Wednesday, April 01, 2009

A tale of two press conferences

The tale of two pre-G20 press conferences (Obama/Brown and Merkel/Sarkozy) is being played in the UK press as a Anglo-Saxon versus (old) Europe story, with headlines like "France and Germany throw down the gauntlet" and "Franco-German demands upset G20 unity". This press reaction is surely greatly exaggerated, and the politicians themselves are no doubt doing a lot of posturing for their home audiences, but it is interesting to consider the political and economic background that gives these stories traction.

The crisis really does have a great deal to do with the political economy of the US and UK in particular: these two countries were its economic, political and intellectual epicentre. European countries which have been most directly affected - Ireland, Spain and Iceland among them - were precisely those which were most influenced by the business culture of the US and UK. Indeed, until recently these countries were often hailed by the Anglophone business press as economic poster children, and examples for "sclerotic" Europe to follow.

While Germany and France have been hit hard by the crisis, it is important to distinguish between first-order effects due to asset price bubbles and opaque financial products, and second-order effects due to the reduction in demand brought about by first-order problems elsewhere. While the banking sectors in "second order" countries face very real problems, it is important to note two things. First, the asset write-downs and financial (mis)innovation at the root of these problems took place mostly in the Anglo sphere of influence (in many cases even when the firms in question were European). Second, it was a very Anglo influence that drove what now appear to have been deleterious changes in the banking culture in these countries in the first place. (Indeed, in the last decade it became commonplace to see starry-eyed European students at business and finance schools in the UK and US, eagerly imbibing the wisdom on offer. This influence likely had a major role to play in reshaping financial institutions in Europe.) It is fortunate that Germany, for example, did not heed advice to loosen mortgage restrictions: there was no real house price bubble there, but if there had been we might now have been facing an even worse crisis.

With recessions looming or underway almost everywhere, isn't this first-order/second-order distinction just splitting hairs? I don't think it is. The fact that Germany is suffering due to a sudden drop in US demand for its cars is simply a different type of problem from the primary economic problems in the US. I would argue that these second-order problems are less fundamental and will prove easier to adapt around. Think of it this way: Germany has fewer major fundamental changes that it will needs to make in its business culture. Certainly like everyone else it will have to undertake major banking reform, but mostly this will be a matter of shaking off a recent, foreign influence on that sector, rather than the much deeper rethinking that will be needed here and in the US. This is surely part of the reason why the German government seems inclined to wait until the crisis is resolved elsewhere and in the meantime simply keep their manufacturing sector in one piece, ready to pick up again once global demand is restored.

This background is important in reading quotes like this:

Action to regulate bankers' pay in order to discourage excessive risk-taking could not be taken by a few countries alone as they would be penalised in the competitive global marketplace, [Sarkozy] said, adding: "This has to be a worldwide decision to inject new ethics into trader remuneration."

Mr Sarkozy said: "These are our red lines. We are totally prepared to discuss other things so long as these issues are clearly dealt with and solved."

( I don't know how serious Sarkozy is about this, but for what it's worth I agree with the sentiments he expresses about ethics and remuneration.)

Is the seeming optimism of Obama and Brown matched by a real desire to undertake serious reform? Certainly these two leaders appear to remain much more wedded to a finance-centric worldview than their counterparts elsewhere. Gordon Brown was Chancellor during the long run up to the present crisis, and played a role in fostering the political and economic climate that made the crisis possible. Meanwhile, Obama's economic team has, to put it mildly, some conflicts of interest with respect to fundamental reform of the financial sector. Perhaps European cynicism is unwarranted, and Obama and Brown will indeed recognize the role played by the Anglo business culture in bringing about the crisis and try to rectify it. But if not, we are likely to see more real political disagreement in the months to come.