In a 1965 essay, the great development economist Albert Hirschman bemoaned the tendency of those in his profession to look for the next panacea. Unfortunately, various panaceas have come in and out of fashion since Hirschman wrote.

During three decades of neo-liberalism, development economists and policymakers have celebrated three inter-related strategies:  (1) free markets, (2) private ownership, and (3) private international capital flows. The latter refers to several types of flows—loans by foreign banks, foreign direct investment (i.e., the purchase of more than 10% of the assets of a foreign corporation), portfolio investment (i.e., the purchase of foreign financial assets, such as stocks or bonds), and worker remittances (i.e., the funds that migrant workers send home generally to their families, but sometimes also send collectively through “home town associations” to fund infrastructure projects in their towns of origin). Policy in the neo-liberal era sought to maximize all four of these financial flows.

Especially after the Asian financial crisis of 1997-98, many policymakers turned particular attention to maximizing the receipt and the developmental impact of remittances. This was especially the case among those developing countries that were not terribly successful in attracting other types of international private financial flows, as these have long been highly concentrated among a small handful of large, rapidly growing developing economies. Indeed, maximizing the migration of healthy workers and garnering the remittances they sent home became a kind of default development strategy in many countries. Jamaica and the Philippines are examples of countries where policymakers came to conflate the export of their people (especially nurses and domestic servants, respectively) and the import of their remittances with a real national development strategy.

For a while, the strategy seemed to work. Remittance flows to developing and post-Communist countries grew rapidly between 2002 and 2007. Remittance inflows are more than twice as large as foreign aid inflows, and nearly half as large as total foreign direct and portfolio investment to the developing world. They are also far less concentrated in larger developing countries than are other types of international private capital flows. In many developing countries, recorded remittances were and still are the largest source of external finance of any sort. Remittances are also less volatile than other international private capital flows. And, historically, they have been counter-cyclical, since migrants tend to send more remittances to their countries of origin following downturns, crises, natural disasters and political and civil conflicts in their countries of origin. This counter-cyclicality contrasts sharply with all other international private flows, which are strongly pro-cyclical and hence can contribute to economic instability during crisis.

Research on remittances has established that they are an important source of social and economic support to families, regions and even governments since they augment consumption after crises, they often allow poor families to pay for school, medical expenses and housing, they fund small business development and, in some cases (such as in Mexico) they have provided financial support to infrastructure projects.

Less well-known research on remittances also revealed that they have other more complex, some times negative political, economic and social effects on recipient countries. For example, in a paper on the political economy of remittances, I review evidence from studies that find that large inflows can cause exchange rates to appreciate. I argue there as well that dependence on remittances can induce what I term “public moral hazard.” By public moral hazard I mean that the receipt of large volumes of remittances can cause states in the developing world to reduce expenditures on public goods that have traditionally depended on public support, such as public investment in infrastructure and social services.

Relatedly, others have argued that remittances can protect governments from the political consequences of poor policy choices.  Some also argue that migration and the receipt of remittances undermines “political voice” in recipient economies (using another of Hirshman’s concepts) because they reduce the incentives for the efficacious members of society to advocate for governance improvements.

Notwithstanding these complex effects, many policymakers worried at the start of the global crisis that the number of migrants and the amount of money that they sent home would diminish dramatically because so many countries are making migrants unwelcome and because job opportunities in some of the main host countries were drying up. Initially this seemed to be the case – officially  recorded  remittance  flows  to  developing  countries  fell by around 6  percent  in 2009 from their level in 2008. This fall was far more modest than initially forecast. It seems that migrants—many of them very poor—are doing all they can to continue to live abroad and to send money home to their even poorer families, even when this means that those already living on the edge have to make even greater sacrifices.

As a recent Oxfam study reports, these sacrifices are being borne most heavily by women and children in both sending and recipient countries.  Anecdotal evidence also suggests that “reverse remittances” are now occurring, as some families in the countries of origin send money to migrants so that they can remain in their adopted country.

At present, those who forecast remittances are surprisingly upbeat. They predict a recovery of global remittance flows in 2010-11 (though, to be fair, the forecast acknowledges numerous possibly mitigating factors, such as rising anti-immigration sentiment in many countries, the fragility of the global recovery, etc.). The most reasonable explanation for this optimistic forecast is in fact quite dismal: conditions in the poorest countries may become so bad in the next few years that further migration is induced despite the myriad obstacles, and migrants will continue to send money home to desperate families, even at the cost of their own consumption.

On the other hand, remittances may well slow to a trickle, given the likelihood that the recession will worsen in some of the world’s wealthiest economies (no doubt thanks to the austerity-obsessed G-20), which may in turn induce legislation or activism that makes migration even more untenable.  Were this to occur, we might find that members of the policy community who, just a few years ago, celebrated the developmental impact of remittances are compelled to recognize the limitations of these and other international private capital flows. We may learn that remittances do not suffice as substitutes for economic development strategies that mobilize and channel domestically-generated resources.

Utopian thinking that features one panacea or another is habit forming. Indeed, we see that the Indian government has recently fallen back on external capital flows by taking steps to make it easier for foreigners to engage in portfolio investment in the country.  But we can hope that this is among the last gasps of a discredited development strategy.  Indeed, this seems to be the case, as several TripleCrisis bloggers have noted in their discussions of the new thinking and institutions that are emerging in the developing world (e.g., Diana Tussie, Matias Vernengo, Kavin Gallagher and myself).  None of these initiatives points to a single panacea, and that is something that we can be sure Hirschman himself would appreciate.

In a recent post, I argued that capital controls have become the new normal. This is welcome news to progressives who have long argued that developing countries should have the right to deploy capital controls.  A reasonable question for progressives to ask at this point is why are capital controls breaking out all over?

There are several possible (and no doubt, mutually reinforcing) reasons for the resurgence of controls.

First, on a practical level, they are needed in many countries. Policymakers in the developing economies that are performing well now are using these policies to contain the asset bubbles (and attendant inflationary pressures and currency appreciation) stimulated by the foreign investment that is flooding developing economy markets (itself the consequence of the low interest rates and dim economic prospects of the USA and Europe).

Second, policymakers are using capital controls to create or expand policy space to raise their own interest rates so as to cool overheating economies.

Third, as each country deploys capital controls with no ill effects on investor sentiment and no finger wagging by the IMF, it becomes easier for policymakers elsewhere to deploy the controls they deem appropriate. And they are doing so.

Furthermore and digging into the “why” matter a bit deeper, we should also take note of the fact that IMF research on capital controls has moved quite far this year from the tepid, uneven process of reevaluation that began after the Asian crisis.  By now, many reports by IMF research staff and statements by the institution’s high-level officials have made clear that capital controls are a legitimate part of the policy toolkit, and that they have had positive macroeconomic accomplishments in many countries. This view has been affirmed and elaborated in reports issued by the IMF since February 2010, again in April and May 2010, and as recently as last month.  In a June 2010 speech in Moscow John Lipsky (IMF First Deputy Managing Director) said that “maintaining a pragmatic and open-minded attitude is justified regarding a possible role for capital controls.” Managing Director Dominique Strauss-Kahn also took what he characterized as a publicly agnostic position on Brazil’s capital controls this past fall. And, as Kevin Gallagher notes, the recent views of IMF researchers and the officials that are the public face of the institution mirrors the endorsements of capital controls that have been coming lately from prominent mainstream economists and officials at other multilateral institutions.

This new intellectual openness to capital controls is being affirmed by IMF practice, as I recounted in my previous posting. This is not to say that the IMF has completely rehabilitated itself, of course. As many have argued, it is continuing to advance pro-cyclical macroeconomic adjustment in low-income countries.  But it is undeniable that policy space has been widened for policymakers across many countries who are deploying capital controls without waiting for IMF approval or comment. The proliferation of capital controls in practice may be forcing the IMF to relax its historic opposition to ensure its institutional authority and even relevance.  But the IMF is a complex institution, and it will be important for researchers to explore this case carefully to ascertain just how and why the current crisis is altering the perceptions, influence and status of diverse decision-makers within the organization—building perhaps on the fine grained examinations of decision making at the IMF pioneered by Erica Gould, Jeffrey Chwieroth, Bessma Momani, and Rawi Abdelal. One would expect such an investigation of this historical shift in policy stance to reveal all sorts of conflicting motivations among the heterogeneous IMF staff and stakeholders.

The upshot of all this is that capital controls have become the new normal.  That is welcome news to those of us who have been arguing for some time that developing countries should have the right to pursue capital controls and other developmentalist tools that played such important roles historically, and which today’s liquid, liberalized, unstable and globally integrated financial markets make all the more necessary. In this context, the restrictions on the right to impose capital controls that are embodied in US trade and investment agreements look more like relics of the bad parts of the old normal.

Like many progressive economists, I’m addicted to economics and business news. These days one phrase is repeated constantly—“The new normal.” Indeed, National Public Radio’s show, “Planet Money” recently featured a story on this omnipresent phrase.  The new normal is shorthand for features of a dismal new economic reality to which the (investing) public must adjust. The new realities of our era include lower rates of return on stocks, bonds and real estate; larger government budget deficits which precipitate higher inflation rates; sluggish (and even negative) rates of growth in rich countries; and a shift in economic (and political) power to the world’s dynamic developing countries.

But another new normal has flown in under the pundit’s radar screen. This new normal is the proliferation of capital controls, which are being implemented rather widely across the developing world.

And I am pleased (and frankly, surprised) that these policies have not caused criticism to rain down on the policymakers who put them in place.  Indeed, in some cases they’ve been greeted with silence, and in others, with tacit acceptance of their necessity and prudence.  This reception contrasts sharply with the gloom and doom scenarios that were evoked after Malaysia imposed stringent capital controls during the Asian financial crisis of 1997-98.  More recently, capital controls in Thailand were reversed quickly after their implementation (following a coup in 2006) after they triggered massive capital flight.  The “nothing to get excited about” reception that capital controls are receiving these days makes it easier for other countries to follow suit. The normalization of capital controls is the single most important way in which policy space for development has widened in several decades.

Capital controls refer to a range of policies that are designed to manage international capital flows.  They can and have taken many forms in various countries over time. For example, they have involved restrictions on foreign investment in certain sectors or assets, minimum stay requirements on foreign investment, taxes on foreign investment, restrictions on access to the domestic or foreign currencies and on holding bank accounts outside the country, etc. Capital controls were the “old normal” in the decades that followed WWII. At that time, they were widely understood by academic economists, policymakers and officials at multilateral institutions to be an essential tool of economic management in all countries.  And, even in the neo-liberal 1990s and early 2000s, some developing countries maintained capital controls—most famously, Chile and Malaysia, but also China, India, Colombia, Thailand, and a few others. After the Asian crisis (and by the early 2000s), the center of gravity in the economics profession and even among researchers at the IMF had largely shifted from an unequivocal, fundamentalist opposition to all types of capital controls to a tentative, conditional acceptance of the macroeconomic utility of some types of capital controls (i.e., temporary, market-friendly controls on capital inflows) under some circumstances (i.e., when the economy’s fundamentals were mostly sound).  Thus began the tepid, gradual and definitely uneven process by which capital controls began to be normalized conditionally by economic researchers.  But despite the signs that the seeds of an intellectual evolution had been planted, it must be acknowledged that there was push back from stalwarts in the academic wing of the profession, as well as a curious disconnect between the research of IMF staff and advocacy for capital account liberalization by the institution’s economists when they worked in the field with countries in distress. And hence, despite the modest intellectual progress on capital controls that began in the early 2000s, the success of capital controls was still seen as anomalous to certain country cases.  Policymakers in the developing world continued to deploy them only at their own peril (e.g., risking downgrades by credit rating agencies).

But something happened on the way out of the global financial crisis. Policymakers have been quietly imposing a variety of capital controls, often marketing them with Madison Avenue savvy simply as prudential tools (akin to what Epstein, Grabel and Jomo KS termed “capital management techniques”).  For example, last month Indonesia announced what its officials term a “quasi capital control” that governs short term investment in the country, South Korea announced controls on banks’ currency derivative positions, Argentina announced stricter controls on US dollar purchases, and Venezuela imposed new controls on access to foreign currency. In October 2009, Brazil imposed capital controls via a tax on portfolio investment.  In December 2009, Taiwan also imposed new restrictions on foreigners’ access to some kinds of bank deposits (and China also put some new controls in place). Iceland implemented stringent controls just after its economy imploded in 2008, and the October 2008 stand by arrangement with the IMF made a very strong case for their necessity. There have also been reports of new capital controls under discussion in India and in China (with the latter being aimed at deterring investors from betting on an end to its peg to the US dollar).  The “market’s response” to these various controls—a surprising silence and, in some cases, tacit approval.  The response by economists at the IMF has been in the same vein.

And so it is that capital controls have quietly become another element of the new normal.

In a follow up post, I will explore the reasons why capital controls are breaking out all over.

Over the last many months, TripleCrisis bloggers and readers have written about many dimensions of the crisis. I would like to raise here several issues that warrant attention by progressive observers of the crisis.

1) The credit rating agencies and Polanyi rise again in Mediterranean Europe

We are now seeing that the government in Spain is trying to get ahead of a Greek-like fate by imposing its own extremely severe austerity measures that involve myriad types of budget cuts and recasting of its (inflexible) labor laws. Certainly the situation in Greece (and the protracted negotiations over its bailout) gave these moves particular impetus. But so did the downgrade of Spain by the credit rating firms.

However, we are left to wonder why the credit rating firms, whose performance has been so discredited by the crisis in the USA and elsewhere, are able to rise from the dead and still play the role of “oracle” when it comes to a country’s economic and social policies? It is ironic that at this very moment, the failures of credit rating agencies are center stage at the hearings of the US’ Financial Crisis Inquiry Commission chaired by Phil Angelides. (The Commission is investigating the causes of the global financial crisis that led to the bailout of big banks in the USA.)

In addition, we cannot fail to note that the underlying politics of the austerity programs in Greece and now in Spain (and perhaps ultimately in the other Mediterranean European countries) seem to be part of a larger project to dismantle Europe’s generous welfare state and systems of labor protections. Granted, many of these programs have been in need of serious reconsideration for some time, especially in relation to their financing.  What we see in the Mediterranean countries now is a project that resonates quite strongly with the market-making projects of economic and social reconstruction that Karl Polanyi described in his landmark 1944 book, The Great Transformation.

Many political economists rediscovered Polanyi’s work during the neo-liberal reconstruction of many developing countries over the last quarter century and during the creation of liberal, capitalist economies in so many post-Communist countries.  In Mediterranean Europe now we have another “Polanyi moment” as the least liberal of the region’s economies are being restructured radically in the context of the current crisis. Polanyi wrote of the push back by social actors that accompanies such reconstruction projects, and we are certainly seeing that in the many protests across the European south by the elderly, students, public sector workers, and unions. It remains for us to watch whether this push back will ultimately frustrate or at least slow the austerity programs that are now in place.

2) We’re still waiting for something good to come of the G-20

The G-20 (a grouping of the usual G-8 countries, plus others such as Brazil, China, India, Saudi Arabia, and South Africa) is a product of the financial crisis. It has since become the central body for discussion about the crisis among rich and rapidly growing economies (while the IMF has become the “first responder” to crisis).  In the early days of the crisis, many of us were hopeful that the G-20 would emerge as a more progressive and inclusive voice in discussions of global economic policy.

But so far the G-20 has been a rather tepid affair that seems to resemble not much more than a larger and somewhat more unruly G-8. Granted, the G-20 has taken on issues like increasing the voting power of the developing countries at the IMF and World Bank. However, it has done so in a manner that is disappointing to progressives that have for so long been pushing for significant changes in governance. Despite the real basis for progressive disappointment with the G-20 to this point, we must recognize that the institution is entirely new, and we cannot therefore discount its impact before it has even found its footing (and before new players in the grouping have found ways to operate within it).

The G-20 has two important meetings this month that may give us further insight into the nascent coalition building within it and the kinds of issues on which it ultimately takes a stand.  Right now the G-20 finance ministers and central bank governors are meeting in Busan, South Korea, and then later this month the G-20 national leaders meet in Toronto, Canada. Among the most important issues on the agenda of these meetings are discussions of new restrictions on derivatives trading, the imposition of more stringent capital and liquidity requirements for banks, and the proposal for a global tax on the largest banks (see the IMF interim report that describes this latter proposal). It is noteworthy that the global tax on banks is being supported by the US and the EU governments and by the IMF, though predictably the US’ (and other countries’) financial lobbies are already trying to frustrate these proposals. The Canadian government has come out against the proposal, and so have some developing country members of the G-20, most forcefully Brazil. This fissure is perhaps understandable since banks in Canada and in developing countries did not engage in the kinds of activities that led to the crisis.  It remains to be seen if consensus can be reached on any of the important measures on the G-20’s agenda. If the fissures on financial regulation continue to emerge, if financial interests (as expected) continue to frustrate bold steps that might reduce the likelihood of another major financial crisis, and/or if the meetings conclude only with fuzzy, feel good statements on the need to promote transparency in financial markets, it may give further credence to the disappointment that so many progressives have with the G-20 to this point.

Many Triple Crisis bloggers have been examining the effects of the global financial crisis on decision makers at the IMF, particularly as concerns the policy space of developing countries. In these two interviews, Triple Crisis blogger Ilene Grabel considers the effect of the crisis on the economics profession and, in particular, on the policy advice proffered to developing countries by the IMF during the current financial crisis. Ilene focuses on whether the crisis has created more space for developing countries to implement capital controls, and she also discusses the draft proposals for taxing the financial sector that the IMF has presented to the G20 for consideration at its June meeting in Toronto.

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: Will we finally see an IMF/WB policy that truly acknowledges the rights of the poor and the least developed countries?  Will the reforms of the IMF/WB push for localization and food sovereignty as ways to face poverty?

Grabel: Certainly the IMF/WB have been discussing the poor and the poorest developing countries a good deal of late, especially in relation to the effects of the financial crisis on the most vulnerable. And some of the assistance packages that they’ve negotiated have paid somewhat more attention to the most vulnerable groups, such as pensioners (though concrete financial support for the most vulnerable groups has been pretty scant).

But whether the IMF/WB will move in directions that truly address the needs of the poor and the poorest countries is very uncertain at this point. Indeed, a good deal of the assistance funds provided by the IMF/WB during the current crisis have gone to wealthier countries, especially to struggling countries in Europe and not to the poorest countries in the world.

As far as the IMF/WB pushing for localization and food sovereignty in practical ways, well that, unfortunately, seems to me less likely in the foreseeable future.

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: What is the role of the EU in the changing economic environment of the world?

Grabel: A couple of triple crisis entries have dealt with the EU and its relevance for the development community.  See, e.g., here, here, here and here.

In connection with the specific question posted here, I’d add that how the eurozone ultimately navigates its current difficulties (ranging from the severe contractions being experienced by economies such as Latvia and Estonia; the uncertain state of Greek affairs, particularly involving whether the country will ultimately have to draw on the funds now promised to it by other European countries or perhaps by the IMF with which it is talking now; and whether countries such as Portugal, Spain, and Italy eventually follow down the same road as Greece) will have important implications for the pace of a global recovery, a European economic recovery, and for discussions in the developing world about the form and institutional structure of new regional financial architectures.

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 Financial Transfer Tax (FTT) has received a lot of notice in Europe but few mainstream economists in the US are engaging the issue. Is the FTT a realistic option and is it feasible?  How could it be implemented?  Is the IMF likely to include it in the paper they are preparing for the G20 on options to pay for the economic crisis?

Grabel: Many progressive economists and civil society organizations have come out in favor of a FTT. For example, on this blog, see discussion and references to studies of FTTs, and also see the discussion of a recent study of a FTT referenced in the Bretton Woods Update.

However, an IMF report (prepared as an interim report for the G-20) that was made available just yesterday on the BBC website reveals that the Fund is not throwing support behind a FTT, as many progressives hoped it would.  (See the IMF’s analysis of a FTT on pp. 15-18 of the interim report. The assessment it offers of a FTT seems far more measured than what we might have expected of the Fund, not least because it does not dismiss FTTs as being infeasible on grounds of administrative impracticality, a usual criticism of this policy.)

This same interim IMF report does propose two other kinds of taxes on financial firms that should cause progressives to be pleased.  Under the proposal, all financial institutions would pay a “Financial Stability Contribution” which is a bank levy (initially at a flat rate), and a “Financial Activity Tax,” which would be a tax levied on the profits and pay of financial institutions. These measures are designed to make banks shoulder at least some of the costs of future financial and economic rescue packages.

Robert Preston, BBC Economics Editor says of these proposals, “The proposals are likely to horrify banks, especially the proposed tax on pay.”  In my view, not exactly your grandfather’s IMF.  This shows again that despite the many reasons why we might still press the IMF for change in many dimensions, some of the ideas promoted by the institution are in fact changing — even if change is uneven, slow, and comes in fits and starts.

(Relatedly: see also my response to another question posed in the “Ask an economist” feature:  “Absolute poverty and increasing inequality remain serious issues in spite of WB/IMF development loans, even in countries with high economic growth…..? How can these organizations take steps to move away from the ideology of neo-liberalism towards developing scientifically-based economic policies that are pro-poor?”)

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: Absolute poverty and increasing inequality remain serious issues in spite of WB/IMF development loans, even in countries with high economic growth.  What reforms would you suggest to ensure that aid actually reaches the people who are suffering? How can these organizations take steps to move away from the ideology of neo-liberalism towards developing scientifically-based economic policies that are pro-poor? How can the Bretton Woods Institutions best measure implementation of pro-poor government policies?

Grabel: This question raises a number of very important issues. Tim Wise’s contribution to the Triple Crisis in connection with aid to Haiti, I believe, has broader implications for those seeking to rethink foreign aid, particularly in terms of how it can reach the most vulnerable groups.

In regards to the issue of how the IMF/WB can take steps to broaden their thinking (as far as moving away from neo-liberalism and becoming more pro-poor), well that requires that the institutions open up their hiring practices so that they hire staff that possess more practical experience with the developing world, engage with civil society groups, and that they hire economists and other social scientists that hold a diversity of views.

Of course who leads these institutions in the future matters a lot. In that connection breaking both the monopoly of the US and Europe on the top leadership spots could make a real difference, though certainly it is critically important that whomever is appointed to lead these institutions be open to and encourage debates about development policies. Indeed, many analysts attribute the signs of greater intellectual openness at the Fund today in regards to some matters (e.g., capital controls, inflation targeting, and now some types of taxes on financial firms) to the current Managing Director’s greater degree of intellectual openness (at least compared to his predecessors).

However, even here we know that there may be all sorts of instances wherein the process of changing ideas can be characterized by “two steps forward, one step back.”  We would expect that long-held ideas (especially those that have hardened to the level of ideologies, as fellow triple crisis blogger, Kevin Gallagher notes in a recent Financial Times blog post) have long half lives, and that the process of changing these ideas/ideologies will be met by push back and qualifications of all sorts.

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

Q: What will be the impact of the economic crisis on the financial literacy of the Developing Countries?

Grabel: It may well be that financial literacy in developing countries improves as a consequence of the economic crisis. This may be due to the experiences of rich countries, where it turns out that levels of financial literacy were quite low.

Certainly there are many structural reasons why corporations, municipal governments, and households deployed exotic, opaque and highly risky financing strategies and instruments in the run up to the crisis. And we know that credit rating agencies understood the risks of these instruments and financing strategies to much less of an extent than we would have imagined prior to the crisis. Thus, we may see a reduction in the developing world of enthusiasm for replicating the financial models of the rich countries. This would be a kind of silver lining associated with the current crisis.

It might also be the case that there is more interest in increasing the availability of domestically generated sources of finance in the developing world (in contrast to the tendency to rely on external sources of finance, such as portfolio investment, foreign direct investment, foreign bank loans, remittances). This may be due to the fact that the risks of at least most of these sources of finance have been made plain by the crisis.