POWER’s five experts describe the challenges we face in 2009 – to secure our planet and our prosperity

Solving global warming is the world community’s No 1 problem

THE COMING YEAR will be a narrative of tension – a series of difficult choices between the imperatives of the present and those of tomorrow. How we resolve this tension will be the measure of our vision and our leadership.

As a community of nations, we face three immediate tests in the coming year. The first has just begun. Not the global financial crisis, important as it is. I am speaking, here, about climate change, the one truly existential threat.

We have only 12 short months until a key summit in Copenhagen, where world leaders will gather next December to reach an agreement to curb global warming. We need a deal that will extend, deepen and strengthen the Kyoto Protocols. We need a new treaty for the 21st century that is balanced, inclusive and comprehensive – one that all nations can embrace.
We took an important step in early December in Poznan, Poland, where climate ministers and experts met to hammer out a work plan toward the future. The negotiations were difficult. They promise to become even more so. Some argued that, amid our current difficulties, we can’t afford to tackle climate change. I say we can’t afford not to. The future of the planet is at stake.

Our second test is economic. Clearly, we need a global stimulus. Major economies have responded to the current crisis with ambitious fiscal and monetary rescue plans. The emergency G-20 summit in Washington in November showed that governments are working together to coordinate policies. Those efforts were broadened at a more recent meeting in Doha.

All of this is welcome. But we need to do more. Above all, we need to think boldly and freshly. If we are to spend our way out of the financial crisis, we should be smart about it. And that means that these expenditures must be investments. They must be sustainable, so that we are not merely throwing money at problems but, instead, are using those funds to lay the foundations of a more stable and prosperous future.

China has shown leadership. Fully one-third of its recently announced US$586 billion economic stimulus program will be channeled into green growth and infrastructure. The Chinese have seized an opportunity to address several challenges at once – to create jobs, conserve energy and combat climate change. The United States under President Barack Obama plans to do the same.

These policymakers know that investment in alternative fuels and eco-friendly technologies will deliver a massive future pay-off in terms of a safer environment, energy independence and sustainable growth. But they also know that green investment can produce jobs and spur growth in the here and now. Other nations should follow suit. We will never usher in an era of sustainable prosperity in the absence of a big, global push, with all nations moving in the same direction. If ever there were a time for bold and ambitious vision – a chance to chart a new and better path – it is now.

Our third test is a matter of pragmatic principle. Climate change and global finance are not our only crises. Indeed, they compound other threats: food insecurity, volatile energy and commodity markets, and the terrible persistence of poverty. No nation has been spared. But it is the poorest nations that feel these blows most sharply.

If not handled correctly, today’s financial crisis will become tomorrow’s human crisis. Social unrest and political instability will grow, exacerbating all other problems. The danger, ultimately, is a cascading series of crises, each building on the others, with potentially devastating consequences for all.

During the coming year, therefore, we must act in a spirit of global solidarity. Measures we take to deal with the financial crisis must be in the interests of all nations – the poorest as well as the rich and powerful. Aid programs for developing nations should be considered a part of any global stimulus and long-term economic recovery plan. At the very least, that means not using the financial crisis as an excuse to reduce international aid and development assistance. We must honor our commitments under the Millennium Development Goals as a pragmatic as well as a moral responsibility.

We stand on the threshold of a new multilateralism. The pendulum of history is swinging back toward the United Nations and collective action. The challenges we face as a community of nations today are increasingly those of collaboration and cooperation: fighting climate change, rebuilding the global financial system and promoting sustainable development.

In this interconnected world, the challenge is to see the nexus among these three sets of problems. With vision, we will find solutions to each that are solutions to all. But it will take leadership to translate that vision into action, just as it will take leadership to balance our larger long-term interests against the fierce urgencies of now.

Ban Ki-moon is Secretary-General of the United Nations

The mainland is well placed to weather the current financial maelstrom

FOR THREE DECADES, China has been growing at an average annual rate of 9.8 percent. For most of this time, world markets were favorable, with no major global economic or financial crisis or slowdown. Yes, there were regional crises such as Asia’s financial turmoil of 1997-1998 or the collapse of Japan’s housing bubble in 1990 and America’s high-tech bubble in 2000. But none of these proved a serious obstacle to China’s long boom.

The past three months, however, have seen a significant slowdown in China’s exports, domestic investment, industrial output and tax revenues. A major slowdown seems to be looming. Will China’s rapid growth persist?

I believe it will. Within China, the current slowdown is mostly homemade. Since 2004, China’s government has sought to cool an overheating economy by bringing the growth rate down from 12 percent to a more sustainable eight to nine percent. It even began to tax exports in order to reduce the trade surplus.
Of course, if Chinese policymakers could have predicted what has now happened in the world economy, they might have been less stringent in trying to rein in growth. But one reason that China has been able to maintain growth over the past 30 years is that it started counter-cycle macroeconomic intervention during the boom times, rather than waiting for a collapse. China’s government never believed that it should leave what happens in the economy solely to the market. When there is no big bubble, there is no need to worry about a big crisis.

Another reason that China’s strong growth is likely to continue is that its economic fundamentals are sound. All the factors that encourage high growth remain in place: low labor costs, education, high savings, improving infrastructure and rapid urbanization. Moreover, China’s fiscal position is one of the best in the world. Government deficits rarely exceeded three percent of GDP in past decades, and there were surpluses in recent years. Indeed, the government debt-to-GDP ratio is about 20 percent, compared with more than 80 percent in the United States, 160 percent in Japan, and 60 to 90 percent in Europe.
Monetary policy has been prudent, and the threat of inflation has now been lessened by the decline in commodity and oil prices. The international balance of payments remains in surplus, and there is still a net capital inflow despite the global credit crunch. Official foreign exchange reserves will soon reach US$2 trillion. Thus, policymakers have ample room to maneuver if anything should go wrong.

The recent $568 billion fiscal stimulus package, which will be spent on railway expansion, subway construction, low-budget housing programs for the poor, irrigation systems, rural social security and health care, will add a few percentage points to growth over the next couple years. With monetary policy and some of the administrative controls on investment and local spending being relaxed, the slowdown should be brief.

But it is not all good news in China’s economy, because low consumption remains a big weakness. Household consumption only accounted for 34 percent of GDP and total consumption is less than 50 percent of GDP in 2007.  That weakness, however, is institutional and cannot be easily corrected in the short run.
So, with its domestic economy basically secure, is there anything China can do to help the world economy? If China can manage to maintain real growth at eight percent per annum over the next two years, emerging markets may be able to grow at four percent. That may prevent the world economy from falling into recession. Indeed, China now looks like it can play the role of “growth anchor.”

But China should not be expected to do too much more. World financial stabilization, for example, is not something China can do much to help directly. China played little part in the global derivatives markets, and does not have much toxic securities to clean up or banks to save in order to unfreeze credit flows. Perhaps China should use its $1.9 trillion official reserves to buy more foreign debt, but this huge asset pool is already heavily loaded with foreign sovereign bonds, so any increase can only be incremental. China is also probably unsuited at the moment to play a central role in reforming the global financial and monetary system in 2009 because it has not yet fully liberalized its capital accounts and financial system. So Chinese negotiators would rather play a supporting role and let others, both developed and developing countries, take the lead in most issues concerning risk control and regulations.

But China is likely to increase its voice on one issue – the US dollar’s status as global reserve currency. China has been criticized in the past for allegedly manipulating its exchange rate, because it did not revalue its currency as much as the US demanded. So China might like to see, for example, amendments to the IMF mandate or the addition of a “chapter” to the IMF’s working agenda that discipline America’s money supply and debt accumulation. In China’s view, it is not enough merely to require others to accommodate themselves to dollar devaluation.

As a developing country with $2,500 per capita income and 35 percent of its labor force still in agriculture, where workers earn only about $600 per year, China’s domestic problems remain enormous. Thus, development will continue to be the top priority, including the development of China’s own financial market.

The good news is that China recognizes how much it has benefited from the marketization and openness of the past 30 years. There is no turning back on its path toward full involvement in the global market, despite the current crisis. Indeed, the real challenge for China in the year ahead will be to find ways to deal with growing global protectionism as the financial crisis and economic recession bite ever deeper in its main foreign markets.

Fan Gang is Professor of Economics at Peking University and the Chinese Academy of Social Sciences

The new president must deal with the past while charting a new future

MANY PEOPLE WILL try to set President Barack Obama’s priorities, but one person is sure to have a major effect. George W Bush has bequeathed an unenviable legacy: an economic crisis, two wars, a struggle against terrorism and problems across the Middle East and elsewhere. If Obama fails to fight these fires successfully, they will consume his political capital, but if all he does is fight them, he will inherit Bush’s priorities. The new president must deal with the past and chart a new future at the same time.

Foremost on Obama’s agenda will be the economic crisis, where his domestic and international priorities intersect. He will need to stimulate the economy and avoid protectionist pressures at home, while also taking the lead in restructuring the global financial system. Cooperation with others will be essential. That Bush convened a G-20 meeting in November sets a useful precedent of going beyond the G-7 to include emerging economies such as China, India and Brazil.
In second place must be America’s two current wars. Obama campaigned on a promise to withdraw American combat brigades (but not troops engaged in training and counterterrorism) from Iraq by mid-2010. Now the Bush administration and the Iraq government have signed an agreement for troop withdrawal by late 2011. These timetables’ effectiveness will depend on events on the ground, including political compromises inside Iraq and dialogue with Iraq’s neighbors, but a clear sense of direction has been established.

Afghanistan looks more difficult, given the Taliban’s reinvigoration with help from groups in Pakistan. Obama has called for additional United States and NATO troops to stabilize the situation, but too many foreign troops will only increase Afghan nationalist reactions. We cannot simply shoot our way out of the problem. Increased training of the Afghan army and police, and a political dialogue inside the country and with neighbors will be important components of any solution.

The third priority will be what Bush misleadingly called a “global war on terrorism.” The Obama administration will have to pursue the struggle against Al Qaeda, but should drop the war rhetoric. It makes little sense to declare war on a tactic, and experience has proven that the terminology merely reinforces the narrative that bin Laden seeks to promote, which is why Britain now avoids the phrase. A successful strategy against Al Qaeda will require close intelligence cooperation with other countries and policies that attract the support of mainstream Muslim opinion.

The Middle East represents a fourth set of urgent priorities. Iran has now enriched enough uranium to produce (in principle) one nuclear bomb. Nonetheless, there remains time for a diplomatic initiative that includes Europe, Russia and China. Given the unattractiveness of choosing between a pre-emptive attack on Iran or allowing Iranian nuclear weapons to destabilize the Gulf region, Obama has pledged to conduct a broad diplomatic dialogue with Iran without the preconditions that hampered Bush.

But successful diplomacy will require repairing relations with Russia. Also high on the priority list in the Middle East will be to sustain and enhance Bush’s efforts to bring about a two-state solution between Israel and Palestine, and to encourage the incipient dialogue between Israel and Syria.

Major issues will also arise in Africa, Latin America and Asia, and relations with these areas will grow in importance. Fortunately, none of them became political footballs in the recent election campaign. In Asian policy, with the exception of North Korea, the Bush legacy is better, bequeathing good relations with the key states of Japan, China and India.

The “Bush Doctrine” of preemptive war and coercive democratization, coupled with a unilateralist style, was based on a flawed analysis of power in today’s world. The paradox of American power is that the strongest country since the days of Rome cannot achieve its objectives acting alone.

Obama’s election has done much to restore American “soft” power, but he will need to follow up with policies that combine hard and soft power into a smart strategy of the sort that won the Cold War. Democracy promotion is better accomplished by soft attraction than hard coercion, and it takes time and patience.
Here Obama should lead by example and remember the historical wisdom of being Reagan’s “shining city on a hill.” Closing the prison camp at Guantánamo Bay would send such a signal. Right now, Bush’s calls for democracy are heard as an imperial imposition of American institutions. We need less Wilsonian rhetoric about making the world safe for democracy, unless combined with John F Kennedy’s calls to “make the world safe for diversity.”

A “liberal realist” policy should look to the long-term evolution of world order and realize the responsibility of the international system’s strongest country to produce global public goods – things people and governments around the world want but cannot otherwise attain – as Britain did in the 19th century. America should similarly promote an open international economy and commons (seas, space, Internet), mediate international disputes before they escalate and develop international rules and institutions. Early signals that the US will take the lead in dealing with global climate change will be an important start.

The US can become a smart power by once again investing in global public goods. That means support for international institutions, aligning America with the cause of international development, promoting public health, increasing cultural exchanges, maintaining an open economy and dealing seriously with climate change. Indeed, Obama’s most important priority must be to show that America is back in the business of exporting hope rather than fear.

Joseph S Nye, a former US Assistant Secretary of Defense in the Clinton administration, is currently a professor at Harvard University

For innovation and entrepreneurship, only one system works

AS 2008 CAME to a close, many Europeans began to speak about the end of capitalism. They forget that capitalism in Europe had already once given way – often violently – to statism and corporatism in the 1930s, to be revived in only a handful of countries in the 1980s.

In view of the current financial crisis – the latest in a series that capitalism has seen – it is fair to ask whether the benefits of capitalism, if any, still exceed the costs. Although Marx confessed considerable admiration for capitalism, it is now suggested that the good in it – entrepreneurship – can be genetically engineered in another sort of system without the destructiveness to which capitalism is predisposed.

Capitalism was first admired for being “progressive,” as Marx put it. When productivity rose, it did not fall back again. In fact, with the emergence, piece-by-piece, of finance capitalism, circa 1820, productivity took off in one European country after another – Great Britain, Belgium, France, Germany and Austria. Productivity sped up even more – began rising even earlier – in the United States. The paltry historical data available for analysis suggest that, around 1820 or so, wages (adjusted down for bouts of inflation in prior decades and up for deflation in subsequent decades) took off in a similar fashion.

Nowadays, there is a respectable body of opinion that questions whether growth in productivity beyond the towering levels seen today is of any great value compared to the fearsome costs that are taken as given in most discussion. But, in my thinking and empirical research, this fashionable hypothesis cannot stand.

First of all, Europeans think of capitalism as the “free market” – laissez-faire. But capitalism means openness to bottom-up innovation. Capitalism does not per se threaten anyone’s welfare benefits.

The fashionable hypothesis denies even the most obvious benefit. I concede that the salaries of my overpaid friends are high enough to meet virtually all of their foreseeable needs. Even my own salary suffices to meet my own. But increases in productivity almost always lead to increases in pay across the economy. And increases in the general pay level have a social value that is of huge benefit.

These increases make it possible for more people to shun dull, tedious, or onerous work in favor of stimulating, engaging and mind-expanding work. The “dark Satanic mills” of Marx’s era are gone thanks to greater productivity, not greater state regulation.

The other difficulty with that fashionable hypothesis is that most of the alleged costs are illusory or trumped up. The idea that a well-functioning capitalism makes for a weak job market, leading to higher unemployment and lower participation in the labor force, cannot be substantiated. On the contrary, the innovations stimulated and facilitated by capitalism create jobs – in new companies started to develop new ideas in marketing and in managements that must keep abreast of new organizations and tools.

The idea that ordinary people are anguished by the thought that other people have extraordinary wealth is also cultivated in fashionable circles without the presentation of any evidence. Most people are practical enough to see that when, say, they have to go to the hospital for tests, what matters is whether the right kind of diagnostic machine is there for them, not whether there is a better machine for others somewhere else.

True, capitalism creates disruption and uncertainty. But we should not lose sight of the other side of that coin. Capitalism is unique in stimulating entrepreneurs to dream up new commercial ideas and develop them for the market, and generating excitement for consumers in discovering the new.
Perhaps the greatest accomplishment of capitalism was in transforming the workplace from one of routine, and thus boredom, into one of change, mental stimulus, challenge, problem solving, exploration and sometimes discovery. True, the assembly line, a brain-numbing experience, was a feature of capitalism from the pin factory that Adam Smith wrote about in 1776 until Henry Ford’s giant plants in the 1920s. But communist Russia and socialist Europe could not afford to do without assembly lines, either. And, thanks to productivity growth, an ever-larger share of jobs lay outside factories as well as farms.

By the end of the 19th century, Europe, from Vienna and Berlin to Paris and London, was already celebrating the transformation of business life. Of course, they saw that this excitement and engagement came at some cost in inconvenience and anxiety. But the majority did not wish to return to the tranquility of the past.

Yet return they did, though not intentionally, when statist and corporatist changes in the institutions of the economy curbed innovation and ambition, with the result that the workplace in Europe became once again as stultifying as it had been in the past.

Today, sophisticated and well-meaning people suggest that we can revive entrepreneurship, but in a way that imbeds it in a new economy oriented toward social investment – to combat global warming, to develop energy savings and so forth. The trouble with that type of thinking, I believe, is that it will bureaucratize the economy, putting much of expenditure in government agencies and putting many companies on government contracts.

In itself, that may be no problem. But it will be if it stifles the ability of individuals to create innovations for an open marketplace. There was a natural experiment in the 1930s that tested this thesis: the newly bureaucratized economies of Western Europe were heavily out-innovated by the relatively unbureaucratized US economy.

So, while 2008 was a year of challenge for the world economy, I am sure that those countries that value innovation are well advised to keep capitalism.

Edmund S Phelps, Director of the Center on Capitalism and Society, Columbia University, won the 2006 Nobel Prize for economics

America spirals downward – and the rest of the word is going along for the ride

I HAVE LONG been forecasting that it was only a matter of time before America’s housing bubble – which began in the early days of this decade, supported by a flood of liquidity and lax regulation – would pop. The longer the bubble expanded, the larger the explosion and the greater (and more global) the resulting downturn would be. 

Economists are good at identifying underlying forces, but they are not so good at timing. The dynamics are, however, much as anticipated. America is still on a downward trajectory for 2009 – with grave consequences for the world as a whole.

For example, as their tax revenues plummet, state and local governments are in the process of cutting back their expenditures. American exports are about to decline. Consumer spending is plummeting, as expected. There has been an enormous decrease in (perceived) wealth, in the trillions, with the decline in house and stock prices. Besides, most Americans were living beyond their means, using their houses, with their bloated values, as collateral. That game is up. 

America would be facing these problems even if it were not simultaneously facing a financial crisis. America’s economy had been supercharged by excessive leveraging; now comes the painful process of deleveraging. Excessive leveraging, combined with bad lending and risky derivatives, has caused credit markets to freeze. After all, when banks don’t know their own balance sheets, they aren’t about to trust others’. 

The Bush administration didn’t see the problems coming, denied that they were problems when they came, then minimized their significance, and, finally, panicked. Guided by one of the architects of the problem, Hank Paulson, who had advocated for deregulation and allowing banks to take on even more leveraging, it was no surprise that the administration veered from one policy to another – each strategy supported with absolute conviction, until minutes before it was abandoned for another. Even if confidence really were all that mattered, the economy would have sunk.

Moreover, what little action has been taken has been aimed at shoring up the financial system. But the financial crisis is only one of several crises facing the country: the underlying macroeconomic problem has been made worse by the sinking fortunes of the bottom half of the population. Those who would spend don’t have the money, and those with the money aren’t spending.

America, and the world, is also facing a major structural problem, not unlike that at the beginning of the last century, when productivity increases in agriculture meant that a rapidly declining share of the population could find work there. Nowadays, increases in manufacturing productivity are even more impressive than they were for agriculture a century ago; but that means the adjustments that must be made are all the greater.

Not long ago, there was discussion of the dangers of a disorderly unwinding of the global economy’s massive imbalances. What we are seeing today is part of that unwinding. But there are equally fundamental changes in the global balances of economic power: the hoards of liquid money to help bail out the world lie in Asia and the Middle East, not in West. But global institutions do not reflect these new realities.

Globalization has meant that we are increasingly interdependent. One cannot have a deep and long downturn in the world’s largest economy without global ramifications. I had long argued that the notion of decoupling was a myth; the evidence now corroborates that view. This is especially so because America has exported not just its recession, but its failed deregulatory philosophy and toxic mortgages, so financial institutions in Europe and elsewhere are also confronting many of the same problems. 

Many in the developing world have benefited greatly from the last boom, through financial flows, exports and high commodity prices. Now, all of that is being reversed. Indeed, it is the ultimate irony that money is now flowing from poor and well-managed economies to the US, the source of the global problems.
The point of reciting these challenges facing the world is to suggest that, even if President Obama and other world leaders do everything right, the US and the global economy are in for a difficult period. The question is not only how long the recession will last, but what the economy will look like when it emerges.
Will it return to robust growth, or will we have an anemic recovery, à la Japan in the 1990s? Right now, I cast my vote for the latter, especially since the huge debt legacy is likely to dampen enthusiasm for the big stimulus that is required. Without a sufficiently large stimulus (in excess of 2 percent of GDP), we will have a vicious negative spiral: a weak economy will mean more bankruptcies, which will push stock prices down and interest rates up, undermine consumer confidence and weaken banks. Consumption and investment will be cut back further.

Many Wall Street financiers, having received their gobs of cash, are returning to their fiscal religion of low deficits. It is remarkable how, having proven their incompetence, they are still revered in some quarters. What matters more than deficits is what we do with money; borrowing to finance high-productivity investments in education, technology or infrastructure strengthens a nation’s balance sheet.

The financiers, however, will argue for caution: let’s see how the economy does, and if it needs more money, we can give it. But a firm that is forced into bankruptcy is not un-bankrupted when a course is reversed. The damage is long lasting. 

If Obama follows his instinct, pays attention to Main Street rather than Wall Street, and acts boldly, then there is a prospect that the economy will start to emerge from the downturn by late 2009. If not, the short-term prospects for America, and the world, are bleak. 

Joseph E Stiglitz is a professor of economics at Columbia University and recipient of the 2001 Nobel Prize in Economics