The much-awaited G-20 summit in Pittsburgh was overshadowed by the surprise announcement of Iran's underground nuclear facility. But the summit was notable for defining a new economic direction to be taken by the United States and its partners.
The leaders pledged to work for a "strong, sustainable, and balanced recovery" from the global economic crisis. The importance of that pledge lies in the fact that a failure by President Obama to honor it could cause new conflicts with China, the Europeans, and other allies. Honoring it, on the other hand, could get Obama into difficulties at home with his own allies among Democrats.
Before getting into the difficulties that lie ahead, it may be useful to summarize the main achievements at Pittsburgh. Among them were:
- a pledge by the major economic powers to rebalance their economic models and to critique each other's efforts;
- a commitment to overhaul financial regulation with new capital requirements, curbs on reckless borrowing, liquidity minimums, and executive compensation limits for major financial institutions, especially those deemed "too big to fail";
- a repetition of past G-20 disavowals of protectionism in trade and a half-hearted promise to expand world trade in the future;
- an endorsement of the goal of agreeing to push for climate change progress at Copenhagen in December by promising to reduce subsidies that encourage energy use and provide development assistance to poor countries to reduce carbon emissions;
- a promise to expand the role of China, India, Brazil, and other emerging powerhouses in the International Monetary Fund, the World Bank, and other international financial institutions-underscored by the decision to replace the old G-7 with the new G-20 as the steering committee of the global economy.
Obama's challenges in fulfilling these objectives dwarf the difficulties he has faced so far as president. Think, for example, about what lies ahead next year, even if he achieves some kind of healthcare reform this year. As early as the coming winter, Obama will need to pursue an "exit strategy" from the massive government intervention in the economy of the last year and a half.
Such a strategy will entail withdrawing the massive government intervention and participation in the financial sector and aggressive efforts to close the budget deficit through spending cuts and tax increases. On a parallel track, the Federal Reserve will need to raise interest rates and start to close down its lending windows to the private sector.
To tackle its current account deficit the United States will need to dampen consumption and raise the US saving rate, in part by reducing the federal fiscal deficit. Even if the US saving rate continues to improve, the only way to meet the needs of that deficit will be to borrow from overseas. Yet it is hard to imagine Obama presenting to Congress a series of tough fiscal austerity measures, and saying that Congress must act-simply because he pledged to take the United States on that path in Pittsburgh.
Compounding this challenge is that the regulatory course charted by the Pittsburgh summit leaders will, if carried out, essentially rein in the major American financial institutions, possibly putting them at a competitive disadvantage with other institutions around the world. To overcome that problem, the Obama administration is going to have to win assent from American allies to negotiate a regime that Treasury Secretary Timothy Geithner has outlined: a scheme in which the bigger the institution, the higher capital minimums and reserves they have to live with.
France and Germany are resisting such a scheme. Their endorsement of it in Pittsburgh only means that there will be a vigorous fight over setting the details. The administration is trying to negotiate a framework of rules that do not hamper American institutions competing with Asian and European counterparts. But European banks in particular do not want to live under the tight controls proposed by Geithner. They argue, not without justification, that the United States is guilty of lax enforcement of the rules in recent years and is in no position to lecture the rest of the world.
Even without the Pittsburgh commitment, the Obama administration would be facing foreign pressure to reduce the federal deficit-from China, Japan, the petrostates in the Middle East, and others who have invested in American treasury securities in recent years. That is what happens when you owe trillions of dollars to your trading partners after years of importing more goods than you export. The Chinese have already taken an unusual interest in asking American officials to explain how they plan to control federal spending in coming years. The fear among some is that a loss of confidence in federal solvency could lead to an overly rapid process of countries diversifying their portfolios of foreign exchange away from the dollar and toward other currencies. That could lead to a decline in the dollar's value, accelerating the trend of dumping dollars still further. To defend the dollar, the United States would have to raise interest rates, slowing its economic growth potential.
Pledging an orderly move toward smaller and less dangerous current account imbalances was an important element of the Pittsburgh leaders' statement. But so was the renewed commitment to free trade. President Obama dismayed China and others when he imposed tariffs recently on Chinese tires. He did so under an American law that would in theory allow him to do the same for a range of other Chinese products. And while a retaliatory trade war with China is possible, Obama is under more pressure than ever from steelworkers and other unions to apply the principle of the tire tariffs to steel and a huge range of other products.
Germany, meanwhile, has made clear that it has no intention of abandoning its export model, which has brought such prosperity in the postwar years. China has moved somewhat toward rebalancing its economic model in favor of domestic consumption, but it remains to be seen how far it can go. The Communist Party hierarchy, particularly in the provinces, is tied up with export industries, and even the leadership in Beijing does not have total control over the industries under local authority. As for reopening global trade talks, another objective in Pittsburgh, the onus will be not only on the United States and Europe, but also on China, India, and Brazil as leaders of the emerging market bloc to make the necessary concessions.
The Japanese term for foreign pressure, particularly pressure to do what the Finance Ministry already wanted to do, is "gaiatsu." There have been times in recent American history that presidents have pushed for economic reforms in part because of pressure from other countries. The Pittsburgh summit may not have accomplished much by itself. But it could turn out to be a milestone in the evolution of "gaiatsu" as a global phenomenon. There was talk in the communiqué of "peer reviews" and a "candid, even-handed, and balanced analysis" of each other's policies. The summit declaration was a little more candid than such statements in the past. There is no guarantee of candor leading to action. But it is a good place to start.