The "Washington Consensus": Another Near-Death Experience?
Many times, since I first used the phrase in 1989, the "Washington Consensus" has been proclaimed dead, most recently by Prime Minister Gordon Brown of Britain at the press conference following the G-20 summit in London earlier this month. Yet most of the governments of the world seem to be determined to follow the precepts originally enshrined in my ten points under the Washington Consensus heading, irrespective of the ritual condemnations by their leaders.
Some of the critics have doubtless never troubled to read the original and therefore fallen prey to the populist reinterpretation of the Washington Consensus as a neoliberal tract, a reinterpretation endorsed in recent years by figures such as Joe Stiglitz and Naomi Klein. The problem with this interpretation is that there never has been a consensus in Washington or anywhere else in favor of monetarism, "supply-side economics," belief in the ubiquity of perfect competition, the immorality of state action to redistribute income from rich to poor, and the other cranky right-wing doctrines that have been grouped under neoliberalism. There have doubtless been individuals, and even administrations, that espoused such beliefs, but they are as representative of Washington in general—including such Washington-based institutions as the World Bank and International Monetary Fund—as is the neoconservative belief that it is smart policy to spread democracy by invading countries.
In introducing the communiqué of the London summit to the press, the UK Prime Minister Gordon Brown not only declared that the old Washington Consensus was dead but also that it had been superseded by a new consensus achieved in London. This suggests that it is worth doing two things: First, examining Mr. Brown's record on the ten specific points that I included in the original statement of the Washington consensus. (I ignore the populist reinterpretation, which remains—thankfully—as dead as the critics assert.) Second, trying to distill the London consensus of which Brown spoke and comparing it to the original consensus.
To turn to the first of those tasks, my ten points were as follows.
- Fiscal discipline. The notion that governments should eschew inflationary finance and normally seek to raise through the honest mechanism of taxation what they spend. At one time Gordon Brown was an enthusiastic exponent of such honest finance: He even enshrined the doctrine in his rules for the conduct of fiscal policy. Nowadays he is, like everyone else, engaging in fiscal stimulus. I have no objection to this. Exceptional times demand exceptional policies. I remain a Keynesian in the sense that when there is a deficiency of aggregate demand, the government should seek to remedy it. But what has been unforgivable about Gordon Brown's period in office was that he allowed a budget deficit, and even increasing debt/GDP ratios, at the height of the last boom. This behavior would certainly have been condemned by the Washington Consensus. It is a pity that Gordon Brown ignored it. I grade him B- on this.
- Redirection of public expenditure. The Washington Consensus was supposed to represent a consensus and therefore did not take a position on whether an excessive deficit should be remedied by cutting public expenditure or increasing taxation. What it did affirm is that such public expenditure as was to be undertaken should be directed to worthwhile objects, like health, education, and infrastructure, rather than (as is so often the case) to defense, bureaucracy, or subsidizing the output of state-run industries. Gordon Brown's tenure in office has witnessed a considerable increase in the proportion of public expenditure going to health, so his record on this one is respectable. Does he wish to condemn it? Grade: B+.
- Tax reform: expanding the tax base and cutting marginal tax rates. The idea was to improve incentives without worsening income distribution. As Chancellor of the Exchequer, Mr. Brown cut marginal tax rates slightly, but he did not do a great deal to expand the tax base, e.g. by risking the City of London's status as a tax haven by joining in the Continental war on tax evasion. With luck Prime Minister Brown may be swept along by President Obama's evident concern about cracking down on tax havens. But up to now a grade of C+ seems appropriate.
- Financial liberalization. I have already expressed two mea culpas on this subject: first for initially referring to interest-rate liberalization rather than the more general term used above (though I was certainly thinking of domestic financial liberalization rather than the freeing of all capital flows), and second for failing to accompany the advocacy of liberalization with a reminder of the need to improve supervision and regulation. Gordon Brown presided over one of the world's freest financial systems. If one criticized him, it would be for his excessive enthusiasm for the system, not for a failure to liberalize; his failure would be a failure to install and maintain an effective system of supervision and regulation. Grade: B.
- A competitive exchange rate. I have argued recently that the equilibrium exchange rate for the pound in terms of the euro (the currency of Britain's main trading partners) almost certainly lay in the range of 1.3 to 1.5 (in Ten Years of the Euro: New Perspectives for Britain). Personally I would pick a number of about 1.3, but there are serious analysts who would prefer a stronger pound. Chancellor Brown took office with a pound that was weak by those standards, but it subsequently became (and remained for a lengthy period) far too strong before its recent collapse. In no case did Gordon Brown make the slightest effort, by market or oral intervention, let alone by urging that the United Kingdom join the euro in its initial phase, to guide the exchange rate to a more appropriate level. I consider a grade of C to be generous.
- Trade liberalization. The United Kingdom likes to regard itself as a leading force for trade liberalization, and its record has generally been constructive. However, it is not perfect: For example, the United Kingdom is a member of the European Union, and the European Union recently increased export subsidies on dairy and a number of other agricultural products. It therefore has to be counted as one of the 17 participants of the Washington G-20 that broke the Washington trade pledge. The rating can therefore be no more than B.
- Liberalization of inward Foreign Direct Investment (FDI). The Washington Consensus was developed for an era and a continent in which many countries were still resisting the entry of FDI. Britain had long since abandoned all restrictions on both inward and outward FDI, and this sensible stance was maintained under Chancellor Brown and Prime Minister Brown. Grade: A. (But this was an easy one for Britain.)
- Privatization. Britain started the worldwide trend to privatize state industries under Prime Minister Margaret Thatcher, and this was the one novelty introduced by Thatcher that outlasted her. The desire to privatize was maintained by the "New Labour" governments in which Brown served. Criticism would not be that there had been a failure of the will to privatize, but that policy was determined by a fear of being tarred by association with state industry rather than by pragmatism. For example, Chancellor Brown espoused public-private partnerships as a way of escaping the rigors of his fiscal rules even though they were going to increase the cost of essentially public investment, and Prime Minister Brown refused to nationalize Northern Rock long after it had become obviously necessary. Grade: B.
- Deregulation (in the sense of abolishing barriers to entry and exit). There was no major example of deregulation under the New Labour governments, but the cases of reregulation were minor. Grade: A-.
- Property rights. The initial Washington Consensus was concerned with extending property rights to the informal sector, which is hardly relevant in Britain. Property rights in Britain are well established and were respected by the New Labour governments. Once again a grade of A is merited, but it demanded no action.
Those were the original ten points of the Washington Consensus. One wonders whether Prime Minister Brown disagrees with many of the judgments expressed above, although presumably he joins conventional wisdom in rejecting the view expressed that what matters about an exchange rate is that it be at roughly the right level rather than whether it is fixed or floats. But would he really wish to defend his expansionary fiscal policy at the height of the last boom? Is he still proud of doing so little to oblige the dishonest to pay a fair share of taxes? Has he recognized that it was the failure to install an effective system of regulation and supervision of the financial sector in which he was complicit that is responsible for the severity of the current crisis?
President Obama in his press conference was asked two questions about the Washington Consensus, but he answered only one of them by commenting on it. His answer indicated that he believed many adherents of the Consensus tend to hold that problems can be resolved by a "cookie cutter" approach to economic policy; presumably that it is necessary and sufficient to obey the ten injunctions stated above. The key question is whom this criticism can legitimately be directed at. Perhaps adherents of the Washington Consensus are more prone to this error than others, but this has yet to be demonstrated. Certainly there are those who have emphasized that the propositions need to be supplemented by a number of others, which will differ depending upon a country's individual circumstances (see, e.g., my article in After the Washington Consensus: Restarting Growth and Reform in Latin America, p.19). Similarly, it is difficult not to believe that the relative emphasis to be given to different injunctions will depend upon a country's individual situation. After his initial characterization, President Obama went on to a measured discussion of the spectrum of opinion about how unfettered a free market should be.
The London communiqué, which summarized agreements among the leaders who met in London, included a pledge to work toward a "new global consensus on key reforms and principles that will support sustainable economic activity" (paragraph 21). To judge by what was contained in the London communiqué, one can already anticipate a number of the topics that will be judged to merit inclusion, such as:
- Globalization. It is quite apparent, from paragraph 3 (which contains a forthright declaration that "prosperity is indivisible") through the rest of the text, that our current leaders have no intention of retreating from the globalization of the past decades. The importance of maintaining an open trading system is subsequently stressed in paragraphs 12, 22, 23, and 24.
- Shared prosperity. Once again, the tone-setting paragraph 3 makes it clear that what matters is not just prosperity for the rich and powerful, but prosperity for all. The importance of caring for those least able to care for themselves is subsequently taken up in paragraphs 25 and 26.
- Market principles. Paragraph 3 mentions three foundations (apart from openness) of sustainable globalization and prosperity. The first of these is endorsement of market principles.
- Regulation. The second foundation mentioned in paragraph 3 is "effective regulation," and this is further discussed in paragraphs 13 to 16 and in the accompanying Declaration on Strengthening the Financial System and the Report of a Working Group on Enhancing Sound Regulation and Strengthening Transparency. In his press conference Prime Minister Brown said that the leaders had agreed on principles for reform of the global banking system. It is rather sad that the leaders had evidently not decided much in the way of the principles that need to underlie effective regulation. There is a nod in the direction of making regulation less procyclical, but no recognition of the desirability of discouraging institutions from making themselves too big to be allowed to fail or of penalizing institutions that fund long-term assets with short-term liabilities. The leaders are much clearer about the desirability of including systemically important hedge funds and credit rating agencies among the entities to be overseen, making derivatives tradable in organized markets, the need to revise accounting rules, and they even try to specify some principles of bankers' compensation.
- Strong global institutions. This is the final foundation mentioned in paragraph 3. To those of us who grew up thinking of the global institutions as a part of the blueprint of the future, it is a relief to find this strong affirmation of their potential importance rather than the ritual denunciations that had become routine among populists in recent years.
- The environment. Paragraphs 4, 27, and 28 make it clear that the leaders are under no illusions about the possibility of achieving continued growth while continuing to ignore the environment. However, they have left the hard decisions to be reached in Copenhagen in December.
- Fiscal discipline. While the current emphasis is quite rightly on the need to expand budget deficits, there is explicit acknowledgment in paragraphs 10 and 11 of the importance of long-term fiscal sustainability (and therefore of long-term fiscal consolidation).
What might be added to this list? Clearly one might wish to speak of long-term monetary discipline too, although the closest the summit communiqué got to this was in mentioning the importance of an exit strategy. But one can be pretty sure that, if they were discussing monetary policy under more normal circumstances, they would wish to restate advocacy of inflation targeting, and this may well make an appearance in the putative global consensus. Perhaps they will make more of an issue of the desirability of policy being framed as anticyclical. Perhaps they will choose to emphasize their evident desire (expressed in paragraph 15 of the London communiqué) to prevent dishonest citizens and corporations from evading their fair share of taxes by using tax havens. Or perhaps they will pursue what seems to me an unrealistic desire for an early warning system against economic and financial crises (also mentioned in paragraph 15). But in the light of the London communiqué I would be surprised, and disappointed, if any of the seven points listed above were unmentioned.
In his press conference, Prime Minister Brown chose to list six points of agreement. He led off with regulation (our point 4). His second issue was cleaning up the banks and a common global approach to dealing with toxic assets. Presumably this was a reference to paragraph 8 of the communiqué, which is largely in the past tense about actions that have already been taken, although it also contains a pledge to do anything further that is needed. But it clearly would not be an appropriate part of a new global consensus. The third point refers to that part of the communiqué that deals with recovery, which again would not figure in a new global consensus, except perhaps in a more general anticyclical context. The fourth point is about the global institutions, and his fifth point about trade (our points 5 and 1). It is not quite clear from the text whether his last point was fairness (our point 2) or greenery (point 6), but in either event it is covered by our list. He did not cover all the points in our putative new consensus, whether because of limited time or because he preferred not to talk of (e.g.) fiscal discipline.
A last question concerns the relationship of this list to what I termed the Washington Consensus 20 years ago. Obviously they are not the same. There are several issues that were not included in the Washington Consensus: shared prosperity, regulation, strong global institutions, and the environment. In the case of shared prosperity (income distribution) there was no inclusion in the Washington Consensus because, rightly or wrongly (I fear rightly), I did not judge that the fate of the poor commanded a particularly high priority in the Washington of that day. In the case of financial regulation there was no mention because, I regret to say, I overlooked its importance. In the case of strong global institutions there was no mention because this was an agenda directed to Latin America, and Latin America's voice is not dominant in the governance of those institutions. The environment was absent because, happily in this respect, times have changed. But the remaining three issues—globalization, market economy, and fiscal discipline—are essentially the three headings under which I traditionally summarized the Washington Consensus.
In sum, the London communiqué is better regarded as a development than as a refutation of the Washington Consensus. Only those who have bought some alternative interpretation of the Washington Consensus, such as the populist view that it is a neoliberal manifesto rather than the expression of a consensus view widely held in Washington, could doubt this. But it is a development that is to be warmly welcomed; it has for long been clear that the Washington Consensus was highly incomplete as a development manifesto, and a number of the topics with which it needs to be supplemented are included in the London communiqué.
For more on the "Washington Consensus" see the recent Washington Post conversation with John Williamson.