The lingering subpar economic recovery since the 2008 subprime crisis and the ascendancy of the Chinese economy since 1979 has given rise to an intellectual re-examination by some economists of many popular economic ideas.
The first event demonstrated that an extremely loose monetary policy such as quantitative easing (QE) cannot really boost aggregate demand and reverse the deflationary pressure on the economy in the face of excess factor supply and balance sheet recession. The massive global funds flow from the developed to the emerging economies as a result of QE in the developed economies from 2009 to 2012, and the fund reversal scare back to the developed economies from perceived USD interest rate increase in the summer of 2014 and the autumn of 2015 have given rise to questions on the wisdom of an unrestricted capital account funds flow. In 2014, the IMF acknowledged that the use of capital account control to mitigate the adverse impact of massive fund inflow and outflow should be considered a part of legitimate monetary tools by developing countries. In 2015, the IMF considered the RMB as “freely usable” effective October 2016 when it will be included in the Special Drawing Rights (SDR) even as China still had significant capital movement restrictions.
While some will consider the change of the IMF’s position as intellectually incorrect and just an expedient measure to accommodate the developing countries and China in the face of their currency problems, a paper presented in May 2016 at the Asian Monetary Policy Forum by the former IMF chief economist, Olivier Blanchard, should prove that there is indeed a changing intellectual attitude on the issue of capital account control by some prominent economists. The paper concludes that, while developed economies’ monetary policies indeed have had substantial spill-over effects on emerging economies, there was and still is little room for policy coordination between the developed and emerging economies. It argues that restrictions on capital flows have been a more natural instrument for advancing the objectives of both macro and financial stability for developing countries.
The second intellectual attitude change on industrial policy is obviously inspired by the success of China. The new Prime Minister of UK, Theresa May, has signalled an enthusiasm for industrial policy by creating a new Department for Business, Energy and Industrial Strategy with Greg Clark as the new minister. The UK referendum on EU membership revealed how many Britons felt decades of market liberalization had done little for the masses, and there is growing realization that past demonization of government’s role was not justified.
These two liberal laissez faire economic ideas of free capital account and distaste of industrial policy have been pillars of global economic orders in recent years, and the intellectual challenges that these two ideas are facing today could be important in shaping new economic orders under the “New Normal”.