a complete breakdown of the bank and credit system. The financial lobby succeeded in ensuring that only part of the trade in financial derivatives is registered and takes place at stock exchanges and that the law only prohibits propriety trading by banks in part. The EU created the European System of Financial Supervision (ESFS). It consists primarily of a council and oversight authority for insurers, banks and securities. The ESFS is charged with overseeing, analysing, warning and releasing non-binding recommendations to national oversight authorities. National states and their authorities can only be compelled in crisis situations. There is currently no consensus in Europe on the issues that have already been addressed in the USA.
The incentive structures and compensation for managers and traders must be designed to promote the creation and protection of jobs, long-term stability of firms and sustainable economic activity. Financial market watchdogs need to have the ability to separate deposits from the propriety trading of the banks to limit system risks. The core capital and capital buffer regulations set out in the Basel III Agreement (by 2019 7% instead of 4) need to apply to financial institutions like private equity funds and hedge funds alike. Indicators for the strict separation of investments and speculation must be developed and speculation on falling prices (and as such an important hedge fund practice) of foods and strategic raw materials must be strictly limited. The economy needs stock markets not casinos. The introduction of a financial transaction tax designed to limit highly speculative and extremely technical trade and its risks would serve this end. Revenue from the financial transaction tax would be used as an innovative finance mechanism for financing development and the costs of reducing greenhouse gases world-wide.
 Raymond W. Baker, Capitalism’s Achilles Heel : Dirty Money and How to Renew the Free-Market System, Hoboken (NJ), John Wiley, 2005.
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6] VENRO: Für eine kohärente und zukunftsfähige Klima- und Entwicklungsfinanzierung
 Ha-Joon Chang : Kicking Away the Ladder – Development Strategy in Historical Perspective, May, 2002, London
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