Financial crises and flushing toilets

Financial crises timeline (by Sidecar). Elcano Blog

(Financial crises timeline / Sidecar)

Last week I was at the International Studies Association (ISA) Annual Convention in New Orleans (Louisiana). The ISA is the most important gathering of International Relations (IR) and International Political Economy (IPE) scholars in the world. Usually there are thousands of delegates and hundreds of panels, and this time it was no different. This year the most striking aspect perhaps was the huge amount of panels on China’s rise. Every year the number of “China panels” increases, but the jump from last year to this one was particularly evident.

The IR debate on China is fairly predictable, the realists are convinced that military conflict between China and the US is inevitable, while the liberals argue that the liberal institutional framework that we have built since WWII is resilient and flexible enough to accommodate a rising power such as China. Nothing new there. The IPE debate is more sophisticated (I would say so, wouldn’t I). The focus of the analysis has turned much more on China’s domestic political economy (different interests groups, ideas, institutions and actors), so the feeling is: “we can only understand how China will change the world by knowing first how China is changing itself”.

Leaving China aside, and entering into the broader IPE discussions, the most entertaining debate was the one performed by Lou Pauly (who received his well-deserved “ISA Distinguished Scholar Award”) and Peter Katzenstein (another very big name in the field). Katzenstein challenged Pauly’s optimism about the current world economy. He argued that the system is becoming increasingly more unstable. We are experiencing a big financial crisis every ten years (the Asian financial crisis in 1997-8 and the global financial crisis 2008-9 were the last two examples), and the worry is that they are becoming bigger and their effects are more devastating. We have more inequality, more debt and more populism.

To this Pauly answered cool. In his opinion, yes, it is true that the system is becoming more complex and that the risks are greater, but the last 60 years show that at every critical juncture we have managed to avoid catastrophe and find solutions. Ultimately, the world economy is like a toilet: it fills up to the point when the smell is unbearable but then we flush it, we get clean water and we restart the system again. In other words, the debt will be restructured one way or the other, inequality will be addressed, the problems with Russia will be solved and moderate growth will return. Pauly is particularly confident that Germany (because of its past) will do the right thing when it really matters and be a stabilising (and not a destabilising) force in the world economy.

To this Katzenstein answered that he was in doubt whether we would have sufficient political capital to deal with another crisis. The legitimacy of the system has been seriously shaken and we have run out of tools. Monetary policy has reached its limits with the zero bound and quantitative easing, fiscal policy is constrained (politically and ideologically) and structural reforms are unpopular and foster ever more social unrest and class warfare. So, the toilet is becoming bigger and bigger, and this means that we need more strength to pull down the flush handle. If this continues like this at some point we will not be able to clean up the s*** and we will be in deep trouble.

So there we go. We have two very different views by two giant scholars in International Political Economy (each has hundreds of academic publications under his belt). One is the eternal optimist, while the other is the perpetual pessimist. Who is correct? Social scientists (including economists) are renowned for their poor predictive capacity, but I guess that the truth will lie somewhere in the middle of their opposing views. Since I am one of the optimists in the field, for now I tend to side with Pauly.

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