A Problem Shared Is a Problem Halved: The G-20’s “Mutual Assessment Process”

By Olivier Blanchard 1

The Group of Twenty industrialized and emerging market economies (G-20) has broken new ground over the past year or two. It has embraced the type of collaborative approach to policy design and review that is well suited to today’s interdependent world, where policies in one country can often have far-reaching effects on others.

Collective action by the G-20 in response to the recent crisis was critical in avoiding a catastrophic financial meltdown and a potential second Great Depression. Exceptional policy responses around the globe—including macroeconomic stimulus and financial sector intervention—indeed helped avoid the worst. These actions were notable, both for their scale and force, but also for their consistency and coherence.

Keen to build on this success, G-20 Leaders pledged at their 2009 Pittsburgh Summit to adopt policies that would ensure a lasting recovery and a brighter economic future. To meet this goal, they launched the “Framework for Strong, Sustainable, and Balanced Growth.” The backbone of this framework is a multilateral process, where G-20 countries together set out objectives and the policies needed to get there. And, most importantly, they undertake a “mutual assessment” of their progress toward meeting those shared objectives. With this, the G-20 Mutual Assessment Process or the “MAP” was born.

But, what exactly will the G-20 Framework imply in terms of prospective actions? And what have we learned so far from the MAP?

The MAP—led and owned by the G-20

The MAP is a new approach to policy collaboration, entirely conceived and owned by G-20 members. Leaders have set the tone and substance for the initiative. The aim is to ensure that the collective policy action will benefit all. Like any new initiative, the MAP will be fully fleshed out over time, in large part through learning by doing. In the meantime, however, all G-20 members have signaled their “buy-in” to the process through their full cooperation in providing the information required for the analysis and assessments.

 When the G-20 initiated the MAP, they asked the International Monetary Fund (IMF) to provide supporting technical analysis. In carrying out this task, the Fund was asked to seek help from other international institutions such as the World Bank, the OECD, the ILO and the WTO. Moreover, a G-20 Working Group (co-Chaired by Canada and India), which was established to substantively add value to each stage of the mutual assessment, has assisted the G-20 Deputies in providing guidance to the Fund and other organizations on the analysis. 

The initial assessment was based on three key steps.

  • As a first step in this process, all G-20 countries supplied each other and Fund staff with information about their “policy and macroeconomic frameworks”—that is, their policy plans and the expected performance of their economies over the next 3-5 years.
  • Fund staff aggregated the inputs to assess whether the policies were consistent on a “multilateral” basis. And also what they implied for growth, employment, poverty, and so on. This formed the basis for the G-20 “base case” scenario. In keeping with the G-20 ownership of the exercise, individual country policies were taken at face value and no judgments were made by IMF staff concerning their feasibility, timing, or effectiveness.
  • Once the base case assessment was considered by the G-20, Fund staff liaised closely with the Working Group to analyze alternative policy scenarios. A key objective of this exercise was to show how the economic outcomes could be improved through collective action by G-20 members.

Providing the foundation—the G-20 “base case

The G-20 base case collectively implied “strong” growth.  This enabled a decline in unemployment, which would, nevertheless, still remain quite high for several years. Growth was projected to be “balanced”, since it was broad-based across the G-20 countries.  Finally, growth was expected to be “sustainable,” since it was led by private demand.

The analysis, however, pointed to some shortcomings and risks. 

Budget balances in the base case were projected to improve noticeably, helped by strong growth. But deficits and debt levels would still remain high in the large advanced economies. Moreover, there is a risk that if strong growth projected in the submissions by the large advanced economies did not materialize, fiscal positions in these economies could worsen significantly and even trigger another crisis.

The forecasts were also associated with only a modest rebalancing of global demand. Countries with large current account deficits before the crisis did not expect a significant boost to growth from exports. And countries with large surpluses did not expect a significant boost from domestic demand.

Alternative policy scenarios—benefits of collective action

Based on the findings of the “base case” assessment, the G-20 asked IMF staff to explore two alternative policy scenarios. First, an “upside scenario” and associated policy requirements that would help improve the outlook. Second, a “downside scenario” aimed at assessing the implications of the risks identified in the base case, if they were to materialize.

Prior to carrying out the scenario analysis, Fund staff made technical refinements to the G-20 base case. This was made for two reasons. First, to ensure greater multilateral consistency in assessing the impact of the crisis and the estimation of output gaps; and Second, to update the macroeconomic frameworks for economic and market developments since the submission of G-20 inputs.

The “upside” scenario assessed—in a layered approach—the cumulative benefits of three sets of policy actions for groups of countries with similar circumstances.

  • First, “growth-friendly” and credible fiscal consolidation in major advanced economies, beginning in 2011 and beyond countries’ existing medium-term plans.  Fiscal consolidation plans were conceived to be strong, credible, and, to the extent possible, supportive of growth. 
  • Second, policies aimed at nurturing domestic demand in emerging economies with large external surpluses. These were aimed at offsetting the loss of demand as advanced economies further tightened their fiscal positions in coming years.
  • Third, structural reform policies aimed at alleviating supply constraints and reducing high unemployment, particularly in advanced G-20 economies, along with measures to boost demand.  

The key takeaway from this exercise is that well-designed, collaborative policy actions by the G-20 economies can produce outcomes that will make everyone better off. For instance, considered in isolation, fiscal consolidation in advanced economies would dampen growth in the next year or two. And it would have a lasting adverse impact on partners in emerging Asia, given their high export dependence. But all G-20 countries stand to gain when fiscal consolidation in advanced economies is accompanied by key reforms in emerging economies. Benefits to all countries increase further when all three sets of policies noted above are undertaken together. Indeed, our simulations suggested that the payoff for collective policy action by G-20 countries could be high, raising global GDP by an estimated 2½ percent over the medium-term. This would also be good news for job creation and poverty reduction.

The “downside” scenario assessed the implications of the risks identified in the G-20 base case. What if growth in major advanced economies was lower than projected or what if market concerns about fiscal sustainability led to a sharp increase in sovereign risk premia? Not surprisingly, the outcome could be quite scary. There would be significant output and employment losses, with a large number of people falling into poverty. At the same time, it is clear that the implementation of the policies needed to reach the upside scenario would likely reduce the probability of such a downside scenario occurring.

So, where to next?

Reflecting on this assessment, G-20 Leaders agreed at the Toronto Summit in June 2010 that they could do a better job of achieving the objective of strong, balanced and sustainable growth by working together and pursuing reforms along those lines. Leaders committed to taking stronger policy actions that would get the world economy closer to the “upside” scenario in the staff’s report.

This set the stage for the second phase of the process, where the mutual assessment will be conducted at the country and regional level. During this phase, each G-20 member will identify policy actions that could help achieve an ambitious outcome of stronger growth than in the base case. These “country-level” policy plans will form the basis for a comprehensive plan that will be articulated by Leaders at the Seoul Summit this November.

As the G-20 moves forward with this shared approach to tackling today’s policy challenges, they have a unique opportunity to deliver a better outcome for all.

______________________

1  This is a good opportunity to thank the Fund staff analysis team, led by Krishna Srinivasan and Hamid Faruqee, for their outstanding work.

18 Responses

  1. [...] as the critical variable). Krishna Srinivasan of the IMF presented the perspective from the IMF’s Mutual Assessment Process (MAP) regarding global [...]

  2. [...] as the critical variable). Krishna Srinivasan of the IMF presented the perspective from the IMF’s Mutual Assessment Process (MAP) regarding global imbalances.Macro/Financial/Prudential/Regulatory ManagementIn the second [...]

  3. [...] المختلفة في اقتصادات المجموعة. وتمت المصادقة على عملية التقييم المتبادل (أو اختصارا عملية “MAP”) بوصفها مبادرة مستمرة [...]

  4. [...] G-20’s Mutual Assessment Process has been an important first step towards creating a more permanent framework for global policy [...]

  5. I hear your frustration, Per. I also hear that my dsFTT paper has not conveyed to you adequately why I believe that certain types of derivative trades have been a significant, if not principal, precipitating factor in the growth of the asset price bubbles whose bursting caused the credit crises beginning with Lehman’s failure in 2008.

    It is difficult for me to understand from your posts why my paper is not adequate in this respect. Indeed, reviewing it just now to see if I can find where it must be leaving something out, I haven’t been able to imagine why you doubt that certain types of derivative contracts have actually been “villains”. So, until I can amend the paper in some way currently unknown to me, I fear many people will be doubting as you do its contention that certain types of derivative trades, identifiable at the time of their being entered into, are best discouraged by something like the dsFTT the paper proposes. Would you be willing to quote a passage in it that leaves you doubtful of some element of my thinking in this regard? If so, I think our further conversation in this particular IMF blog thread will be useful to many. For convenience, here is the URL again:

    http://www.authentixcoaches.com/dsFTTFinReg.html.

  6. OK, let’s start slow, but let’s be honest.
    The G-20 has avoided neither the financial catastrophe, nor the second Great Depression. The G-20 has simply agreed that they would borrow their way along for a while, living by some unprecedented political-accounting rules, while they figure out what to do next. As such, any policy discussions really ought to begin with – What The F*$# Just Happened?”.

    Rather than self-serving congratulation, we should be assessing the nature of the global debt problem, the underlying cause to the so-called financial crisis.

    The IMF has highlighted the “pro-cyclicality” of the system as perhaps the major contributor to financial instability. But, what system, Economic, Financial, Monetary ?

    Here’s a clue for the G-20. The answer is the procyclicality of the debt-based, fractionally-reserved(?) system of creating what serves as money.
    We can’t afford out debt-service. Without monetary increases, the second Great Depression will yet arise.
    ALL money is created as a debt. Con-friggin-undrum, G-20 .

    And just in case any of you ambassadorial-types really care about whether your Austerian solutions are necessary, or not, the solution is here:

    http://www.economicstability.org/history/a-program-for-monetary-reform-the-1939-document

    I dare you, Olivier. Government-issuance of debt-free money. Because money is not debt.

  7. Per Kurowsky wrote: “I would not want to see other good-hearted regulators imposing financial transaction taxes differentiated on their explainable or unexplainable beliefs in what they think is the best for society.”

    Nor would I, Per. But the dsFTT is NOT about social engineering, if that’s what your reading of my dsFTT paper has led you to worry about. Its aim is to make those categories of derivative trades that are more likely to lead to the chaos and mayhem from which we are now digging out less profitable than those trades which actually help set future prices for the production and delivery of goods and services by decision-makers in the non-derivative (aka real) economy.

    “Free market fanatics” will likely object that any intervention in the market is dysfunctional social engineering. But what about the interventions fire brigades make? They intervene regardless of whether a fire was set accidentally or deliberately. Granted, some “burning” i.e. bankruptcies, will, if the fires were not criminally inspired or the result of chronic incompetence, be functional. So the key to a dsFTT being useful to the economy as a whole depends on how well we segregate derivative trading contracts that are more likely to do damage to the real economy from those more likely to facilitate the necessary setting of future prices, which — from the point of view of the actors in the real economy — is their main purpose .

    It turns out that contract length is a good proxy for functionality from the point of view of the economy as a whole, as my paper on the dsFTT explains in some detail. For convenience it is at:

    http://www.authentixcoaches.com/dsFTTFinReg.html

    • Whatever they might say about the failure of the Efficient Market Hypothesis, the failure of the Smart Regulator Hypothesis has been much more monumental.

      We need supervision, but the regulators naively and lazily believed that by setting up some capital requirements based on risk they had everything under control and did not have to perform any more of the tedious supervisory job. Boy were they (and unfortunately, we too) in for a surprise… something that should not have been a surprise for anyone who has walked the main streets of finance.

      • The idea of solving the problem of dysfunctional speculation by capital requirements alone is a solution that doesn’t address the root dysfunction which is derivative markets decreasingly connected to the needs of the more rationally honest decision-makers in “real economy” (i.e. non-derivative economy) of goods and services decision-makers. So it’s bound to be more expensive on the rest of us than a solution such as the dsFTT that does.

        How that reality escaped people like Alan Greenspan I can only guess at by suggesting that either (1) financial people who’ve never made a living in the “real economy” forgot about why derivatives were invented in the first place or (2) bankers have been too immersed in mathematical models to think though the behavioural fundamentals, as Dan Ariely’s book “Predictably Irrational” does in the field of micro-economics. Perhaps Dominique Strauss-Kahn and Mark Carney would be interested in penetrating that nexus of irrational logic?

      • Angus, again I do not believe the problems lie that much in the sphere of derivatives but, having said, that I sincerely I do not know either how so much escaped the regulatory establishment!

        I have been warning since 1997 about what was doomed to happen with bank regulations that stated no purpose for the banks, and in 2003 I even denounced in the Financial Times that the use of the “credit ratings was the mother of all systemic risk”, although if I would rephrase it today I would be more precise and say that role was really played out by the capital requirements based on the credit ratings.

        And in October 2004, as an Executive Director of the World Bank, in a formal written statement I warned: “We believe that much of the world’s financial markets are currently being dangerously overstretched through an exaggerated reliance on intrinsically weak financial models that are based on very short series of statistical evidence and very doubtful volatility assumptions.”

        So frankly I know I have more than proven that my criticism stands on solid base and yet I have not received one formal answer to my objections to the current regulatory paradigm; and neither have I ever been invited to discuss these, being relegated to lift my voice during some short Q. and A. sessions at the end of the more lengthy presentations, most often given by invited Monday morning quarterbacks.

        And so, once again, I believe that the current bank regulations are really stupid, I cannot find a better word for them, and I dare the IMF to debate them publicly.

      • The following are some of my questions to the regulatory establishment:

        Knowing as we know that all bank or financial crisis have had their origin in excessive investments in what was ex-ante is perceived as having no risk, can you please explain the rationale behind a regulatory system that by means of allowing much lower capital requirements when lending or investing in anything is related to triple-A rated operations, provides the banks further incentives to accumulate excesses in what ex-ante is perceived as having lower risks?

        Knowing as we know that a perfect credit rating, though providing some useful information for capital allocation, provides none of the sides with real profits, something which only wrong risk appreciations can do… the more wrong it is the larger the profit for one side, what is the rationale behind empowering the credit rating agencies with asymmetrical risk information oligopolies which dramatically increases the financial system´s exposure to catastrophic systemic risk?

        What is the rationale of a regulatory system where if the bank lends to an unrated small business or entrepreneur it needs to have 8 percent in capital but, if it instead lends to the government of an AAA rated sovereign, like the USA, so that government bureaucrats lend or give stimulus to the unrated small businesses and entrepreneurs, the banks need to hold zero capital? Is this not plain pro too-obese-to-succeed government regulation? What do the interest rates on public debt really signal with this type of regulations interfering?

        If a bank was required to have the same capital when lending to a country with a credit rating like that of Greece before year end 2009, as when lending to a small unrated businesses, then it could leverage itself 12.5 to 1. If it then made a spread of .5 percent when lending to a Greece it would obtain a return on capital of 6.25percent per year. But since the banks were allowed to do the above with only 1.6 percent in capital they could leverage their capital 62.5 to 1 and earn 31.25 percent on capital. Is this not exactly the stuff from which unbelievable bonuses are made of? Is this not exactly the growth hormones that results in too big to fail banks?

        How come when regulating the banks the Basel Committee does not establish what is the purpose of banks? Is this not a pre-requisite for any adequate regulation? When you regulate traffic it is to facilitate the traffic between two points… not to guarantee that the road will never need maintenance. Do the regulators really aspire for a world where there are no bank defaults? I myself shiver at the thought!

        Institutionally and given that the world will be in need of more global regulations how is the oversight of the Basel Committee and the Financial Stability Board managed? To whom are they transparently accountable? I ask this because for instance if we had delegated the solving of global warming into a global institution that made mistakes like those made in the regulation of banks… there´s no question we would all be toast.

  8. I would like to know for the countries outside of the G-20 such as Thailand what is their policy role.

  9. Yes, Yes, sure we know this kind of mindset. I’ll tell you something. If you live on debt and credit exceeding 1:50 then it is IMPOSSIBLE to control anything. And who is the main contributor to a ever more increasing leverage ratio ? Its the government, not the private sector. Do you honestly believe a proper banker would do these crazy things ? Yes, if we havent had these things in place… what would then have happened? I’ll tell you what have happened. The paper pushers would have been whipped out and the system would have been cleaned from these financial excesses – but now, what is the result? Even more leverage???

    The world will implode like the roman empire went down the tubes if we dont put an end to this. But politicians will always take the easy way and paper over, wont they? Now, I ask you, what kind of party does the IMF chief belong to ? Go and figure what the end game will look like.

    What was the biggest failure in history ? Its the state run housing sector ( what was the leverage there 1:150 ?! ). Who was responsible for that mess – the government. And now they want to have more saying in everything else ? We had that already in the eastern sutipidity of communism and socialism – it has never worked. So I guess we are all doomed with our currencies and have to pile on hard assets. Dont be fooled by the government bond bubble. In nominal terms they may be lucky, but in real terms its all gone.

    The IMF once was a very great institution which helped countries restructure. I think next time its the IMF itself that needs to be restructured, if we still need such an institution by then; who knows.

    • Currently if a bank lends to an unrated small business or entrepreneur it needs to have 8 percent in capital but, if it lends to the government of an AAA rated sovereign, like the USA, so that the bureaucrats of that government lend or give stimulus to their unrated small businesses and entrepreneurs, then the banks need to hold zero capital. Is this not plain bizarre pro too-obese-to-succeed government regulations?

  10. The answer of most governments throughout the world during and after the crisis of 2007 have been a total and complete disaster and failure.

    The private banking sector, the main driver of growth and demand, has been hampered even further by much heavier regulation and legislation than ever before. We have seen and witnessed these developments in many countries before. Unfortunatly today it is, as mentioned above, a global phenomenom and the ultimate outcome will be very very disappointing to say the least. Once there used to be a frame of mind in the world called the Austrian School of Economics. Have modern central bankers learned anything from the past ? Oh yes, they did indeed …

    There are only two choices to take into account: either hyperinflation or a synchronised depression. The middle way, “inflation targeting,” could also work but with a huge disruption in the decision making of private businesses. Macroeconomic playgames just dont work — and certainly not on a global level.

    It’s time for governments around the world to understand their foolish actions and to let the free market take its course; of course it will be painful but much much less so then letting the government bubble pop. Undoubtedly this is not very likely.

    And so I’m looking forward to the next round of “global stimulus”.

  11. But a bad solution shared is a problem multiplied.

    Current bank regulations, applied approvingly by most of the members of the G-20, based on capital requirements based on perceived risks, are similar to a strategic defense system that targets the furthest and least dangerous incoming missiles first, while providing improved guidance to those closer and much more dangerous missiles.

    The higher the perception of the risk of default, the less dangerous it is to the system as a whole, because the less will be lent to it, and at much higher rates. On the contrary it is the lending or investment to those perceived as not being risky at all, at very low interest rates that do not compensate the unknowns that pose the greatest danger, since only these loans could generate a volume of exposure that could threaten the whole system

    Doubt it? Please try to find one single bank crisis in history where the above logic has not applied

    In this respect are we supposed to respect what the G-20 are up to, or should be weary of, that they will just increase the systemic risk embedded in regulations that currently discriminate in a regressive way against those small business and entrepreneurs who could otherwise be providing us with the next generation of jobs. I don’t think so!

    • Well said, Per. What, for example, would have happened had a dsFTT (differentiated speculative financial transactions tax) been in place earlier this year when Wall Street was hiring traders in expectation of higher derivative trading volume?

      (You can find a paper on the dsFTT at http://www.authentixcoaches.com/dsFTTFinReg.html.)

      Clearly, the projected profitability of new hires would have been lower, and so fewer would have been hired, or re-hired. That would have been better than what is now the case when derivative trading volume is down sharply and Wall Street leaders are wondering what to do with them. So, when all is said and done about the theory of a dsFTT, what we can conclude is that, IF a dsFTT had been in place earlier this year, Wall Street would now be better off, the US national deficit, now at a critical level, would have been lower, and at least some of the more flexible people among derivative traders would now be re-employed in more useful activities outside their over-staffed occupation. Now I call that balanced progress. What do you call it? And what does the IMF leadership call it?

      The sad fact is that almost no discussion of an FTT took place at the Toronto G-20 Summit. Why not? Well, if you were a G-20 leader and you got a report from the IMF that wasn’t very encouraging or imaginative about an FTT, your task — as was Sarkozi’s, Merkel’s, and Cameron’s tasks — to get interest in the FTT going would have been, as Sarkozi complained, “lonely” — especially as the host leader, Harper, was the PM of a country with an exceptionally conservative banking establishment that was basking in worldwide adulation (for caution and good luck) and was dead against any bank taxes.

      Let’s hope the IMF does a bolder, better job of preparing the G-20 leaders for their Seoul meeting. It must be a hell of a job getting action there, so we must not be too critical. But if Seoul doesn’t produce some serious concerted action, not just a few people are going to start screaming that too many unproductive people content to pontificate on old lessons learned decades ago are being hired and retained by the IMF!

      Angus Cunningham

      • Sorry, with respect to this dsFTT I am not following you there.

        Just as I am opposed to bank regulators who because they think they are doing a good thing impose risk differentiated capital requirements on banks and thereby not only bring confusion to the whole risk allocation system of the market but also hurt those we should least hurt, I would not want to see other good hearted regulators imposing financial transaction taxes differentiated on their explainable or unexplainable beliefs in what they think is the best for society.

        If you want to support something specific, be my guest, but do it transparently, over the table and perfectly measurable in dollar and cents.

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