In the aftermath of the global recession, regulators from developed nations are working with financial industry leaders to build a new foundation for a more balanced global economy less susceptible to worldwide crises.
To help achieve this balance, individual countries must first adopt international reporting standards, control their own debt-to-gross domestic product ratios, and work together to identify and address imbalances as they crop up.
"Globalization is the new reality, and it's much more important than it was a decade ago," said Robert Kelly, chairman and CEO of BNY Mellon, speaking at the second-annual Global Financial Forum, last month at Citi's lower Manhattan office.
If you step back to look at the big picture, everything is interconnected, he said. Huge profits in one area are inevitably linked to huge losses in another, and both parties are at risk. When imbalances get too big, they wreak havoc on everything that's correlated.
The recent troubles with Greece highlight the importance of clear, transparent accounting and international fiscal policies. Greece did not follow the European Union's protocols, and now its problems have become Europe's problem.
"This planet is way too small to have multiple accounting systems," Kelly said. "We need better international standards with capital liquidity."
Speakers said the global recession was fueled by significant global imbalances, particularly the trade gap between the U.S. and China. For many years, individuals and financial institutions in the west borrowed heavily, while their eastern counterparts saved heavily.
"In addition to massive trade deficits, the U.S. accumulated significant personal, financial and public debt, and sovereign wealth funds funded the public debt," said Citigroup CEO Vikram Pandit in a keynote address.
"Roughly half the financial system in the U.S. was unregulated or lightly regulated-and a large shadow banking system became a huge source of funding for both legitimate and questionable economic purposes," Pandit continued. "The impact was a severe disconnect between credit creation and GDP growth."
Pandit said U.S. consumption and credit creation are unlikely to continue to be the primary drivers of global economic growth in the future, and demand from China and emerging market countries will gradually step in to fill this gap.
"We have to pay more attention to imbalances building up," said Jaime Caruana, general manager at the Bank for International Settlements. "We need to get to a new balance between resilience and sustained growth."
Caruana said market booms and busts are two sides of the same coin, like the Chinese yin and yang. The procyclicality of global markets demands that prudent countries build capital buffers in good times to be used during bad times, he said.
Taxes and Savings
Some international groups are toying with the idea of an incremental tax that could fund pools of emergency capital, but so far it's looking like a logistical nightmare.
"Taxes are generally spent when they are received, for the benefit of the current generation, not future generations," said Barnabas Reynolds, partner and head of the Financial Institutions Advisory and Financial Regulatory Group at Shearman & Sterling LLP.
Stabilizing the U.S. is critical to a healthy global economy. The U.S. must address its crippling national deficit -- now approaching $13 trillion and approximately 90% of GDP -- by raising taxes and cutting spending, said Nouriel Roubini, professor of economics at New York University and chairman of Roubini Global Economics.
"If you keep running large fiscal deficits, inflation will rise," Roubini said. "For the sake of the fiscal recovery, we need to raise taxes."
This hugely unpopular move would likely slow economic growth in the short term, he said, but fiscal consolidation will restore growth in the medium term. Any action by Congress is unlikely this year with mid-term elections in November, but perhaps in 2011.
"There is massive gridlock in Washington," Roubini said. "Republicans are against tax increases, and Democrats are against spending cuts. If there is unwillingness politically, we keep kicking the can down the road and running the printing presses."
The U.S. consumer will need to spend less and save more, but the economic reality of saving more for the future is less lending, Kelly said. Less lending leads to lower GDP and lower employment in the short term, he said.
The U.S. may play a lesser role in the future, but other countries will step up to restore the equilibrium, Pandit said. As economies in Brazil, Russia, India and China begin to mature, their citizens will become greater consumers of international goods, and more companies in America will export to these new consumers, he said.
"There is a rebalancing act taking place," said Christine Lagarde, France's Minister of Economy, Industry and Employment. "Some countries are targets of large appetites because they produce raw materials and resources. From a global perspective, it's a good thing that emerging markets are coming forward."
Caruana said international regulators are making good progress on updates to the international banking laws and regulations known as the Basel Accords, adding that "this is the year of calibration, clarity and crystallization of rules."
Lagarde said the democratic process can take a long time, but international cooperation is critical to long-term success.
"We all have a vested interest in getting other countries to participate in principles that we all can agree on," she said. "There is a collective understanding that this has to take place. We can't keep borrowing from future generations to support imbalanced growth."