Nearly two months after the financial crisis sent markets around the world reeling, leaders from 20 of the world's top industrial and emerging economies are due to meet in Washington on Saturday, Nov. 15, to discuss how to clean up the mess. So far, European officials have talked of the need for sweeping change, yet have agreed only on the need for improved accounting regulations and an early warning system. Brazilian President Luiz Incio Lula da Silva would like to see a complete overhaul of the global financial system to provide a greater role for new powers such as Brazil, India, and South Africa. In the United States, many question whether any promises from the Bush administration will still hold once President-elect Barack Obama takes office in January.
One man whose advice ought to be taken seriously is Paul Martin, who as prime minister and finance minister of Canada presided over financial and banking reforms that has left the country in far better shape than its southern neighbor. Martin tells Foreign Policy's Elizabeth Dickinson that world leaders top priorities should be creating a more inclusive global system, encouraging dialogue, coordinating regulations, and ensuring that market freedom prevails.
Foreign Policy: As someone who has been at the top of a major economy's financial system, where do you think today's ministers and central bankers went wrong in failing to prevent the global economic crisis?
Paul Martin: There was a clear failure of surveillance and regulation in the United States. That was a domestic failure, coupled with a failure to understand the complete seamlessness of the global financial system. When somebody who cant afford it buys a high-priced home in California and subsequently defaults, a continent away a small municipality in Norway goes broke. [Misunderstanding] that connectedness was a failure on behalf of all of those who were involved, certainly in Europe and the United States.
FP: Canada's banks have since been rated the strongest in the world. What's your secret?
PM: The great wave of deregulation and loosening of the [financial] system occurred in the ongoing rivalry between New York and London over which city was going to be the financial capital of the world. At that time, all the G-7 ministers, of whom I was one, were under great pressure to either loosen [or deregulate]. I refused to do this because in Canada we have only six major banks. It was very clear to the superintendent of insurance and me that we simply couldn't afford the risks if one of our banks defaulted. We resisted the siren call of deregulation and in fact tightened up on loan-loss requirements and reserve requirements.
FP: The upcoming financial summit in Washington came at the urging of French President Nicolas Sarkozy, someone who has argued that capitalism as we know it needs rethinking. Whats your reaction to that view?
PM: I think that capitalism's greatest strength is its ability to evolve, and I think that must continue. But we have to understand that its greatest weakness is the ability to go a bit too far. The only answer is ongoing dialogue between regulators, constantly trying to stay, if not a step ahead, at least up to speed with the market. After the Asian financial crisis, the United States declared itself an exception, which is why they got in trouble.
The G-20 leaders should use this meeting to begin the reform of other institutions. The fundamental flaw in the G-8 is that it no longer [includes] the major economies: Brazil, India, and China. Brazil and others are not permanent members; they are only guests by sufferance. This makes no sense. Do what you think is necessary with the Bretton Woods institutions, but for heavens sake, stop keeping half the world out of them! My view is that a vibrant G-20 will become the instrument of reform.
FP: If the world financial system must incorporate economies such as China, Brazil, India, and Russia, what role should those countries play in addressing the current crisis?
PM: Right now they are being asked to participate. [U.S. Treasury Secretary] Henry Paulson correctly pointed out that the overly indebted U.S. consumer cannot carry the world as a buyer of last resort any longer. He asked China to stimulate internal demand and revaluate currency upwards. China is a major holder of U.S. debt. How can you ask China to do this while at the same time shutting the country out of the institutions that are supposed to have the global dialogue? China and Brazil participate in the world economy, but there is a Eurocentric view of the world that says that they shouldnt have a proportionate say in institutions that make [that economy] work.
The cross-exposure to risk within the U.S. economy surprised a lot of people, but what truly stunned them was risk beyond the U.S. border. If the U.S. economy can [create such a crisis] with the failure of its banking system, what will happen in five years when there is a major mortgage meltdown in India? When a Chinese bank goes down? When a sovereign wealth fund speculates imprudently? Those problems will not stay in their countries, just as the United States exported its problem. Thats why it is so important that they be at the table now.
FP: What sort of consensus would you hope emerges from the upcoming summit? What needs to happen at this meeting?
PM: The first reform has to be that the membership [of international institutions] has to reflect the reality of the world. Second, there must be a recognition that ongoing dialogue is more important than the creation of new institutions. And because ultimately the regulation that is going to ensure [financial stability] is going to be on a national basis, we have to ensure that the national reforms complement each other. No country is going to submit its banks or its institutions to an international regulator, but the regulatory community has to ensure that national regulations and national transparency conform to an international standard.
FP: How much does this summit matter, given that U.S. President George W. Bush is leaving office in January? How can any decisions be made without knowing whether there will be buy-in from the next administration?
PM: I dont think it will [distract from the summit]. I think everyone will take this very seriously because the problem is very serious. There will be, I'm sure -- either at the table or certainly behind the scenes -- representatives of Obama's potential government. I think it's a very good thing theyre not waiting [to hold the summit].
FP: What advice would you offer President-elect Obama?
PM: He has a number of priorities. First will be fixing the ongoing financial crisis and the lag time that any potential solutions will have. The second thing is a great desire by the rest of the world to see the U.S. president reach out. These two [challenges] come together hand in glove. We're dealing now with a global financial problem that cannot be solved by the United States alone, and I believe that the G-20 can be the linchpin that will make it all happen.
It is very important that we not ask the G-20 to do what it cant do. But what it can do is to include the reality of the world, meaning China, India. Establishing ongoing dialogue, which has been absent, is absolutely essential to making globalization work.