Ask an Economist: Is Liberalization the Answer?

Kevin Gallagher

Triple Crisis Blog has invited readers’ questions in advance of the April 24-25 IMF/World Bank meetings in Washingon. See all of the questions and answers here. A reader asked:

Q: The IMF and the World Bank claim that the only way to deal with the current crisis is through further liberalization. Aren’t globalization and free trade what caused poverty and global warming in the first place?

Gallagher: I’m not sure that these two institutions claim that “the only way” to deal with the crisis is through further liberalization. The IMF has just called for a levy on bank balance sheets and has cautiously endorsed capital controls to stem inflows of speculative capital. They also called for fiscal stimuli a year ago.

That said, the IMF’s general policy recommendation is for a “gradual and sequenced liberalization of the capital account.” This is a problem for developing countries. Kose, Prasad, and others show that capital account liberalization is not associated with economic growth in developing countries.

The Bank is different and has advocated more for trade liberalization as a partial solution to the crisis. Yet, as Tim Wise and I show in a number of policy briefs the World Bank itself estimates that the gains from trade will be less than a penny-per-person per day in 2015. Moreover, the Bank advocates for financial services liberalization under the WTO. This could be a real problem. A recent IMF report shows that the liberalization of FDI in financial services was associated with an accentuation of the financial crisis in developing countries.

There has also been a great deal of attention regarding the fact that trade and investment treaties will make it harder for nations to put in place regulations to prevent and mitigate financial crises. I have written two pieces on this: one regarding how the WTO and Bi-lateral investment treaties (BITs) may make it harder for developing countries to deploy capital controls; another on how BITS may make it more difficult to forge proper financial regulatory reform and manage sovereign debt restructuring.

In a nutshell, the claim that further liberalization will get us out of the crisis is unfounded. And, current liberalization commitments may make it more difficult to prevent the next crisis.