How could Global Economic Governance be Re-designed? Some ideas by Professor Kern.

By tracing the development of international financial standard-setting from the 1960s to the reforms following the 2007–2008 crisis, Professor Kern considers the post-crisis international regulatory reforms and whether they adequately address regulatory weaknesses and represent relevant stakeholder interests. It is suggested that although international reforms have addressed the interests of wider stakeholder groups through macro-prudential regulation, more work should be done to address stakeholder concerns regarding the impact of environmental and social risks on financial stability. The global financial crisis of the last years has demonstrated serious weaknesses in global financial governance and has led to comprehensive reforms of international financial regulation. In particular, it has called into question the efficacy of the traditional global financial governance model’s flexible and unstructured decision-making framework and – more specifically - has raised concerns regarding the accountability and legitimacy of international financial institutions’ standard-setting processes. To this extent, the G20 and the Financial Stability Board have taken the lead post-crisis with efforts to make international financial standard-setting more accountable and legitimate by involving more countries in the standard-setting process and by making deliberations more transparent and reflecting the views of a broader number of stakeholders. Moreover, the G20 initiated at the Pittsburgh Heads of State Summit in September 2009 an extensive reform of international financial regulation with the overall aim ‘to generate strong, sustainable and balanced global growth’. An important feature of the international regulatory reforms has been the G20s stated objective to make financial regulation more ‘prudential’, that is, to address risks and vulnerabilities across the financial system and broader economy that might threaten the stability of the financial system – and hence imperil the stability and sustainability of the economy. Historically speaking, since the 1970s, increasing liberalization of financial markets and cross-border capital flows have brought more liquidity to financial markets during periods of market confidence, but have proved to be a channel for contagion during periods of fragility and crisis. These cross-border links between national financial systems have led to the emergence of a globalized financial market in banking, wholesale securities, and asset management. Indeed, the move from segmented national financial systems to a liberalized and globalized financial system has posed immense challenges to financial regulators and supervisors, including the need to adopt more effective regulation and supervision across financial systems and to enhance coordination between states in supervising on a cross-border basis and internationally. The crisis demonstrates the need to adopt a more holistic approach to financial regulation and supervision that involves linking micro-prudential supervision of individual institutions with broader oversight of the financial system and to macroeconomic policy. In this essay, it is argued that the ‘macro-prudential’ dimension of financial regulation has important implications for global financial governance and requires more accountability and legitimacy in the international financial standard-setting process. Overall, the discussion of the international financial standard-setting bodies’ efforts in this area and the need for them to be more inclusive in their membership suggests that international financial regulation should be more accountable and legitimate in how it is developed. Moreover, it suggests that the flawed economic policies and regulatory practices of the G10 advanced industrial countries do not provide sustainable models for economic and financial development. This means that the development of global financial regulation should be influenced more by countries outside the traditional G10 power structure and the regulatory standards should address broader risk factors – environmental and social risks – that can have a significant effect on financial stability thereby contributing to more sustainable economic growth and financial development. Economic policy-makers should, therefore, consider building institutional mechanisms that transcend national borders which establish solidarity between the financial sector and all parts of society that are affected by financial risk-taking.