Anticipating the Rimini Meeting

The Power of the Markets
She was No. 2 at the IMF and is one of John McCain’s advisors. She will be in Rimini to talk about finance presenting ideas that refute the conventional wisdom

edited by Letizia Bardazzi

The protagonist of the world economy? In a certain sense, no one. “When the markets work, no one has the power to dominate or control them.” So says Anne Krueger, soon to be a guest at the Meeting, one of the most authoritative voices of the global economy and above all an independent-minded observer of a reality that many commentators (nearly all of them) are painting in dark colors. True, oil prices are soaring, the dollar is weak, and the subprime mortgage crisis might create the opposite impression. But America, Krueger says, is basically sound. And though the engine is slowing, it’s not just premature but plain wrong to speak of a recession. In reality, there are already signals of recovery–to the point that those who are in a hurry to describe the United States as a country in serious trouble are deluding themselves and fail to understand the market. “Things are a lot more complicated than they seem.”
Dr. Krueger’s analysis carries great weight on Wall Street and in the rooms that count in Washington. She is Professor of International Economics at the prestigious SAIS (School of Advanced International Studies) at Johns Hopkins University. From 2001 to 2006, she was Deputy Managing Director at the International Monetary Fund, after being Vice-President of the World Bank and holding important university chairs. Not coincidentally, she is on the list of economic advisors to John McCain, White House Republican candidate, together with a panel of economists and champions of the business and financial world like John Chambers (Cisco), Carly Fiorina (formerly of HP), Steve Forbes, Fred Smith (FedEx) and John Thain (Merrill Lynch).
While looking forward to meeting her in Rimini, where she is to talk about “Financial Economics and the Real Economy” (scheduled for Friday, 8/29), Traces has asked her some of the most pressing economic and financial questions of the present months. We started from the “crisis” we’re currently hearing so much about.

What caused the crisis and why did it spread? Are we in a recession?
We’re not in a recession, that’s for sure. There’s been a slowdown, but there’s a big difference. A recession has a precise definition: it’s when economic activity is negative for two consecutive quarters. I’d be surprised if we had three negative quarters. The crisis certainly began with the subprime mortgages, but it’s also due to other factors, like the large amount of liquidity available. The central question is, what else remains to be discovered in the financial system? That might lead to further surprises and complications.

Subprime credit covers a lot of things, from loans for buying cars to credit cards. The results are failure to keep up payments, foreclosures, and so forth. Are we moving toward a clampdown on credit? 
No, people still can get easy loans. The bank near my supermarket a few days ago had a sign out, saying: “Get mutual equity on your home. No questions asked.” True, there’s sure to be a bigger spread in interest rates, but anyone with a good credit rating won’t have trouble getting a loan. It’s not even true that the subprime crisis has only hurt the worst off. I have a house in Lee County, Florida, which has the second-highest rate of foreclosures in the state. Two-thirds of the houses foreclosed on have never been occupied. They were bought as second homes for speculative purposes, for resale later by people who had only made a down payment. I don’t believe we can really talk about poverty in this case… We’re looking at a complicated picture. Some people really have been hard hit. Others are concealing the real income they had.

Without risk, there’d be no business, no development. It’s the driving force of the economy. But this doesn’t mean all risks are equal. Every risk indicator is commensurate to the expected damage…
Everything to do with the future involves risk. Certain things are riskier than others. In business, you have a spread between safe investments and less safe ones, and rightly so.

But is there some educational or cultural principle that will help ordinary people, and also financial analysts, strike the right balance between protecting value and creating it? It seems today people are more willing to take risks without thinking…
Taking the case of the present period, it’s clear that lenders haven’t been charging enough for risk, because there was a lot of liquidity in the system. That’s why I said subprime mortgages are not the only culprits of the crisis. It was also the liquidity available. There was a lot of money around, in short. People saw that interest rates were low, so they borrowed money and took a gamble, thinking they’d get away with it. Then interest rates shot up. But the whole art of financial markets is based on charging the right price for risk. Without risk, nothing gets done.

Financial markets offer a framework for economic action, but they can’t replace individual action, which remains the protagonist. We can’t think of financial markets as a network: without trust and human relationships, even markets don’t work properly. What do you think about this? What sort of role does trust play in financial markets?
Look, trust is important, but it depends on the amount of money at stake: $10 is no problem; $10,000 is something else again! The important thing is to have an efficient legal system to enforce contracts and give the protagonists security in case of default. That’s how you build trust.

There’s a lot of interest in economic growth in China and Asia, in general. Do you feel Asia will succeed in freeing itself from the contraction of the American and European economies, or will this reduction also have a limiting effect on growth there?
I don’t think they’ll succeed in freeing themselves from the United States, but no doubt they won’t be as hard hit as they might have been in the past. It’s still too soon to judge. If the slowdown only lasts a few quarters, the effect will be minimal.

The dollar’s been weak for some time now. Is this situation an advantage or disadvantage for America? And can Europe afford such a strong euro?
My judgment on the dollar is that it’s still a very solid currency, still the world’s currency, and will continue to be so. The American economy is strong and flexible. Rather, I wonder about Europe. I think there are European countries that need structural reforms before they will be able to afford such a strong euro.

The title of the next Rimini Meeting is: “Either Protagonists or Nobodies.” Who is the protagonist of the international economy?
I’m inclined to say the protagonist is… nobody. When markets work, no one has the power to dominate or control them. Governments have a part to play in ensuring they work and so do international institutions. But no one can be called the protagonist–because we’re all protagonists.