ThisĚýinterviewĚýwas originallyĚýpublished in German in the special issue onĚýfinancialisationĚýand development policies of the journalĚýPeripherie, September 2021, No. 162/163. Frauke Banse and Anil ShahĚý(both based at Kassel University)Ěýspoke with politicalĚýeconomistĚýIlias AlamiĚý(MaastrichtĚýUniversity)ĚýaboutĚýsome of his recent workĚýon the relationship between geopolitics, financial flows for development and emerging forms ofĚý‘state capitalism,’Ěýas well as related new imperialist formations. TheĚýinterview was conducted via email in May 2021.ĚýĚý

The interview covers aĚýseriesĚýofĚýInternational Political EconomyĚýtopics.ĚýIliasĚýfirst locates the emergence of theĚýWall Street Consensus in the long and turbulent histories of the relation between finance and developmentĚýas well as inĚýsecularĚýcapitalist transformations. He thenĚýoutlinesĚýsome of the conceptual tools he’s developedĚýin his workĚýin order to make sense of theĚýcontemporaryĚýinterconnectionsĚýof money and financeĚýand the reproduction ofĚýimperialism and race/coloniality.ĚýNext,Ěýhe situates these interconnections within broader scholarly debates aboutĚýfinancialisationĚýandĚýhighlightsĚýthe similarities and differences between ongoing sovereign debt crises in the global South and the so-called 1980s ‘Third World debt crisis.’ Finally,ĚýIliasĚýdiscusses theĚýrecentĚýemergence of new forms ofĚý‘state capitalism’Ěýand theirĚýcomplex relationĚýto the extensionĚýand deepeningĚýof market-based finance.Ěý

Q1: You are part of a critical scholarship that claims finance and development have become fundamentally re-organised in recent years. What are the most crucial features of this shift from your perspective?

A fundamental shift we are witnessing is the rise of what Daniela Gabor has aptly termed the â€˜Wall Street Consensus’ [see keyword, editor’s note]. This emerging paradigm promotes the mobilisation of private financial capital as a political and developmental priority, notably to fund the Sustainable Development Goals and the construction of large-scale infrastructure in developing countries. Southern states are encouraged to re-engineer their domestic financial systems around securities and derivatives markets, create â€˜investable’ opportunities in sectors such as infrastructure, water, climate adaptation, health and education, as well as deploy policies that specifically ‘de-risk’ investment for global investors, including by leveraging public finances. The hope is that by providing attractive investment opportunities for global institutional investors, the vast amounts of liquidity that they control will be ‘escorted’ into the global South, thereby matching the funding needs of developing countries while providing handsome financial returns for investors in some sort of win-win scenario (“doing well while doing good”). In our brave new world ‘beyond aid’ (Mawdsley 2018), the Wall Street Consensus promotes state-supported private finance in the very name of development. 

In my view, developing politically attuned readings of the Wall Street Consensus requires situating it in the long and turbulent histories of the relation between finance and development. From this perspective, the Wall Street Consensus displays elements of remarkable historical continuity. Gabor firmly locates the Wall Street Consensus as the heir to the (Post-)Washington Consensus. In their work on how the Wall Street Consensus manifests in the World Bank’s discourses and policy prescriptions in the realms of climate-resilient urban infrastructure, Patrick Bigger and Sophie Webber argue that it amounts to a sort of â€œGreen Structural Adjustment”: â€œIf the old structural adjustment was, to a large extent, about reinscribing core–periphery relations through uneven terms of trade, limiting the possibilities for endogenous development in the Global South, and securing Northern access to primary resources (…), Green Structural Adjustment aims to accomplish a similar reinscription by allowing capital to flow into urban built environments, thereby extracting rents from Northern-financed, -owned, and -operated infrastructure while ameliorating structural overaccumulation that has inflated Northern asset prices and driven down financial yields” (Bigger and Webber 2021: 47).   

In other words, yes, the rise of the Wall Street Consensus is indeed a fundamental shift (as your question intimates), but it is one that must be understood within broader historical patterns: at least since the birth of development as a project of modernisation and intervention, finance and development have been about the restructuring and reordering of states in the developing world in order to entrench the centrality of market rule and globally impose the social relations and disciplines central to capitalist reproduction. The methods, discourses, technologies, and practices which have been deployed to achieve this overall, long-term objective have had strong (neo)colonial overtones, leveraging and reinforcing asymmetrical relations between advanced capitalist economies and postcolonial states. The Wall Street Consensus, then, might well be the next iteration in this fail-forward, crisis-ridden, and often violent project. As such, and while it celebrates private financial capital and the figure of the global investor as heroes of development, it risks deepening what Nina Kaltenbrunner, Ingrid Kvangraven, Kai Koddenbrock, Jeff Powell, Carolina Alves, Bruno Bonizzi, and myself have referred to as the “international financial subordination” of developing countries in the world capitalist economy (2021), with its lot of crises and dramatic consequences in terms of social and human costs and environmental destruction. 

However, the Wall Street Consensus is not only embedded in these deep historical and structural processes, it is also a product of contemporary capitalist transformations. I already mentioned that it is explicitly framed as a means to implicate global institutional investors in development and to harness the large volumes of liquidity they control. As such, the Wall Street Consensus mirrors, or at least refracts, the rise of asset manager capitalism and the expansion of shadow banking, particularly since the 2008 global financial crisis (Braun 2020; Musthaq 2020, Dafermos et al. 2021). But I think that we also need to look at capitalist transformations beyond the realms of money and finance to understand the Wall Street Consensus. For instance, I would argue that its heavy emphasis on infrastructure is no coincidence. A number of commentators have claimed that we have entered a ‘logistics age’, where optimising the circulation of capital has taken a distinctly strategic character (Cowen 2014; Chua et al. 2018; Bernes 2013). With the acceleration of the unfolding of a New International Division of Labour (Charnock and Starosta 2016), we are also witnessing a major shift in the centre of gravity of the world capitalist economy from the North Atlantic to the Pacific rim (Arboleda 2020), which requires massive needs in terms of infrastructure in order to mediate this new pattern of uneven geographical development. Hence, the return of spatial planning and a renewed emphasis on large-scale connective infrastructure (such as ports, canals, railways, and integrated systems of logistical connectivity) in development policy and practice, as documented by Seth Schindler and Miguel Kanai (2019), in order to integrate distant territories, facilitate the flow of capital, and facilitate the strategic coupling of firms with global value chains.  

Q2: What do you mean by “money power” and how does this concept allow you to understand the perpetuation, renewal, and contestation of colonial and imperial relations of power and oppression (give examples please)? 

I have borrowed the concept “money power” from a number of authors writing in the tradition of the Marxian critique of political economy, such as Simon Clarke, whose work has been a great inspiration. The concept suggests that money is not a neutral, technical instrument which simply fluidifies economic exchange between free and equal individuals (as per neoclassical economic theory). Money in capitalism expresses a ‘seemingly transcendental power’, to borrow an expression from Marx, the power of subjecting social reproduction to the discipline and logic of capital. As Clarke puts it, in capitalist society, ‘the circulation of money is not subordinated to the requirements of exchange, rather the possibility of exchange is subordinated to the demands of the expansion of money as capital’ (Clarke 2003: 37). Therefore, and despite its appearance as a neutral object, money is the most preeminent, abstract, and “autonomous” social incarnation of class power (Clarke 1988). 

To my mind, the concept money power is particularly interesting for two reasons. First, it emphasises that the circulation of capital in the form of money and finance represents “the common capital of a class”; it expresses the disciplinary power of “capital-in-general” (Marx 1894/1991; Clarke 1988). This is important because this means that what is often referred to in scholarship, political commentary, and public debate as the undue influence of financial markets, Wall Street financiers, and moneyed capitalists, is in fact a form of expression of the disciplinary logic of capital. This is not to say that the actors and institutions of â€œhigh finance” do not wield immense power and authority (they obviously do!), but that this power expresses a much more general form of social regulation in capitalist societies. In other words, money in capitalism is a form of class struggle (Bonefeld and Holloway 1996). This also means that money instruments and financial claims ultimately rely on the exploitation of labour and the appropriation of nature. In my view, this is the necessary starting point of any attempt at critically theorising money and finance, and the basis of any sort of progressive politics in their respect. 

Second, and to return to your question, I would argue that money power as a concept provides productive ways of exploring how, in the words of David McNally, ‘money and finance are enmeshed within matrices of social power [irreducible to capital/class] and tend to reproduce them’ (2020: 1). In my work, I have been particularly interested in two such matrices of social power, namely, on the one hand, imperialism, and on the other, race/coloniality. These two matrices are of course very much intertwined. Concerning the former, I have tried to show that the operations of capitalist finance and the global flow of money are mediated by relations of imperialism, which has been the case since the birth of the world market in the long sixteenth century. My argument is that the geographical organization of the global financial system, and the spatial arrangement of the global monetary system (both of which fundamentally structure the operations of money and finance), have been â€˜consistently underpinned and enforced by imperial power, at the expense of the spaces of the world market successively referred to as the peripheries, the formal and informal colonial territories, the Third World, and the global South’ (Alami 2019a: 16). As a result, these spaces have retained a subordinate positionality in the network of space and power relations within which money and finance flows, or in what I called the “relational geographies of money power” (Alami 2018, 2019b). These ďťżgeographies have been politically constructed and enforced in a variety of ways that benefit core advanced capitalist economies. I contend that this is fundamental for understanding how financial fragility and vulnerability, as well as the costs of deflationary adjustment during crisis, are unevenly distributed across the world market, largely at the expense of workers, peasants, the poor, and non-human natures in the Global South. This is also important for grasping the global relations of value, exploitation, and dispossession that underpin the operations of capitalist finance and how those contribute to the reproduction of pervasive inequalities on a planetary scale. Recursively, the operations of global finance also contribute to ďťżreproducing imperial-hierarchical relations between spaces across the world market.  

In my book I developed this argument a little bit more and looked at how contemporary geographies of money power are also shaped by relations of race/coloniality. For instance, drawing on the brilliant work of Lisa Tilley (2020), Paul Gilbert (2018) and others, I scrutinised how social relations of race, coloniality, gender, and sexuality are deeply implicated in the social construction of emerging markets as investment destinations, with important implications for processes of risk valuation and investment decisions (Alami 2019b). Far from revealing and rationally processing economic data in a value-neutral manner, financial techniques and technologies such as credit ratings, political risk assessments, benchmark indexes, and so on, are profoundly shaped by sedimented imaginaries of colonialism and empire, either because they originate in colonial enterprises (merchant companies such as the East India Company) and in the anxieties of postwar decolonization and the end of Empire, or because they are founded upon racialised categories (such as â€˜good governance’, etc.). Relations of race and coloniality therefore continue to play a constitutive role as a means of enforcing discipline and continuous subordination, and as a means of profiting in and trough capitalist finance. This affects all developing and emerging economies, albeit unevenly (depending on their specific histories of race and empire).  

I looked in particular at how this affects patterns of investment in Sub-Saharan African frontier and emerging markets (Alami forthcoming). Even mainstream economist and business pundits have noticed that these countries are often perceived by global investors, credit rating agencies, and other financial actors, as being atypically risky. As a result, the borrowing costs of these countries are generally unjustifiably high (after controlling for factors such as volatility and financial returns, macroeconomic fundamentals, the ‘quality’ of institutions and policy framework, political stability, the business environment, and so on). I have tried to show that this is (at least partly) due to how racist imaginaries shape how Sub-Saharan African countries are socially constructed as investment destinations. In particular, these countries are imagined as the geographical embodiment of unruly Black populations, exotic wilderness, governmental incompetence, and weak (if not failed) Black African states in the making. I contend that this is not simply an issue related to the individualised racist behaviours of specific financial actors. If that were the case, then educating investors about the realities of the continent and propagating more positive views of Africa would solve the problem. By contrast, I argue that the source of this lies in the racialised power relations that structure the operations of capitalist finance and money power. Indeed, what we see here is a process through which the production and mobilisation of racialised difference, contributes to representing Black African countries as highly risky investment destinations, which not only affects the pricing, amount, and quality of the financial capital that these countries receive, but also provides justification for demanding very high financial returns, thereby sustaining processes of value extraction. In other words, this is not simply a problem of biased investors holding negative stereotypes about Africa. This is a problematique of racial capitalism (Bhattacharyya 2018). 

To sum up and link back to a point made earlier, this means that race and coloniality (as well as other social relations such as gender, sexuality, and so on) play a fundamental role in the subordinate positionality of developing countries in the global geographies of money power. I think that this type of argument is important because there has been a certain ‘colour-blindness’ in studies of development finance, which it is urgent to remedy. 

Q3: You plead for a long durĂŠe approach to grasp the relation between money and imperialism. How do you place the debate around ‘financialisation’ into this long-term perspective? What’s really new about this trend, and what is not? 

As I intimated earlier, finance has played a central role in the histories of imperialism, transatlantic slavery, and (neo)colonialism (see for instance McNally 2020 for a recent account). In my view, this fundamental insight must be put front and centre of our research efforts, including concerning financialisation. Moreover, I mentioned that it is important to think about contemporary finance and money as products of both these long and brutal histories, but as also embodying elements of newness. This, too, informs my understanding of financialisation. That being said, and generally speaking, I would say that my view on financialisation is rather agnostic. I confess being dissatisfied with much writing on financialisation, especially when it is loosely conceived as â€œmore finance”, or when it is somehow suggested that capitalism was previously not financialised. People like Brett Christophers (2012) and Nick Bernards (2020) have highlighted very important limits to financialisation, notably concerning questions of geography and labour. I certainly share many of their views.  

I find it useful to see financialisation as a form of expression of an inherent capitalist tendency, which is capital’s drive to reduce human life and lifeworlds to economic resources and money abstractions, through privatisation, commodification, and marketisation, as part of its compelling impulse to valorise. Needless to say, various forms of money and finance play a very important role in facilitating this process. Now, we also know (as I suggested earlier) that money and finance can also be tools of (geo)political power. Raj Patel and Jason Moore have an expression (which I like very much) to capture this: “the rhythms of world money and world power are deeply entangled” (2017: 96). In my view, such understanding must feature prominently in studies of financialisation. Or, to put differently, we must unpack the dynamics of class power and value extraction at the heart of financialisation, as well as how it is inhabited by the ‘Ghosts of Empire’ (Bourne et al. forthcoming). 

There seems to be a growing understanding that a number of phenomena which scholars have tended to explain by resorting to the category financialisation might actually be best comprehended by using other categories, such as rent (see, for instance, Christophers 2020, Schwartz 2021). This is welcome, in my view, insofar as this encourages us to examine the sources of the value from which various forms of financial income and revenue streams are generated, and ask: how is this value created, circulated, captured, and distributed in the form of rents? By locating these rents within the broader context of antagonistic class relations of capitalist development, we may be able to unearth how certain financialisation techniques/practices contribute to the penetration of rent-extraction mechanisms into new spheres of social reproduction and everyday life (Purcell et al. 2020). This may well be necessary in order to substantiate the claim that some of the financial income-generating activities we associate with financialisation are indeed novel. 

Q4: Many countries in the Global South are currently witnessing severe sovereign debt crises, which is intensified through the unfolding COVID-19 pandemic. Where do you see the similarities and differences to the so-called ‘Third World debt crisis’ in the 1980s? 

To use a concept introduced earlier, the fact that so many countries across the Global South were so badly hit by the financial effects of the pandemic is a symptom of their subordinate positionality in the global geographies of money power, which manifests as a set of features which by now we know quite well, such as, inter alia, an extreme pro-cyclicality in the patterns of cross-border capital flows, a build-up of various forms of financial vulnerability and fragility, and capital flight often worsening periods of financial distress. What looks new (at first sight) is that, after a period of extremely brutal capital flight early on in the unfolding of the pandemic (the worse in the history of many developing countries), many developing countries gained access to global financial markets again and could borrow at very low costs (by historical standards, and even close to or below pre-crisis levels). As Daniel Munevar underlines in a recent Eurodad report, “for at least 35 out of 57 countries with outstanding sovereign bonds, borrowing costs have fallen below pre-crisis levels” (Munevar 2021: 1). 

But even that can be linked back to the subordinate positionality of developing countries in the global geographies of money power, inasmuch as the prompt return to global financial markets showed the extent to which developing countries are subordinated to â€˜push’ factors, such as global liquidity, global market sentiment, and the monetary policy choices of financial authorities in advanced capitalist economies (cf Naqvi 2019; ďťżBonizzi & Kaltenbrunner 2019). Furthermore, this new round of borrowing (without significant debt relief and restructuring) is simply like kicking the can down the road. In fact, it might lead to a significantly worse situation down the line, because of the rapid build-up of financial fragility which it is fuelling. Furthermore, this may â€œaggravate the net transfer of resources from public borrowers to external creditors” (Munevar 2021: 1). 

There are also striking similarities with previous crises in how the current sovereign debt crisis is being addressed. There is, sadly, the double standard of the IMF which is lecturing the world on how governments should spend more to address the effects of the crisis, while already pushing for austerity measures in developing countries where it is negotiating structural adjustment plans. In the middle of a pandemic! Daniel Munevar warns that “in a post-crisis context marked by debt and austerity, developing countries will be left with even less resources to invest in public services to protect the lives and livelihoods of local populations. A large number of countries in the developing world are already allocating more resources to debt service than to either public health care or education. External public debt service was larger than health care expenditure in at least 62 countries in 2020. Furthermore, external public debt service was larger than education expenditure in at least 36 countries in 2020” (Munevar 2021: 2). I recommend reading the whole report.  

In addition, most sovereign debt relief efforts have been organised under the aegis of the G20’s Debt Service Suspension Initiative (DSSI). Shaina Potts has shown that the institutional framework of this initiative remains profoundly shaped by the “resolution” of previous debt crises. She argues that “the limited success of the DSSI is rooted in its replication of long-standing international approaches to sovereign debt crisis resolution that are designed to promote contract rights and creditors’ interests over substantial debt relief” (Potts 2021). Notably, there are concerns that debt suspension will benefit private creditors (with resources earmarked to guarantee payment to them). We are far from the debt relief effort that would be absolutely necessary. There are hopes in some corners that liquidity provision in the form of Special Drawing Rights (just approved by IMF members) will give fiscal space for developing countries to deal with the crisis and avoid a recession (Gallagher, Ocampo, Voltz 2020). But concerns have been raised that the amounts would be limited, and that, in any case, the initiative might be killed by the US congress (there has been lots of opposition to it from both Democrats and Republicans). 

Q4: Regarding the geopolitics of finance and development, you have highlighted the important role of ‘state capitalism’ in your work. What does ‘state capitalism’ mean and how does it inform our understanding of the geopolitics of financialisation and development?

State capitalism generally designates capitalist social formations where the state plays a particularly significant role in the organisation of economy and society, by supervising and administering capital accumulation, or by directly owning, controlling, and allocating capital (cf Alami and Dixon 2020a). Recently, witnessing the proliferation of state-sponsored corporate entities across the world economy (such as development and policy banks, state-owned enterprises, sovereign wealth funds, and state-supported national champions) as well as the emergence of muscular forms of statism (such as economic patriotism, strategic protectionism, techno-nationalism, neo-mercantilism, various forms of industrial policy and national development plans), a number of commentators have wondered: is this the rise of a new form of state capitalism? 

Drawing upon the Comparative Capitalism tradition, academics (but also, and increasingly, strategic analysts, political leaders, foreign policy professionals) tend to understand this phenomenon as the rise of a national or regional variety of capitalism, which allegedly prevails in large emerging economies such as Russia, Turkey, Indonesia, Brazil, India, Hungary and others, with China often seen as a prime example of such variety of capitalism. From this perspective, state capitalism is seen as an increasingly potent rival of liberal free-market capitalism. I distance myself from such explanation (cf Alami and Dixon 2020b). My co-author Adam Dixon and myself prefer to conceive of state capitalism as a genuinely global and polycentric process of state restructuring, characterised by the uneven and combined aggregate expansion of the state’s role as promoter, supervisor, and owner of capital, resulting in highly diverse institutional landscapes and configurations of state-capital relations across the world capitalist economy (Alami and Dixon forthcoming). This process unfolds at various scales and across territorial borders and is grounded in the historical development and geographical remaking of capitalism. Moreover, if these new global landscapes of state capitalism have gradually emerged at the turn of the millennium and further expanded in the post-2008 global financial crisis environment, they may well deepen and consolidate in the post-COVID-19 world, as states will devise strategies to adapt to the new political economic environment and to reconfigure their participation in regional and global value chains. 

The rise of state capitalism is fundamental to the Wall Street Consensus (and the broader geopolitics of finance and development) for at least three reasons. First, large state-sponsored corporate entities like sovereign wealth funds are important actors in the coalition of actors which is driving this emerging paradigm (multilaterals, institutional investors, and so on) (Kanai and Schindler 2019). It is telling that, since 2012, executives and representatives of major sovereign wealth funds have been invited to the biennial World Investment Forum (the main global platform for investment and development, organised by UNCTAD) to enhance their participation in SDG and infrastructure sectors.  

Second, harnessing large amount of state-controlled liquidity circulating in the world market is presented as a priority by the Wall Street Consensus. For instance, a key policy document, the 2015 Development Committee paper From Billions to Trillions: Transforming Development Finance, argues that ‘emerging pools of capital (such as sovereign wealth funds…) could be important financing sources for emerging markets, particularly for large infrastructure and energy investments’ (2015: 14). Similarly, The UNCTAD 2020 World Investment Report submits that a central aim of investment promotion policy in developing countries should be to attract ‘[t]he large amounts of institutional capital [sovereign funds but also public pension and insurance funds] looking for investment opportunities in global markets’ (UNCTAD 2020: iv).  

Third, the contemporary advent of state capitalism has prompted multilateral development banks, international governmental organisations, and traditional development actors to adapt. Drawing upon research papers and policy documents released by key multilaterals (OECD, IMF, World Bank, UNCTAD, and others) since the early 2010s, we have shown in recent work that these actors have reluctantly acknowledged some of the developmental successes of state capitalism (notably in funding infrastructure in the developing world), while expressing the need to adapt to this new “state capitalist normal” (Alami, Dixon and Mawdsley 2021). Such reaction has taken the form of a strategic discursive and ideological adjustment involving a certain re‐legitimation and fuller role of the state in development (than the Post‐Washington Consensus), and a limited embrace of state‐owned capital (including state enterprises, sovereign wealth funds, and state‐owned banks), even as it critiques China’s use of similar instruments. Our argument is that the Wall Street Consensus is embedded in this emerging vision of the state. 

Q5: You claim that we see an increase of state-led industrial planning, as a one of the features of the â€˜state capitalism’. At the same time, we witness a shrinking possibility for exactly this industrial planning in other countries, which is partly attributable to the push for market-based finance by leading development agencies. Equally, the enhanced role of state-owned enterprises and public development banks is paralleled by the rapid expansion of public-private partnerships (PPPs) and market-based finance more generally. Certainly, state institutions play a crucial role also in these processes (for de-risking those investments as well as channel processes along geopolitical and geo-economic interests). But given the focus on marketability and bankability of these infrastructure projects: Isn’t it exaggerated to talk about a global paradigmatic turn to ‘state capitalism’? How do you make sense of these contradictory dynamics? 

To be clear, my claim is that the current advent of state capitalism should be seen as a world-historical process of state restructuring, not a policy paradigm. The determinate processes pertaining to the historical development and geographical remaking of capitalism which underpin such restructuring are: the accelerating unfolding of the new international division of labour and, connected to this, a secular shift in the centre of gravity of the global economy from the North Atlantic to the Pacific rim; technological modernisation and industrial upgrading culminating in the Fourth Industrial Revolution; a historically unprecedented concentration and centralisation of capital; and the extension of debt and financial relations. The source of contemporary state capitalism lies in the variegated ways in which states have politically mediated these capitalist transformations and their crisis tendencies. Of course, this has happened very unevenly, depending on a country’s position in the international division of labour and power differentials in the inter-state system, i.e., not all states have had the opportunity and/or capacity (or political will, for that matter) to drastically expand modalities of intervention and direct ownership of capital. 

So, the first point I’d like to make in response to your question is that there is no necessary contradiction between ‘more state capitalism’ and ‘more market-based finance’ or, more generally, ‘more private sector participation’. There is a tendency in discussions of contemporary state capitalism to read contemporary developments through binary dichotomies such as states vs markets, liberal vs illiberal, profits vs (geo)political objectives, which I think is not helpful. An expansion of state-owned capital and strong state intervention does not necessarily mean hostility to capitalist markets. And as your question suggests, there are many ways in which ‘state capitalist’ instruments, such as, say, policy and development banks or international development agencies, can be used to de-risk private sector investment. So, what looks like a paradox (at first sight) may not be one. As Daniela Gabor also mentioned in a twitter exchange, it is not useful to construct yet another oppositional binary such as state capitalism versus Wall Street Consensus. I certainly agree. 

That being said, there are of course many potential sites of tension and conflicts here, notably due to the geopolitical forcefields in which these tendencies are embedded. For instance, and to come back to the point made earlier about multilaterals adapting to the new “state capitalist normal”, what we are seeing is clearly an attempt from them to make sure that state capitalism assumes liberal forms (especially in developing countries). I think that their position is increasingly something along the following lines: state capitalism is here to stay, so we need to make sure that it creates the fewest frictions possible in the global circuits of trade, production, and finance, and that it does not disrupt the competitive operations of the law of value. This is clear in their explicit objective of clearly delineating the parameters according to which things like sovereign funds, development banks, state enterprises should be used and governed: according to the OECD, the IMF and the World Bank, they must be run ‘professionally’ by technocrats, management consultants, or former bankers, they must adopt the techniques of liberal governance, they must mimic the practices and organisational goals of comparable private-sector entities, operate in a business-like manner, adopting “modern risk management practices”, “effective governance frameworks”, and so on.  

So in my view, what we are seeing here is some sort of attempt at controlling the proliferation of state capitalism, domesticating it (if possible) by clearly delineating its parameters, and harnessing the expanding state role towards the interests of the private sector (and perhaps chiefly finance). Maybe this is because these institutions are desperately trying to remain relevant in a changing world, and therefore must adapt. More fundamentally, it is probably because, ultimately, these are actors dedicated to the global imposition of capitalist disciplines, with the reordering of states at the core of their task (Cammack 2010). Which is where recent critiques of the Wall Street Consensus may be missing something: as part of the process I just described, an elaborate vision of the state in development is being articulated, which, in my view, cannot be reduced to simply the promotion of the â€œde-risking state” and the provision of “investible” infrastructure projects (although both are indeed fundamental), nor does this close off entirely the space for industrial policies and spatial planning. At the moment I am doing some work with Seth Schindler and Nick Jepson where we are trying to unpack various forms of entanglement between state capitalism and the Wall Street Consensus. One of the arguments we are developing is that many developing countries are willingly embracing the policy grammar of the Wall Street Consensus, because it allows them to formulate spatialised forms of industrial policy centred on the state-coordinated expansion of infrastructure (Schindler, Alami, Jepson, forthcoming). Thus, the Wall Street Consensus may be constraining the capacity to intervene in some ways, but a significant number of states have been able to pursue their own spatial objectives by framing them in terms of the rules and norms of the Wall Street Consensus.  

This would explain a seeming paradox: at the very time where the Wall Street Consensus is rising, which (critiques have argued) is supposed to render obsolete various forms of modernist and developmentalist plans, there actually has been a proliferation of national development plans and industrial strategies. Indeed, according to UNCTAD, â€œ[i]n the decade since the global financial crisis, the number of countries adopting national industrial development strategies has increased dramatically. The rate of adoption of both formal industrial policies and individual policy measures targeted at industrial sectors appears to be at an all-time high” (UNCTAD 2018:128–129). There is therefore a need for much more research to explore the many ways in which state capitalism and the Wall Street Consensus are entangled. This cannot be reduced to matters of competing policy models or paradigms. Also, and to be clear, we are not saying that this means that critiques of the Wall Street Consensus are misplaced (they are not, and we certainly sympathise with them), nor are we claiming that developing countries have at their disposal all the ‘policy space’ they want (that would be absurd). We are also not particularly enthusiastic about how some states in developing countries are trying to harness the Wall Street Consensus in order to pursue their own objectives. Miguel Kanai and Seth Schindler, for instance, have clearly warned that these state-led projects often do not benefit the broader populations, notably because they “rely on ambitious physical planning, with masterplans evincing elite, globalisation-oriented objectives that neglect local needs and trigger displacement” (2019: 302). The problem of these plans and infrastructure projects, then, isn’t simply the ways in which they are funded and by whom, but also, perhaps more fundamentally, who and what objectives they are designed to serve. 

Q6: What does the simultaneous rise of ‘state capitalism’ and ‘market-based development finance’ mean for the nature of imperialism? How is finance organised by the US or the EU, aiming to leverage private finance while, at the same time, seeking to achieve objectives beyond pure return (such as geopolitical influence)? 

This is an interesting question â€“ let me try and answer by tying together some of the threads discussed so far. First, both the trajectories of state capitalism and of the Wall Street Consensus are enmeshed within geoeconomic and geopolitical constellations and forcefields (Alami et al. 2021). In many ways, geoeconomic and inter-imperialist competition is a major vector of politicisation of state capitalism. This includes (but is not reducible to) the so called “new Cold War” between the United States and China, but also competition between other state actors (France, Germany, the United Kingdom, Korea, Japan, India, etc.) with important implications for developing countries. For instance, development policy has been increasingly used as a form of “export stimulus”, where the opening of ďťżinvestment opportunities in developing countries is meant to offer an outlet for the surplus capital of respective private sectors (Mawdsley et al. 2018). Such policies have also been geared toward achieving geostrategic objectives, resulting in the return of geographical spheres of influence and the promotion of national interests in international development (ibid.). The Wall Street Consensus is tied to this: by opening investment outlets for surplus capital by escorting and de-risking investment for transnationally oriented segments of capital and finance, it contributes to export stimulus by delivering economic benefits to the private sectors of established powers.  

One may also understand the Wall Street Consensus as a means of consolidating the comparative advantage of the United States, the United Kingdom, and other established powers in global finance, by incorporating in development financial actors that are overwhelmingly based in advanced economies, such as global asset managers, institutional investors, credit rating agencies, consultancies (and other firms specialised in producing financial knowledge), as well as the dominance of the major global financial centres of Wall Street and the City of London. Functions of control and authority continue to be centralised in a limited number of world financial centres located in advanced capitalist economies, and the asset management industry, which manages trillions of US dollars, is extremely concentrated and disproportionately located in US financial centres. Thus, the Wall Street Consensus re-centring of private finance in international development can be seen as an attempt at strengthening and deepening the highly uneven global geographies of money power and the influence of traditional actors and centres of power in those geographies. From this perspective, the Wall Street Consensus, under the veil of a â€œpost-political alignment between business, finance, development and sustainability” (Mawdsley 2018: 193) may well be the latest iteration in the long history of imperial power propping up these geographies to make sure the operations of money and finance benefit core advanced capitalist economies, and reinforcing in the process the subordinate positionality of developing countries within these geographies. It’s hard not to see this as a direct response to the rise of China and its extension of state-supported finance in the developing world. The terms according to which Chinese state-supported finance is allocated differ to some extent from western-centric forms of lending, although there are very clear elements of convergence too, such as, for instance, the securitisation of state assets (Chen 2021). How will these inter-imperialist rivalries shape the operations of money power and capitalist finance? This remains an open question. 

Another very interesting aspect of current patterns of inter-imperialist and geoeconomic rivalry is what Miguel Kanai and Seth Schindler (2019) aptly called the “infrastructure scramble”, and which refers to the process of competition between states and private actors to redesign territories by financing, constructing, and controlling large-scale infrastructure in the developing world. The objective is to “enhanc[e] economic competitiveness through enhanced connectivity to transnational value chains”, integrating spaces of resource extraction, processing, industrial production, and logistics networks (Kanai and Schindler 2019:303). Recall the point made earlier about capitalism having entered an “age of logistics”, where optimising the circulation of capital has taken a distinctly strategic character. The “infrastructure scramble” and the race to fund and control networked mega-infrastructure connectivity projects in the developing world may well be one of the key features of imperialism in this period of capitalist development. This reintroduces a fundamentally territorial dimension in the logic of inter-imperialist rivalry. And the relevant actors are not just the US and China, but a range of advanced and emerging capitalist economies, as mentioned above. This raises a number of interesting questions: how will this shape future trajectories of state capitalism, and the unfolding of the Wall Street Consensus? How will states in developing countries navigate this context? With what consequences for workers, peasants, and the poor? How to develop progressive forms of political organisation and international solidarity in this new phase of capitalism and imperialism to support popular struggles across North/South lines? My hope is that progressive academics and activists can contribute to finding answers to these challenging questions. 

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is now available in paperback (20% discount available, enter the code SOC21 at checkout).

Ilias AlamiĚýcurrently holds a postdoctoral researcher position at Maastricht University in the Netherlands.Ěý.

By and Johannes Petry

In the past, during the time of the “Washington Consensus” developing countries from the Global South faced the IMF and the World Bank as their main counterparts in important matters of global finance. Based on our recently published we argue that due to an ongoing paradigm shift in financial markets this constellation is changing profoundly. A new breed of Wall Street firms is emerging that occupies a pivotal position in the relationship between (developing) countries and financial markets – index providers.

This rise of index providers is grounded in the global shift towards passive investment. Formerly, investors gave their money to funds where a well-paid fund manager was picking stocks (or bonds) with the aim to produce above average returns – to “beat” the market in finance parlance. But now more and more investors invest in cheap passive funds (which comprise both exchange traded funds and index mutual funds) that merely track financial indices. Unlike actively managed funds, however, the passive index funds industry is characterised by enormous economies of scale – in terms of technology it is not a big difference if a passive fund has ten million or ten billion US$ assets under management. In addition, there is a strong first mover advantage. As a result, BlackRock, Vanguard and State Street dominate passive funds as the . Excellent recent work has since focused on how this is shaping the emergent .

What is not yet adequately discussed is the fact that these asset managers effectively delegate their investment decisions to a small group of index providers, which own, construct and maintain the key global benchmark indices. Global stock indices are dominated by S&P Dow Jones indices, MSCI and FTSE Russell. In fixed income (i.e. bonds) Bloomberg has played a huge role ever since it bought the widely tracked Global Aggregate Bond Index suite from Barclays in 2016. While especially for countries in the Global South, JPMorgan is another important index provider as it owns the important Emerging Markets Bond Index.^[1]

As ever more assets track the equity and bond indices by this new burgeoning group of “passive” Wall Street firms we need to research what this means for states in the Global South. Is the growing influence of index providers in this era of passive investing leading to a new kind of of developing countries in Africa, Asia and Latin America, perpetuating the that characterise global financial markets?

One finding is that in developing countries in which index funds hold a larger share of the stock market cross-border financial flows are . Moreover, when countries (or firms) are downgraded or excluded from widely tracked indices, all the passive funds that replicate the index are forced to sell these assets. The result is quasi-automatic financial outflows from the particular country. This mechanism arguably puts pressure on developing countries to take index methodologies into account in their financial regulatory frameworks. Conversely, the prospect of being upgraded or included into key indices constitutes an accolade for many countries as it signifies the trust of the global investment community and causes financial inflows worth billions of US$. MSCI’s inclusion of China A-shares is estimated to result in US$400 billion of capital inflows over the coming years. The decisions of index providers increasingly move markets – especially for more .

In the we investigate how index providers determine capital flows into (and out of) countries. The figure below shows the MSCI Market Classification Framework. We argue that the primary criterion and the one that is most likely to influence developing countries is “market accessibility”, which includes openness to foreign ownership and ease of capital in- and outflows. The criteria “economic development” and “size and liquidity requirements” are not crucial and relatively easy to fulfil. What matters when it comes to “steering capital” are index providers’ evaluations of a countries’ foreign investment regimes.

Source:

These assessments of market accessibility, however, are based on qualitative measures that MSCI (and other index providers) reviews for all markets at least once a year during its . This approach provides MSCI with a high degree of discretion and This matters a lot. While the MSCI Emerging Markets index serves as a benchmark^[2] for assets under management worth US$1.8 trillion, its frontier market index is tracked . A reclassification therefore has enormous consequences for countries . In the words of the , “MSCI […] in effect controls the definition of which countries are ‘emerging markets’”. As the dominant global provider of emerging markets indices, MSCI has emerged as a crucial counterpart for developing countries.

The ongoing avalanche of capital into passive funds supercharges the influence of the major index providers. As puts it: “the big index providers, they are setting standards! […] Before, nobody paid attention, but now so much money follows them, […] they have a lot of political power!” In fact, in November 2020 the assets of equity exchange traded funds that directly track MSCI indices have surged past the US$1000 billion milestone for the first time while funds worth US$14.8 trillion use MSCI’s indices as benchmarks.

A few examples highlight the growing clout of index providers. In 2015 the finance minister of Peru, accompanied by staff from the central bank, reportedly hurried to New York. The purpose was neither to go to the United Nations nor to meet the IMF or the World Bank. Instead, the reason was that rumors were circulating that the large index provider from its widely tracked MSCI Emerging Markets Index to the lower Frontier Markets Index. The mere fact that MSCI thought about downgrading Peru from emerging to frontier market status resulted in a 5% . Peru managed to avert this relegation by changing financial market regulations, easing global investor access and engaging in but this episode shows for states from the Global South the actions of index providers are highly consequential.

Similarly, from its Emerging Markets Bond Index in 2015 because the country had implemented currency controls which hindered market accessibility. In mid-2020, for possible exclusion from its Emerging Markets Index as market accessibility deteriorated substantially in both countries. In the case of Turkey, this is expected to trigger about $5bn in total outflows from Turkish equities, including about US$2-3 billion from passive investment funds that automatically track the index. Instead of international financial institutions such as the IMF or World Bank, these episodes illustrate that in the new era of passive investing, index providers have become key gatekeepers in global finance.

It has recently been argued that we witness the metamorphosis of the “Washington Consensus” into the which can be defined as an “elaborate effort to reorganize development interventions around selling development finance to the market.” The major index providers will play a key role in this new era of global finance. Even though the funds that track this index ecosystem are called “passive”, the firms that own and construct the dominant financial indices exert a growing active influence on states – especially on developing countries in the Global South.

is a Senior Research Fellow at the CORPNET project, University of Amsterdam.
Johannes Petry is an IRC Postdoctoral Research Fellow at the SCRIPTS Centre of Excellence, Free University of Berlin. .

Photo:

NOTES

^[1] JPMorgan is the last big bank that owns an important suite of indices. The Wall Street giant also trades emerging markets bonds. Due to this potential conflict of interests and increasing regulation of index provision (e.g. the European Benchmark Regulation) it seems likely that JP Morgan will eventually sell its indices. MSCI would be the natural buyer as it owns the dominant emerging markets equity indices.

^[2] Index funds fully replicate the specific index they track, while most actively managed funds have one index to which they compare (or “benchmark”) their performance and from which they thus are not able to diverge substantially.

Photo by Unsplash/

For several decades, countries of the periphery have been deeply in the grip of debt. The Covid-19-induced crisis has and thus increased financial vulnerability. Recent policy measures by peripheral governments and central banks have brought momentary relief, but ultimately represent a manifestation of the interests of finance capital to get the most out of peripheral economies as long as it is still possible. 

Because of the dependence of their currencies on international capital flows, due to the possible effects of political decisions on the movement of such flows. The enormous power of financial markets over monetary policy in the periphery is again becoming evident during the current crisis. The crisis in the global periphery is generally much more severe than in the central countries, not only because of often inadequate health systems that have been abandoned under three decades of neoliberal policy. As peripheral assets do not serve as a store of value, within three months, constituting a historically unprecedented capital flight. Factors such as the deflation of prices of primary resources, the fall in external demand for manufactured products, and the fall in cash flows due to decreasing remittances and tourism mean that financial pressure has increased even more. Consequently, peripheral currencies significantly depreciated with the beginning of the crisis, in some cases by as much as 20-30%, as in the cases of Brazil and Mexico.

Central banks in the periphery have been frantically trying to stop further currency devaluations and capital outflows, which could set in motion a spiral of hyperinflation and insolvencies as seen in past financial crisis of the 1980s and 1990s. Significant depreciations of their currencies against the US-Dollar would be devastating as their import dependency has sharply increased in the context of economic liberalization and deindustrialization since the 1980s. Moreover, the domestic corporate and banking sectors have accumulated massive amounts of Dollar-denominated debt, especially as a consequence of carry trade (i.e. borrowing foreign exchange and lending domestic currency, gaining from the interest rate spread). 

With the water up to their neck, peripheral countries have drawn on a series of measures. Among the conventional ones are resorting to . Moreover, many in March and April 2020 in order to support their currencies (they do so by buying them on the international forex market). However, in addition to these more “traditional” emergency measures, there are two more unconventional approaches that central banks have used to defend their currencies. 

First, in order to obtain US-Dollars for providing liquidity to large banks and companies, and stabilize the exchange rate without using reserves, some central banks, like those of Brazil (BCB) and Mexico (Banxico), have made use of the swap lines offered by the Federal Reserve. This means that they exchange their own currency at a fixed exchange rate against Dollars with the FED, and then auction these Dollars to the domestic private sector in the form of non-deliverable forwards. However, while the instrument is praised as one that permits stabilizing the exchange rate without draining reserves, it is . When the coverage period with the FED ends, BCB and Banxico have to return the same amount in Dollars to the latter. If the exchange rate against the Dollar depreciated, the central banks pay the domestic buyers of the forwards the difference between the exchange rate of that day and the price at which the coverage was agreed. Hence, effectively the operation works as an for private actors in their countries. The cost for the central bank could be offset through the increasing value of foreign exchange reserves, which are usually held in the form of US government bonds, Should the exchange rate appreciate in favour of the Brazilian Real and the Mexican Peso, the governments may have to . Ultimately, the cost of the operation lies with the Brazilian and Mexican state.

Second, several peripheral central banks, for instance those of Chile, Colombia, Indonesia, Mexico, the Philippines and Turkey, recently began to inject liquidity in the domestic financial system through purchases of public and / or private sector bonds and also legal reductions in the monetary regulation deposit (minimum reserves that banks have to have with the central bank). This seems like a copy of the Quantitative Easing (QE) measures that central banks in the centers of the world economy have been implementing since the 2008 financial crisis. However, in the periphery the story is a different one. FED and ECB have been able to “print money” in massive quantities by purchasing treasury and corporate bonds on financial markets without their currencies losing value. To the contrary, such measures imply a considerable risk for financial stability in the periphery, whose currencies depend on the continuous demand for these by financial markets. This is reflected in threatening comments by investment banks and the financial press regarding these actions, such as , , . Therefore, such liquidity injections in the periphery must be sterilized (that is, offset through the issuing of new debt bonds) if they are not to expand the monetary base. It is unclear whether all countries that have implemented “QE” have done so (it seems to be the case for and ), or rather financed their programmes with selling international reserves (as claimed by ). After all, in order to (temporarily) stabilize the exchange rate through “acting as a buyer of last resort” and not achieve the opposite effect, peripheral states must either incur new debt on financial markets, or accept a drain on their international reserves.  

For the moment, these measures seem to have stabilized exchange rates, . In fact, , finance capital welcomes the opportunity to further profit from lending to the periphery, as stated by an investment banker according to whom  

The question is, however, for how long the financial bubble can continue to grow. The international reserves of many countries will not be enough to pay the mounting piles of debt, if (or when) abrupt capital flight causes high currency depreciations. Therefore, it is likely that will occur sooner or later. The investment bank JP Morgan still , while financial analysts forecast a . At the end of the day, the ones who are going to pay the bill of investment banks are the working classes of the global periphery.

Nadine ReisĚýis a research professor at the Center for Demographic, Urban and Environmental Studies (CEDUA) at El Colegio de MĂŠxico. Her current research focuses on financialization and urbanization in Latin America, especially Mexico. She tweets at ​.

Photo: IMF. By .

In recent years, state capitalism has become an important buzzword in the development economics discussion (again). In view of the very different ways in which this term is used, Ilias Alami and Adam Dixon recently highlighted the dangers of using the term too loosely in an article in . In view of its recent popularity, state capitalism could suffer a similar fate to the terms “neoliberalism” or “financialisation” by becoming a very loose rallying cry without any significant analytical value. To overcome this problematic situation, Alami and Dixon propose that future research should (1) develop a theory of the capitalist state, (2) circumscribe the time horizons of state capitalism, and (3) locate state capitalism more precisely in territorial and geographical terms.

Although I am not sure whether the genius can be put back into the bottle by developing a unified theory of the state (too many different theoretical traditions are involved by now), I am very sympathetic to the latter two demands. Our recently published book “State-permeated Capitalism in Large Emerging Economies” () is a modest contribution to the latter goals. It deals with the economic development of Brazil, India, China and South Africa between 2000 and 2015. Departing from a “” perspective, we have developed an ideal type of state-permeated capitalism – as opposed to liberal, coordinated and dependent capitalism – and examined to what extent large emerging markets are approaching this ideal type.

During the last two decades, comparative capitalism scholarship – defined by common features such as the emphasis of institutional contexts that are sticky and most important on the national level – has evolved a lot. Despite the existence of various earlier and parallel developments, the “Varieties of Capitalism” approach had become canonical during a first generation of comparative capitalism research. Many of its basic features are still useful for the analysis of capitalist systems. This primarily refers to the distinction of five institutional spheres (corporate governance, financial system, industrial relations, education and training as well as the transfer of innovations) and the identification of cross-cutting coordination mechanisms (inter-firm networks and associations in coordinated economies, in contrast to competitive markets and formal contracts in liberal economies). The narrow analytical focus on OECD countries as well as the rigid typological dichotomy of the original framework later has been overcome by extending the study of national capitalist institutions to other world regions and constructing new ideal types accordingly, including the state-permeated type mentioned above.

China and India, the two economies that come closest to the ideal type of state-permeated capitalism, have featured very high growth rates during the last decades. This growth was based on real investments in industry, not only on financial sector activities. Against the conventional wisdom that emerging markets’ growth is mainly based on exports, industry in the countries following the state-permeated model mainly produce for domestic markets, particularly in a market segment with a medium level of technology. Domestic markets are sheltered from global competition, both by tariffs and regulatory measures. In order to tap this market segment, companies in state-permeated capitalism are supported by institutional complementarities that provide a high degree of stability, both with regard to corporate governance and finance for investment.

Both the temporal and territorial issues highlighted by Alami and Dixon play an important role in our research. From the perspective of development economics, the key question should be: When does state-permeated capitalism work? Let us first turn to the territorial aspect. A core problem for different types of state capitalism is the problem of state revenues and the associated phenomenon of “rent-seeking”. Certain economic groups gain a dominant position in the state apparatus and abuse it for personal enrichment, or to gain anti-competitive advantages for their affiliated companies. As has been some decades ago, this is a major problem for development, particularly in economies based on natural resources. Our research on more successful forms of state capitalism has shown that the latter are based on competition between different coalitions of state and business that keep each other in check, thereby preventing extensive state capture and rent-seeking by a single group. In both China and India, no economic power is able to fully control the state’s steering of the economy. In contrast, there are a number of competing coalitions on the subnational level, very often based on close informal and reciprocal cooperation between local or regional authorities and large companies based in these regions. These coalitions form an informal system of checks and balances. The system largely prevent the harmful capture of the state apparatus by a single group. However, an important prerequisite for this mechanism to work is a very large economy. Smaller economies can be more easily controlled by a single group of rent-seekers.

Turning to the time dimension highlighted by Alami and Dixon, we find that the rise of state-permeated capitalism was accompanied by an economic situation in which large Western companies were desperate to access the large domestic markets of major emerging markets in the face of stagnant demand and fierce competition in their home economies. Both the Chinese and Indian governments controlled the access to their large domestic markets and were able to negotiate large concessions from Western companies. This was most pronounced in the case of China where, for example, Western car producers were forced to undergo joint ventures with local companies and agree to substantial technology transfer, in order to be able to set up shop. During the 1950s or 1960s, in contrast, the negotiation position of the Chinese or Indian government would have been much weaker, due to sufficiently high growth rates in the Western economies.

In both dimensions (space and time), state-permeated capitalism has turned out to be an option for major emerging markets only. Small emerging markets, in contrast, are neither large enough to develop competing state-business coalitions, nor do they have a strong negotiating position to force Western companies to cooperate on their terms. Correspondingly, state-permeated capitalism is no panacea for successful economic development.

However, not even all large emerging economies have proven to be able to mobilize the advantages of state-permeated capitalism in spite of their temporal and territorial advantages. Our study of the cases of Brazil and of South Africa demonstrate that state-permeated capitalism also requires a certain degree of political coherence to work well. During the last decades, both in Brazil and South Africa, massive conflicts between the various class fractions dominating their political economies have prevented their ability to come up with a coherent institutional set-up for the successful pursuit of state-permeated capitalism. At least in case of Brazil, a strongly entrenched role of foreign-linked capital also inhibited the development of a common national development project.

To conclude, Alami and Dixon are to be applauded in highlighting very important factors for the future study of state capitalism, even if their rallying cry for a coherent state-theoretical foundation of this research may prove to be elusive. At least for the case of state-permeated capitalism, both time and space have proven to be important factors circumscribing their effectiveness.

Dr. Andreas NĂślke is professor of political science at Goethe University and head of research group at the Leibniz Institute for Financial Research SAFE in Frankfurt, Germany.

In April 2012, at the White House on her first visit to the United States since her election in 2010, Brazilian president Brazil Dilma Rousseff scolded advanced capitalist economies for unleashing a ‘tsunami de liquidez’, a ‘liquidity tsunami’, onto the developing world. The expression liquidity tsunami suggests that the sheer scale and volume of financial capital flows to developing and emerging markets had become an issue. It indicates that these quantities were overwhelming and could trigger devastating damages.Ěý

This in itself is puzzling. Have we not been told by development economists and practitioners that financial capital flowing into the poorer areas of the world economy is something good and desirable? That one of the main causes of underdevelopment is actually the lack of capital and domestic savings in developing countries, and that this should be compensated with foreign capital inflows? Following this line of reasoning, vast swathes of financial capital flowing into emerging markets surely should be seen as a boon.

And there was some truth to that. The capital flow bonanza from the mid-2000s to late 2013 (coupled with the primary commodity super-cycle) did deliver some benefits to emerging markets. It helped governments fund themselves at better conditions. It provided the material basis for significant redistribution via a number of social policies. It contributed to economic growth performances much higher than over the previous decade. It also made a minority of people much richer in a very short period of time. In sum, the capital flow boom temporarily helped deliver some economic and social gains, and this was instrumental in consolidating social contracts between governments and their populations.

Yet, as Gill Marcus, the South African Reserve Bank governor at the time, put it in a Financial Times : ‘One can have too much of a good thing’. The irony of this statement will not be lost to the reader: South Africa, Brazil, and many other emerging markets had made considerable efforts and deployed extremely costly policies for years in order to attract financial capital flows and build their reputation as attractive and profitable investment destinations. The very same countries were now complaining that they were receiving too much financial capital. As it turned out, the blessing of financial capital did not come without significant costs.Ěý

Given the sheer scale of the flows circa 2011, these costs were becoming increasingly problematic for governments in emerging markets. Not only were volatile cross-border financial capital movements a serious factor of macroeconomic instability and financial fragility, contributing for example to strong currency appreciation, the formation of asset bubbles, and the build-up of various forms of external vulnerability, they also constituted a major mechanism through which financial crises which originated elsewhere in the world economy (for instance, in the Eurozone) were transmitted to emerging markets.Ěý

It became clear that economic development in the latter was increasingly dependent and subordinated to global liquidity conditions and market sentiment. Furthermore, the end of the financial capital flow boom post-2013 played a decisive role in the profound political crises that unfolded recently in many emerging markets, by worsening economic conditions and prompting state authorities to implement deflationary adjustment policies, at huge social and human costs. In other words, from a scenario where financial capital inflows were experienced as too much, there was then an extremely fast and brutal transition to a configuration where they were experienced as too little, and this was equally, if not more, harmful to emerging markets. This temporal sequence tells us that whether it is experienced as too much or too little in emerging markets, the movement of financial capital across the world market has the capacity to powerfully determine the prospects of entire regions and the fate of their populations.

My proposes to scrutinise how this forceful form of social regulation subjects emerging markets to the discipline and logic of capital, that is, to the money-power of capital. In particular, it is concerned with how this ‘seemingly transcendental power’, to borrow an expression from , as expressed through the cross-border movement of money and financial capital, encapsulates a messy entanglement of opportunities and constraints which present states in emerging markets with a series of challenges which are particularly difficult to manage.Ěý

The book also explores how states have tackled these challenges by developing specific policy designs, regulations, instruments, and forms of interventions in the post-2008 crisis environment. For instance, different forms of , macroprudential regulations, foreign exchange derivatives regulations, unconventional monetary policy tools, and ‘aggressive’ foreign exchange market interventions were implemented in countries as diverse as Brazil, South Korea, Indonesia, China, Costa Rica, Uruguay, the Philippines, Peru, Taiwan, Colombia, Argentina, and Thailand. The book provides an in-depth exploration of the drivers of this outstanding diversity in the contemporary landscapes of cross-border finance management in emerging markets.Ěý

The book addresses this issue by foregrounding class relations as a fundamental analytical category. This is important because it allows uncovering the multiple class-based relations of domination and exploitation that underpin both the movement of cross-border finance and the various institutional and political forms of state power in emerging markets that mediate this movement. Put differently, a focus on class allows conceiving of the social relations of capitalist production and the limits set by the dynamic process of capital valorisation as crucial determinants of cross-border financial policy processes and outcomes.Ěý

The book also argues that differentiation in cross-border financial management is a process shaped by the specific position of emerging markets in global financial and monetary relations, and the implications of this position in terms of the global distribution of financial gains, risks, and vulnerability. This is because emerging markets occupy a subordinate in the geographical organisation of financial and monetary relations on a planetary scale, or what the book calls the relational geographies of money-power. The book constitutes one of the first attempts to systematically characterise the subordinate positionality of emerging markets in these geographies from a multi-disciplinary perspective, combining insights from Marxist political economy, post-Keynesian economics, economic geography, and postcolonial and feminist IPE.Ěý

While my approach is resolutely grounded in geographical political economy, I also draw upon each of these perspectives in order to scrutinise various aspects of the network of space and power relations that characterises contemporary global finance. These include: the geographical organisation of the circuits of financial capital (the financial system), the functional/spatial configuration of convertibility between different currencies (the global monetary system), the concentration of money-power in a limited number of world financial centres and institutions, and the gendered and racialised imaginaries involved in the construction of emerging markets as an asset class.Ěý

The book shows that patterns of cross-border finance in emerging markets are considerably shaped by these geographical features, with far-reaching implications for state policy-making, the dynamics of capital accumulation, and for prospects of progressive social change in these countries. As such, the book contributes to an concerned with uncovering the global relations of power, value, and exploitation which underpin the subordinate financial integration of developing and emerging economies into the world market, and how this contributes to the reproduction of inequalities on a global scale. It makes an original contribution addressing this question from a perspective centred on the classed, raced, and gendered geographies of money-power.Ěý

The book investigates these issues from both a theoretical lens and an empirical one, by focussing on two case studies, Brazil and South Africa, where I conducted extensive fieldwork research and more than 85 semi-structured interviews with state managers in various government ministries and central banks, financial regulators, financial journalists, trade unionists, academics, activists, as well as economists at business organisations. It will be especially useful to those researching and working in the areas of international political economy, contemporary geographies of money and finance, and critical development studies. It should also prove of interest to policy makers, practitioners, and activists concerned with the relation between finance and development in emerging markets and beyond.

Ilias Alami currently holds a postdoctoral researcher position at Maastricht University in the Netherlands. He tweets at .

This post was originally posted on .

By Roberto Lampa andĚýąˇžąłŚ´ÇąôĂĄ˛ő ąáąđ°ů˛ÔĂĄ˛Ô Zeolla

The Argentinian government has requested financial assistance from the IMF to tackle the consequences of a serious currency crisis. Last Wednesday, the government emphatically announced the new terms of such an agreement. However, unpacking the terms of those agreements and the current situation reveals serious concerns about the country’s future .

A few months back (), we provided an analysis of the current Argentinian crisis, highlighting the excessive vulnerability of the economy produced by the abrupt financial deregulation carried out by Macri’s administration.ĚýThree aspects in particular threatened the country’s future prospects: the deregulation of foreign exchange that failed to stop capital flight, a boom in foreign debt (at a record level among emerging market economies) and the promotion of speculative capital inflows to carry trade (buying financial instruments issued by the Central BankĚýcalled LEBAC in order to pursue carry trade operations).

When international conditions worsened and the carry trade circuit came to an end, the “LEBAC bubble” exploded and produced a tremendous foreign exchange crisis that shook the Argentine economy, causing a sharp rise in inflation and a severe recession from which the country has not yet managed to escape.

To curb the flight of currency, the Argentine government ended up requesting financial assistance from the IMF through a stand-by agreement, thus putting an end to the fairy-tale of Argentine financial integration emphatically defined by Macri as a “return to the world”. However, this was not the end. The situation has gone from bad to worse. In less than three months after the agreement, the pressures on the domestic currency persist and the government has announced that will not be able to fulfil the first IMF supervision, asking for further financial assistance and a formal waiver to the first stand-by.

In this context, the state of the economy is worrisome: recession, high inflation, increasing social conflict and serious doubts about the country’s foreign debt sustainability.ĚýIn this blog post, we analyze what the Argentine agreements with the IMF consist of and suggest, in the context of current financial strife across emerging market economies, the dawn of structural reform of the IMF as a regulatory agency that supports emerging market economies constructively.

ÂżThe dawning of IMF reform?

In order to decipher the current situation, it is essential to take a step back, and analyze briefly the role of the IMF in the recent past. Since the early 2000s until quite recently, the Fund had generally not been an important player in international and regional politics. There are several reasons for this.

First, the Fund had to pay a certain reputational cost for the Argentine default in 2001 and, later, for repeatedly criticizing the subsequent debt restructuring process, which turned out to be very successful.ĚýSecond, there was the loss of the IMF’s centrality as a financial institution in Latin America. It is worth remembering that in December 2005, Brazil and Argentina canceled all of their debt with the Fund, making it clear that they were unwilling to submit to any sort of restriction on their economic policies.ĚýFinally, after the outbreak of the crisis in 2008, the global expansion of liquidity and low interest rates generated a very favorable scenario for external debt of emerging market economies.

This is the context where the opportunity for a new dawning of the IMF appears, after a long decade of marginalization: the Fund could fulfill the role of guaranteeing an orderly exit of global capital from the emerging market economies and restoring market discipline.ĚýAnd even though the the G20 helped restore the IMF’s lost prestige after the global financial crisis of 2008, the Fund never recovered its old role as the privileged lender.ĚýSo much so that the IMF’s technical offices began to look for a new role for their bureaucrats, trying to redirect them from technical review tasks (the so-called “ex-article IV” missions) towards developing technical assistance agreements with central banks and “comprehensive global models” for global forecasting.

At the present stage, the situation seems to be changing. First, there has been a sharp increase in global economic volatility, compounded by a long series of disastrous events such as the crisis of European banks, Brexit, the Catalan crisis, Brazilian elections and the Trump-China trade war, among other things.Second, the tightening of the Fed’s monetary policy and the end of the so-called tapering has led to a reversal of flows of global capital, from emerging markets back to advanced countries. These capital movements have severely affected emerging markets, causing crises and strong foreign exchange rate tensions.

This is the context where the opportunity for a dawning of IMF reform appears, after a long decade of marginalization: the Fund could fulfill the role of guaranteeing an orderly exit of global capital from emerging markets and restoring market discipline.ĚýThis issue seems to be centered once again in Argentina, expanding from there to other countries. You see this for example with the market pressures on Turkey to accept a deal with the IMF, which finally did not happen. In the Turkish case, the exit of the crisis was the regulation of operations in the Lira derivatives markets and a dollar deposit agreement with Qatar. In the wake of this, the kind and apparently open-to discussion attitude of the Fund’s director Christine Lagarde during her meetings with the Argentine government should come as no surprise.ĚýHowever, the fact that the IMF has had to change some of its traditional key points should not lead us to think that this time it’s going to be different. In fact, a short review of the terms of the agreement with Argentina reveals quite the opposite..

Stand-by me, Argentina

Argentina’s first deal with the IMF was a stand-by agreement for a period of three years and a total amount of USD 50,000 million in two stretches, along four years. The first stretch was a strictu sensu stand-by agreement of USD 15.000 million, whereas the second was a precautionary agreement of USD 35.000 million. ĚýThe aim of the agreement was to reduce the government financial deficit and to guarantee the continuous access to international debt markets. The Argentinean government already received 15.000 million in June (equivalent to 30% of its Central Bank reserves).

However, just before the first round of revision, it turned out that the agreement could not be fulfilled. The Argentinean government formally requested to re-open the negotiation with the IMF, asking for a formal waiver. The reason of this failure was that the government could not achieve two out of three quantitative targets, namely the minimum level of reserves and the maximum rate of inflation. The renegotiation ended on Wednesday 27 September with a joint declaration of Lagarde and Macri. Ěý

The updated agreement includes an additional USD 5.000 million for financial support and the advanced payment of the whole precautionary agreement, which is equivalent to USD 11.700 million in 2018 and USD 21.600 in 2019. The main reason for this decision is the Argentinian political cycle: presidential elections will be held next year and Macri’s second term is severely menaced by the crisis. Therefore, the IMF chose to support Macri, allowing him to buy some extra time.

Nevertheless, some serious concerns still remain. The most important is the persistence of capital flight from both domestic and international investors. In the case of domestic investors, the turbulence in emerging market economies and the sudden stop of carry trade differentials determined the capital flight. In the case of international investors, the situation is more complicated. Argentina is, de facto, a dual currency country. Savings are normally dollarized and this implies that a large amount of dollars is necessary for the savings of middle- and upper classes. This is the reason Macri’s administration saw the persistence of the domestic capital fight, combined with an increasing foreign debt and an intense carry trade. Such disequilibria inevitably followed from the capital account deregulation implemented in 2016.

This notwithstanding, Macri’s administration emphatically celebrated the second agreement with the IMF by saying that “the commitments with the sovereign debt are guaranteed”, adding also that “the financial turmoil will easily be removed after the details of the agreement are known”. Under the government’s eyes, the current crisis is a mere deficit crisis. Therefore, the financial reinforcement is a sound way of securing the debt to be paid in 2019.

Nevertheless, there is a missing piece in Macri’s analysis: the huge (and increasing) amount of dollars demanded by the private sector. From this perspective, the future solvency of the Argentinian economy cannot be taken for granted. Not coincidentally, the country risk index remains high. Just a couple of weeks ago it passed the 750 points, which is the highest level since 2015. Furthermore, the difficulties associated with curbing the peso’s devaluation has led researchers to question the ongoing financialization of Argentina’s economy, which has implied a very modest results in terms of growth matched with an increased financial fragility.

From this perspective, many markets actors have suggested that the Argentinean government should receive at least 40.000 million (equivalent to 100% of its international reserves) in the next 14 months in order to be solvent. This is almost equivalent to the amount of money guaranteed by the new IMF agreement. However, it might be insufficient to ensure solvency. According to independent estimations (e.g. ), the country would need at least 48.000 million in 2019, particularly between March and June. Even such a forecast is optimistic if we consider the presidential campaign of 2019 (electoral uncertainty has always implied increased capital flight in Argentina) and the adverse international context (for instance: a return of the Brazilian PT to power in the next month which would probably spur financial turbulence in the region). In the worst case scenario, the financial needs of Argentina could easily double.

Furthermore, the volume of economic activities is sharply decreasing. In the context of a higher devaluation, the 32% annual inflation rate forecasted by the government definitely looks unrealistic, particularly if we keep in mind that in Argentina devaluations imply an almost perfect pass-through effect on prices. Ěý

In other words, the Argentinean government does not only need the IMF financial support but also the international financial markets’ support (i.e. provision of new loans), which is way more complicated for a traditionally insolvent country going through a crisis for the umpteenth time. In short, it is clear that the IMF money alone is not enough to match the Argentinean financial needs.

Because of this, the stability of the country can be assumed only in the very short term and only by means of the rapid inflow of the second IMF loan. If such an inflow of money is interrupted at any point, a default on the sovereign debt would become inescapable. Even if no interruption occurs, the probability of a default will remain high. Once again, Argentina and the IMF are at the center of the stage, experimenting with new solutions for the emerging market economies’ crises, which so far appear to be ineffective. The question looms: Will the country be facing another “lost decade”?

Roberto Lampa is a Researcher in Economics at the National Scientific and Technical Research Council (CONICET) and Assistant Professor in Development Economics at the University of San Martin (UNSAM), Buenos Aires, Argentina

Nicolas Zeolla is a Ph.D candidate in Economics at the National Scientific and Technical Research Council (CONICET),ĚýBuenos Aires, Argentina

Photo:Ěý

Economics first

Back in 1980 EE and FSU economies collectively represented up to 15 percent of the ˇÉ´Ç°ůąôťĺ’s economy, in gross domestic product (GDP) shares (Figure 1). By 2016, this same group barely claimed 6 percent of the global output share. The largest economy in the group, Russia, averaged 3 percent of the global share in 2016, with remainder going to the smaller FSU and EE economies.

Figure 1. Eastern Europe and Former Soviet economies’ relative to the global GDP, % shares.

The discussions of the processes behind the growing importance of finance, financial transactions and financial motives, as well as the sustainability of the financial systems, have been located in the critical political economy debate of financialisation and neoliberalism (; ; ; ; ; ; ).

The analysis of financialisation in developing and emerging economies (DEEs) is relatively novel (). It is rooted in earlier discussions about the risks of financial globalisation and liberalisation (; ; ; ; ; ; ; ), including the Latin American Structuralist literature on the hegemonic role of the US dollar and its financial and monetary implications for DEEs (; ; ; ; ); the debate on capital account liberalisation and capital market integration (; ; ; ); and the Minsky-inspired currency and boom bust dynamics of financial crisis in developing economies (; ; ; ; ).

Recently, a literature has emerged which looks more directly at the financialisation of DEEs. One strand of this literature has focused on its international dimension, particularly the ability of both foreign and domestic actors to exploit interest rate differential and exchange rate volatility and the political economy implications of such a process (; , ; ; ). This aspect of DEE financialisation is associated with, and reinforced by, the capital flows dependency of many DEEs, which demands appropriate economic policies that guarantee and contribute to generate attractive financial returns (; ). Indeed, a key issue in this literature is the extent to which DEE governments have been compelled to provide liquidity to financial markets, as financial investors have a significant influence on the domestic currency, weakening central banks exchange rate management and contributing to exchange rate volatility (; ; , ; ; , 2011; ). This is closely associated with growing national public debt, which has been understood as a core feature of financialisation in DEEs, as government bonds are used to mitigate and protect the country against investor speculation, usually by accumulation of foreign exchange reserves and their use as hedge mechanism (Alves, 2017; ; ; ; , ).

Another strand of the literature has sought to map the financialisation phenomena encountered in the Anglo-Saxon core onto DEEs. For example, empirical evidence has been used to show the transformation of non-financial corporations (NFCs), i.e., their shift from being primarily involved in real sector activities to becoming financial actors themselves. The debate draws attention to the costly efforts to increase shareholder value, which induces NFCs to decrease productive investments, which negatively affects employment and wages, and increases their vulnerability to (international) market conditions (; ; ; ; ; ; ; ; ; ). Further, the literature shows that NFCs in DEEs have also started to rely on long-term bond issuance rather than bank borrowing (; ; Lee, 2012; ; ). Related analyses have examined financialisation in DEEs from the perspective of changes in the financial sector, such as the entry of foreign banks in DEEs and the adoption of practices found in financialised developed countries, in particular, lending to individuals for mortgages and consumption and the creation of new tradable financial securities based on these cash flows (; ; ; ; ; ; ; ; ).

The above reflects a rising interest in the issue of DEE financialisation, its manifestations, drivers and implications. However, despite this rising interest, many questions still remain unanswered. For example, what, if any, are the specific features of financialisation in DEEs? Can domestic public debt (Alves, 2017; ) or high interest rates () or a subordinate aspect () be such a feature? What is the link between DEEs’ specific financialisation features and their ‘real’ international integration into international production networks? Does mapping the phenomena encountered in the Anglo-Saxon core onto DEEs overlook the structural differences of these economies and, therefore, their different financialisation practices and features? Also, can financialisation processes be compared between DEEs? What are the roles of different institutions, policies and indeed locational factors in shaping these processes? Can the notion of “variegated financialisation” be helpful in these respects (; )? Similarly, is financialisation driven rather by international factors or by autonomous domestic political economy processes ( , ; )? Empirically, is it possible to delineate financial development and deepening from financialisation in DEEs, and to what extent can it be quantified (Karwowski and Stockhammer, 2017)?

With these questions in mind, a workshop on How to conceptualise Financialisation in Developing and Emerging Economies? Manifestations, Drivers and Implications will be hosted at Girton College, University of Cambridge, 13-14 December 2018. For more details, please, see the .

We will be delighted to see you there!

Carolina Alves, ,

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By Aleksandr V. Gevorkyan (St. John’s University) and Tarron Khemraj (New College of Florida)

In May 2016, economist Kenneth Rogoff that central banks in emerging markets should add gold to their reserves. Rogoff stated “that a shift in emerging markets toward accumulating gold would help the international financial system function more smoothly and benefit everyone.” Despite initial disagreement, we find there may actually be some justification for this view in a recent .

Until recently, literature on the optimal composition of foreign exchange reserves could be divided into two groups. The first focused on demand for reserves for transaction purposes (, , , ). The second, using a Markowitz-type portfolio approach, studied currency composition of optimal foreign reserves (, , ). On a more general level, some studies offer more comprehensive discussion of factors determining the optimal level of international reserves (e.g. ; ).

Instead, we develop an analytical model that allows for estimation of the shadow price of the target exchange rate, which is interpreted as the central bank’s sacrifice of policy precision given additional unit of portfolio variance or return.

This means that while we explicitly assume that central banks in emerging (and frontier) markets target exchange rate stability, there may also be competing pressure to maximize portfolio returns based on the international reserves mix.

To be sure, gold is not a new asset to central banks’ portfolio, neither historically, nor recently (Fig 1.). However, there has been a steady decline in gold holdings as central banks shifted towards a hard currency (e.g. U.S. Treasuries) mix of reserves. The low income and middle income economies have lowest shares with minor increases in the post-2008 years.

Figure 1. Percent of gold in central banks’ foreign reserves by country group.

Source: authors’ estimations based on data from the IFS (2017) and WDI (2017).

In the years before the 2008 Global Financial Crisis (GFC) both volatility of gold and U.S. Treasuries declined (Fig. 2). Gold dropped off first, rising momentarily, and then stabilizing. U.S. Treasuries followed, but on balance both assets may be seen as safe havens given their lower volatility during the GFC.

Figure 2. Estimated volatility of gold and U.S. Treasuries, 2005 to 2012

Source: authors’ estimations based on data from FRED (2017).

In a simulated local economy in our paper, there may be range of preferences (and perceptions) towards currency depreciation (or policy devaluation) and appreciation, expressed by θ_1 andĚýθ_2 respectively, given the central bank’s holdings of foreign reserves relative to the policy target. In many small open economies θ_1 would tend to be greater than θ_2 reflecting the higher aversion to devaluation. At the same timeĚýΠ is the foreign exchange market’s expected subjective or calculated short-run probability of depreciation or devaluation.

The central bank’s exchange rate target – that requires foreign reserves balancing – is constrained by (i) the volatility introduced by adding gold to the portfolio of reserves; and (ii) a weighted reaction function that combines both portfolio variance and return. Some central banks might also want to manage foreign exchange reserves subject to returns (e.g. Pina, 2017).

The central bank is assumed to react negatively to volatility and positively to returns. In the model this is captured by Ψ which takes values between 0 and 1. If Ψ =1, then the monetary authority is completely in the corner of the precautionary motive as it targets the exchange rate. On the other hand, if Ψ =0 the central bank is completely focused on returns as it pursues the exchange rate target.

As such, we construct a model capturing domestic foreign exchange market, adding gold demand constraint and analyzing the policy sacrifice shares in two regimes. The first, which we define as precautionary case, focuses on maintaining a currency target rule. The second, which we define as a hybrid case, adds central bank’s considerations for both portfolio variance and returns.

A representative central bank seeks to choose a level of gold that minimizes the loss function subject to portfolio volatility and some combination of volatility and returns. In other words, we want to choose a percent share of gold WG when the policy sacrifice (Îť) is at a minimum when takes values from 0 to 100%.

We are also interested in whether the range of values increases or decreases sharply or gradually. If the sacrifice value is increasing or decreasing slowly, one could conclude that it is possible to demand gold over the said range without significantly preventing the central bank from achieving its exchange rate target.

Our simulations (Fig.3 reports example of the Hybrid Case) indicate possible existence of a two-regime demand for gold. In policy terms multiple equilibria suggest the monetary authority possibly has a wide percentage range of gold demand.

Figure 3. Hybrid Case: returns and volatility constraint for Ψ =0.8

In Figure 3 the weight reflecting the central bank’s preference for precaution is higher at Ψ =0.8. The sacrifice values on the vertical axis are smaller. The conclusion here is that if the central bank is motivated by the precautionary motive, then an exchange rate target could be consistent with about 45 to 60 percent gold reserves in the portfolio without significant loss of policy sacrifice, assuming that the economy possesses the given parameters. In the hybrid case, a higher probability of devaluation causes the curve to shift downward and expand the range of possible gold percentages. This suggests that central banks have a range of gold shares to opt for with somewhat minimal sacrifice in exchange rate target policy precisions.

The overall conclusions suggest there is some justification to the original view of adding gold to the central bank’s reserves in emerging and frontier markets. Demanding a higher percentage of gold is more appropriate if the central bank prefers to accumulate international reserves for precautionary reason. At the same time, the central bank would tend to incur greater exchange rate target sacrifice if it wants to achieve higher portfolio returns. Our estimations suggest that ability to target the exchange rate is unaffected by the higher volatility of monthly returns on gold. That in turn suggests that gold might be replaced with another safe asset with similar characteristics.

The latter observation, opens up a much greater range of monetary policy flexibility to the countries susceptible to externalities from global capital flows and lacking strength in the domestic currency.

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Aleksandr V. Gevorkyan is Assistant Professor of Economics at St. John’s University and Tarron Khemraj is Associate Professor of New College of Florida.

Infrastructure projects, business ideas, and consumer credit extensions, become unprofitable due to the higher cost of credit to banks, businesses, consumers, and governments. If a country is downgraded to ‘junk status’ (more formally known as ‘non-investment-grade’ or ‘speculative-grade’), it risks the mass exodus of investors from its bond markets. As the cost of borrowing for governments increases, this can lead to a dangerous downward spiral as borrowing and spending dries up business and consumer activity declines.

Getting back on course
So what is the best set of policies for emerging markets to recover their credit ratings? On one side are economists who argue for ‘austerity’. In their view, recovering from a ratings downgrade requires sharp reductions in state spending, even if this results in poor conditions in the short term. The benefits are twofold: It can reduce inflation and prices, thereby helping restore a country’s price competitiveness in international markets; and it can enhance the credibility of a government when it comes to containing profligate spending.

Former British Prime Minister David Cameron called this philosophy ‘’. The problem is that there is not much evidence toĚýĚýthis idea. The EU enforced austerity among its member states in response to the 2007 financial crisis, until it helped propel a ‘’ recession in 2011/12. Following this largely unsuccessful adventure with austerity, the EU turned towards more pro-growth policies, which supported expansions in infrastructure and fixed-capital investment, with notable success.

Using pro-growth policies to reduce relative debt levels has a tradition dating back at least to the days of US economist Irving Fisher. Writing in the aftermath of the 1929 Great Crash, and the ensuing Great Depression, Fischer argued in hisĚýĚýtheory that austerity would be counter-productive since what matters in not the debt itself but the debt burden relative to the level of output (GDP). This is because output tells us the available resources a country has to pay its debts. So, while sharply reducing spending to reduce debt may seem like a good idea, Fisher argued that by reducing GDP, sharp spending cuts would only exacerbate solvency issues, in turn reducing government capacity to service any debt in the future.

Moreover, sharp cuts to spending would lead to a fall in prices, thereby making any nominal debt more expensive in real terms. Following Fisher, economists with a Keynesian bent even call for more, not less, borrowing by governments to help jumpstart growth and output to reduce the relative burden of debts. With low interest rates and strong ‘multiplier’ effects, borrowing to fund infrastructure spending has been supported by the , even in countries with high levels of debt. Which approach should emerging markets take?

How to regain credit status
Based on statistical work and two detailed case studies undertaken for constituencies in South Africa (whose credit rating was recently ), I found most emerging markets that quickly regained their investment grade status did not do so through austerity measures, but instead through policies that raised the level of economic growth, thereby improving their capacity to service debt over the long term.

Measures to restore a government’s institutional policy credibility were still an important factor, and cannot be discounted, but this did not require austerity. Such measures were often more symbolic in nature, intended to signal to markets the government was both willing and able to reduce the long-term trajectory of debt. Short-term debt indicators were far less important in most instances.

To test this thesis, I compared statistical indicators at the time of downgrade and upgrade for 10 ‘regainers’ (plus South Africa) – emerging markets that had their local currency debt downgraded from investment grade to junk status, but managed to get it rated back to investment grade status.

Table 1. Date of Credit Downgrade and UpgradeSource: , 2017
Note: The first date is the earliest date of losing local-currency investment grade status; the second is the earliest date of regaining local-currency investment grade status.

A quick glance at the table above reveals the average time it took to regain investment grade status was 4.5 years. To get upgraded back to investment grade, a country needs to attain higher growth rates relative to its previous level. This is the key ingredient, as shown in Figure 1 below. The average growth rate in the sample rises from around 0% at the time of downgrade to around 4% at the time of upgrade. Growth-enhancing measures improve debt servicing capacity and reduce debt-to-GDP ratios. They may also be easier to enact in the short term than institutional reforms to money collection or the budgetary process. However, high growth alone is insufficient for a country in our sample to have its debt rating upgraded.

Figure 1. GDP growth rate at time of downgrade and upgrade
Source: Ilan Strauss, 2017
Note: ‘Downgrade’ shows the annual value of the variable on the date at which that country’s local-currency debt was downgraded to junk status from investment status. Similarly, ‘upgrade’ shows the annual value of the variable on the date that country’s local currency debt was upgraded back to investment-grade status. The value for South Africa is Q1 2017 annualised figure.

A country needs to signal a level of fiscal and institutional discipline and reform to the market to convince rating agencies and investors it has the capacity to service its debt in the long term. This is shown in the Figure 2 below, and reflected in a declining fiscal deficit in our sample on average, indicating a country is disciplining its annual government spending relative to government receipts. Fiscal deficits remained negative at -1% at the time of upgrade, but substantially better than the -5% average at the time of downgrade.

Figure 2. Fiscal deficit at time of downgrade and upgrade (Percent of GDP)

Source: Ilan Strauss, 2017
Note: See note above. The value for South Africa is Q1 2017 annualised figure.

Similarly, the average debt service cost to GDP when downgraded was 8% in our sample, whereas it was 4% when upgraded. Debt-to-GDP ratios are, on average, also lower when countries are upgraded compared to when they are downgraded. Debt as a percentage of GDP declines from 68% on average in our sample at the time of downgrade, to 58% on average at the time of upgrade (Figure 3). The average reduction in relative debt levels is driven by an increase in tax revenue (relative to borrowing) in the government’s revenue mix, strong GDP growth reducing relative debt burdens, and independent measures to reduce the relative growth in government spending (graphs not shown).

Figure 3. Debt at time of downgrade and upgrade (Percent of GDP)

Source: Ilan Strauss, 2017
Note: The value for South Africa is Q1 2017 annualised figure.

There is, however, considerable variation in the sample. Half the countries in the sample had higher rates of debt to GDP when they were upgraded compared to their relative debt level at the time of their downgrade. This indicates that bringing down even relative debt levels in the short term is not the key consideration for rating agencies, which are evaluating debt sustainability over the longer term.

If higher growth is the key ingredient to ratings recovery – and austerity is not how the ‘regainers’ attained it – the question remains: How did they do it? In general, industrial diversification to drive export growth, supported by high rates of investment, is pivotal.

Evidence shows emerging markets that default tend to be highly dependent on a handful of Ěýexports for government revenue, foreign exchange, and economic growth. This fragility makes sense. When commodity prices fall, export revenue, government revenue, and economic output all plummet. Economic diversification allows a country to insulate itself from such a singular price shock and benefit from growing demand abroad due to its sale of dynamic products. Sustained export growth, therefore, requires industrial diversification.

The keys to recovery
Exports offer a vital avenue for expanding production, employment, and growth by drawing on foreign demand and increasing economies of scale. Countries that recover their investment grade rating in our sample tend, on average, to double their growth rate in exports from 4% to 8% (Figure 4). This is significant. Enhancing exports requires positive measures to improve a country’s competitiveness through investing in skills, technology, and infrastructure. It is unlikely wage repression can be a substitute for such measures and for sustaining similar growth rates over the longer term.

Figure 4. Export Growth (year-on-year) at time of downgrade and upgrade

Source: Ilan Strauss, 2017
Note: See note above. The value for South Africa is Q1 2017 annualised figure.

Unsurprisingly, therefore, a higher investment rate proves to be important in a country being upgraded again. Investment is the key underlying driver of changes in economic activity and growth, expanding supply capacity and increasing demand. Investment is the channel through which new technologies are introduced into production, thereby raising productivity levels and the potential for increasing competitiveness and the quality of jobs. Investment as a percentage of GDP increases on average from 20% to 22.5% in our sample between the time of upgrade and downgrade. This is a notable increase and is unlikely to occur in an environment where demand is being depressed through large contractions in state spending.

While the evidence presented in this shortened piece is far from conclusive, it provides an important basis for arguing why now is not the time for emerging markets to implement austerity measures. Far from appeasing investors and credit rating agencies, austerity policies tend to have the opposite affect by suppressing economic growth – the key underlying driver of emerging market ratings recoveries. Instead, accelerating economic growth requires a balanced policy approach, expanding both demand and supply through positive measures.

*A similar version of this post was originally published on the , a joint project of John Hopkins University and the Delma Institute. Thank you to Joseph Dana for his helpful edits. This article draws on a paper titled ‘International Evidence: Mitigating the impact of South Africa’s debt downgrades’, prepared for Corporate Strategy and Industrial Development (CSID), School of Economics and Business Sciences at the University of the Witwatersrand, Clothing, Textiles, Footwear, and Leather Stakeholder Initiative Conference: Surviving Junk: Finding Responses for the CTF.

Ilan Strauss is a PhD student in Economics at The New School. He works as an economics consultant.