I was surfing information today when I came across a small but very interesting piece – this in the NYT by Graham Bowley titled, “Clamping Down on High-Speed Stock Trade” (October 9, 2011).

The problem – computerized high-frequency traders – and the capacity for these traders to make market swings  in global markets much worse.  Regulators it seems are playing catch up.

What is the impact, according to Graham Bowley:

High-frequency trading took off in the middle of the last decade when regulatory reforms encouraged exchanges to switch from floor-based trading to electronic.  As computers took over, daily turnover of stocks rose to 8 billion shares in the United States from 6 billion in 2007, according to BATS Global Markets. The trading, done by independent firms or on special desks inside big Wall Street banks, now accounts for two of every three stock market trades in America.

Now several academic studies have shown that high-frequency trading tends to reduce price volatility on normal trading days.  Well then no problem.  No, unfortunately it doesn’t seem t work as well when you have abnormal nail-biting stock trading days and some traders employ questionable practices.  In particular one practice called layering is a technique that involves issuing and then cancelling orders that the traders  never intended to execute.  Pension funds and ordinary investors have argued that such practice makes trading by longer term investors more difficult and has raised questions of fairness by many.

The great fear among regulators – now taking greater notice – of these high-frequency traers and their practices is:

Perhaps regulators’ biggest worry is over the unknown dynamics of the computerized stock market world that the firms are part of – and the risk that that at any moment it could spin out of control.  Some regulators fear that the sudden market dive on May 6, 2010, when prices dropped by 700 points in minutes recovered just as abruptly, was a warning of the potential problems to come.  Just last week, the briader market fell throughout Tuesday’s session before shooting up 4 percent in the last hour, raising questions on what was really behind it.

Regulators are now on it thinking about international regulation.  And in fact the International Organization of Securities Commission (IOSC) is preparing a report for G20 Finance Ministers on possible market abuse from technological development.  Another stroke for global financial regulation.

I took some real ‘heat’ last week at the Shanghai Conference on Asian and Pacific G20 Leadership when I suggested that Eurozone sovereign debt crisis was a distraction for the G20.

More recently one of my ‘policy buddies’, Thomas Wright, recently of the Chicago Council on Global Affairs, took me to task as well  Here is part of what he said in an e-mail:

The EU will not (and probably cannot) solve this crisis. What would work (transfer union) is not politically viable and what is politically viable (muddling through) will not work. This is not going to change. If anything it will get worse. Either the world acts in a massive and coordinated way to engineer a bailout or the crisis probably brings everyone down with it, including the US economy. More and more economists (incl Eichengreen, Rajan) have been making this point recently and calling for IMF/ G20 intervention.

Well I’m not yet prepared to cede ground on this.  First, what is the problem.  At its simplest Graham Bowley and Liz Alderman of the FT put it succinctly : “The problem – too much debt and not enough growth to ease the burden – could take years to resolve.”  The worst consequences that might arise from failure according to the two are not pretty:

If governments can’t agree on how to rescue Greece from its debilitating government debt, some fear the worst could happen – a collapse of the financial system akin to 2008 that would ricochet around the world, dooming Europe but also the United States and emerging countries to a prolonged downturn, or worse.

The major thrust of those encouraging G20 intervention and involvement in the sovereign debt crisis in the EU is the threat of contagion in terms described above.  And there is no question that the G20 countries including especially the United States should at least continue to press the leading powers in Europe – read this as Germany and France – to ‘suck it up’ and do the right thing.  These and other EU governments need to backstop both the European Central Bank to add the necessary reserves and to recapitalize German and French banks and they probably need to do this as well – establish an orderly default process for Greece.

Now why do I identify this major economic crisis as a distraction for the G20.  In part I argue this because there are growing signs  that the current host of the G20, France, and its President is in fact distracted in a major league way.  There is growing concern that the French are dropping the ball on agenda setting for the G20.  There are worries that the possible G20 deliverables are being delayed for the Mexican Leaders Summit in June 2012.  This raises doubts, especially among the global media, that the G20 is performing at all up to the steering committee function that observers keep looking for in the G20 Leaders Summit.  As Dan Drezner suggested in a blog post from the Shanghai Conference: “One of the takeaways from my conversations so far in Shanghai has been a sense of disappointment about what the next G-20 summit in Cannes will accomplish.”

As evidenced by this sovereign debt crisis, the G20 Leaders Summit is suspended between crisis and permanent steering committee.  And while this is unfortunate and untimely clearly the G20 is presented with a crisis and at the same time the G20 is struggling to make progress on the Strong Sustainable and  Balanced Growth Framework – which is a medium term policy issue.  The G20 cannot focus laser-like on medium term policy tasks – in the face of the turbulence and volatility of the global economy.  Nor can it be said that the leadership has rushed to resolve the sovereign debt problem.

Now this takes me back to the crisis and why this is a distraction rather than a priority for the G20.  Yes, President Sarkozy and his people are off trying to ‘plug holes in the dyke’ in the Eurozone.  But it is more than that.  And Tom Wright put his finger on it – the Europeans are unable to solve this crisis because what is needed is politically unpalatable to Germans, French and Finns.  But surely that failure doesn’t lead to the G20 to step in.  The G20 can’t pull Europe’s ‘bacon out of the fire’.

The G20 has much to recommend itself as a coordinating body for global governance.  But it is not to step in for Europe’s feeble institutions and growing popular unhappiness in the more efficient and productive parts of the EU for the crisis at the periphery.  The G20 needs to continue to cajole the Europeans to tackle the problem and the leadership needs to turn back to critical economic reform problems that appear to be going unaddressed.

Time flies in China – the exception being travel by car anywhere in China – indeed anywhere in Asia pretty much.

In any case time to leave Dalu and return to Canada.  But meanwhile I’ve had meetings with colleagues from the academy and think tanks in Beijing and here in Shanghai and most importantly I joined the Shanghai Conference hosted here by the Shanghai Institutes of International Studies (SIIS) in partnership with the Stanley Foundation (TSF) and my own Munk School of Global Affairs.

This just past Conference was not the first.  Indeed a year ago we worked to bring together experts from all the G20 Asian countries to examine the prospects for collaboration among the G20 Asian countries.  This year we worked to bring together experts from the Asian G20 countries plus now the Pacific G20 countries – the United States, Canada and Mexico. Mexico’s presence in particular was  valuable as Mexico will host the G20 Leaders Summit in June 2012.

This Shanghai meeting was telling.  One, we had historical memory. David Shorr our colleague from TSF was quick to note that there appeared to be maturation in the thinking of experts. A year ago experts from the region were grappling with the emergence of the G20 Leaders Summit. Was this new informal leaders summit legitimate – representative?  What was the place of this summit as opposed to the G8 or the UN or the many regional organizations?  These legitimacy questions were largely absent from this most recent gathering.  Instead there was a serious examination of the transition of the Summit from crisis gathering to permanent summit.  There was serious evaluation of the success in meting the key policy objectives, global financial reform, SSBG – Strong Sustainable and Balanced Growth, or macroeconomic imbalances in the global economy, and several other economic reforms including development and food security and food price volatility.

What were some of the bottom line conclusions? Though these several phrases hardly captures the full discussion and assessment they do help reflect G20 Summit evaluation.  First there was a strong sense among experts that the G20 risked serious underperformance.  There was a near consensus that experts feared little in the way of ‘deliverables’ or even ‘announceables’.  I must admit that I added to that view.  I argued that the G20 currently suffered from a major ‘case of distraction’ both for the French Presidency but also for European G8 members.  The distraction was evident – the European sovereign debt crisis.  This sense of distraction needs some clarification.  The continuing crisis in the Eurozone occupied growing attention for France and indeed all of Europe.  While contagion in the global economy was a real threat from possible disorderly Greek default and continuing and indeed growing volatility in financial markets, my assertion was that the crisis still represented a distraction for the G20. The key source of resolution lay with the primary European actors – France and Germany.  There lack of willingness to take critical decisions and calls for support by the IMF and the G20 kept drawing G20 attention to a serious crisis that principally needed to be addressed by Germany, France and the European Central Bank.

The attention to the sovereign debt crisis seemed to have drained energy from the macroeconomic imbalances focus of the G20.  Now our colleague Dan Drezner who joined us from the Fletcher School – and who has been highly critical – of the results of G20 coordination efforts – concluded that the macroeconomic coordination efforts were ‘Mission Impossible’.  Past macroeconomic coordination efforts had largely come ‘a cropper’ and in some cases had made matters worse than better.  But still he urged that the G20 should in fact do more if not necessarily in the global imbalances policy arena.  Later he even quietly admitted that he was impressed with the Mutual Assistance Process (MAP) efforts but still unclear about the outcomes of the coordinated policy effort.

When examining the coordination efforts of Asian G20 countries, experts still noted the dramatically limited collaboration among the G20 countries in Asia. But the fear of blocs had diminished from a year earlier and our colleague Lee Dong-hwi from IFANS in Korea urged Asian G20 countries to step up their collaboration.  As he put it, Asian countries could usefully increase ‘caucusing but without caucuses.’  In the face of global imbalances and in the light of economic circumstances here in Asia, there was growing support for caucusing without fear of generating blocs.

The Conference realized that there was a growing fear that without deliverables and in the face of the continuing global economic crisis, the G20 needed to show progress or risk being labeled irrelevant.  While many experts looked to move the G20 Leaders Summit to a more crisis prevention stance that the leaders had to balance with the need to show policy progress in a growing crisis atmosphere.  Such balancing was difficult but unavoidable.

Image Credit:  copyright Alan S Alexandroff

Just last month I was lamenting the lack of G20 coordination ( See blog post “Maybe Dan Drezner was Right ….”) and admitting that Dan Drezner might be right when it came to G20 collective action.

This weekend we were witness to continuing lack of coordination in global governance – this the G7 Finance Ministers who just concluded a meeting in Marseilles (see their G7 Statement).

Don’t look for any coordinated efforts – you won’t find them.  The most that they could do was to describe what Europe and the US is doing and then add rhetorical flourishes:

We are committed to a strong and coordinated international response to these challenges.  We are taking strong actions to maintain financial stability, restore confidence and support growth. … Concerns over the pace and future of the recovery underscore the need for a concerted effort at a global level in support of strong, sustainable and balanced growth.  We must all set out and implement ambitious and growth-friendly fiscal consolidation plans rooted within credible fiscal frameworks.  Fiscal policy faces a delicate balancing act.  Given the still fragile nature of the recovery, we must tread the difficult path of achieving fiscal adjustments plans while supporting economic activity, taking into account different national circumstances.

The problem is that officials are urging two different policy directions.  The United States is urging stimulus while in Europe the focus is on debt and the need to support debt ridden countries including Greece but also Portugal Italy and Spain.  In fact a crisis of sorts has presented itself in Europe with the resignation of the German member of the European Central Bank (ECB), Jurgen Stark.  The bond purchasing by the ECB of Italian and Spanish bonds represented a broadening of the ECB mandate that has raised alarm in Germany.  Stark had opposed bond purchasing by the ECB but he had remained loyal to the head of the ECB Jean-Claude Trichet.  His resignation poses a dilemma for Chancellor Merkel.

So the US is pushing for short term stimulus – a la the Obama Jobs Program and Europe is tearing itself apart over how to deal with sovereign debt problems.

Now this brings us back to the issue of whether Europe can overcome the current sovereign debt crisis without ejecting various troublesome euro participants – Greece and possibly Portugal.  Dick Rosecrance has bet on Europe overcoming the crisis and moving therefore to closer fiscal coordination. And Dan Drezner has kinda weighed in with the same view in his blog post  Euro-deja-vu but recognizes that he’s seen this all before:

When I woke up this morning and scanned the headlines, I knew what I was going to blog about — the stories in the press about how the European Union was, after much hemming and hawing, beginning to move towards a closer fiscal union.  I was then going to not-so-humblebrag about my own prediction that this would indeed happen. This was all going to be a great set-up to the last-minute reverse course — i.e., this Financial Times op-ed by German Finance Minister Wolfgang Schäuble in which he declared his “unease when some politicians and economists call on the eurozone to take a sudden leap into fiscal union and joint liability.”

Here’s the thing, however — if you read my eurozone blog post from this past February, you’ll see that almost the exact same dynamic played itself out six months ago.  This time the Germans are pre-emptively balking before the peripheral countries can balk in response to German calls for austerity… but you get the general idea.

So, will it be closer fiscal union in the EU?  Many smart people are betting on it.  I’m not so sure.  But we will come back to it. I generally disagree with Dick Rosecrance that the Europeans have acted before when facing a crisis.  Therefore they will respond here as well.  I am more inclined to accept that closer union is possible – but only after a number of countries are ejected from the eurozone – I think this is the Drezner line – and he may well be correct.

Meanwhile it is evident that there is no consensus on policy direction – at least if you look at the G7 Finance Ministers.  You can imagine what that means for the G20.  Finance Ministers have argued that there are different circumstances that drive policy differences by the G7 countries.  But in reality there is disagreement among the G7 on how to attack the continuing financial crisis.  It is unnerving.

Image Credit: Wikimedia Commons