REDESIGNING THE ARCHITECTURE OF THE GLOBAL FINANCIAL SYSTEM Redesigning the Architecture of the Global Financial System DOUGLAS W ARNER* AND ROSS P BUCKLEY† During the great period of globalisation before the First World War, the international economy was based on global trade and global finance with monetary policy largely fixed under the gold standard. After the Second World War, a new international system was designed based upon global trade, fixed exchange rates and essentially domestic finance. This system did not include global financial regulation as finance was to be largely nationally constrained. Over the succeeding decades, however, capital markets globalised. The consequences have been a return to a level of financial and monetary instability not seen since the period following the First World War. The most dramatic example of this instability is the global financial crisis of 2007–10. We argue in this article that there is a fundamental need to redesign the architecture of today’s global financial system to meet the requirements of this new reality, with established mechanisms to address economic coordination, macroeconomic and monetary management, development, and financial crisis prevention and resolution, as well as promote trade. CONTENTS I Introduction............................................................................................................... 2 II The International Financial Architecture: 1944–98.................................................. 4 A The International Economic Architecture as Designed................................ 4 B The International Economic Architecture in Practice: 1944–94 .................. 9 1 The IMF and the International Monetary System ............................ 9 2 Development and the World Bank................................................. 11 3 Trade, the GATT 1947 and the WTO ............................................. 12 4 Coordination and Linkage.............................................................. 13 5 Finance ........................................................................................... 14 III The ‘New’ International Financial Architecture: 1998–2008................................. 14 A Financial Crises in the 1990s and the International Response ................... 15 B Financial Stability....................................................................................... 16 C Structure and Process ................................................................................. 17 D International Financial Standards and Standard-Setting Organisations ..... 18 1 Standard-Setting............................................................................. 19 2 Implementation and Monitoring..................................................... 20 E Financial Liberalisation and the WTO ....................................................... 21 F Development............................................................................................... 22 IV The Global Financial Crisis and the International Architecture ............................. 22 A The G7, FSF and Major Central Banks ...................................................... 23 B The G20...................................................................................................... 24 1 November 2008.............................................................................. 24 2 Working Groups............................................................................. 26 * BA (Drury); JD (Southern Methodist); LLM, PhD (Lond). Director, Asian Institute of International Financial Law <www.aiifl.com>; Director, LLM (Corporate and Financial Law) Program; and Professor, Faculty of Law, University of Hong Kong; Co-Director, Duke–HKU Asia–America Institute in Transnational Law; Visiting Research Fellow, University of New South Wales. † BEcon, LLB (Hons) (Qld); PhD (UNSW); LLD (Melb). Professor of International Finance Law, Faculty of Law, University of New South Wales; Fellow, Asian Institute of International Financial Law, University of Hong Kong. 1 2 Melbourne Journal of International Law [Vol 11 3 April 2009: The Second G20 Heads of Government Level Meeting .......................................................................................... 27 4 September 2009: The Third G20 Heads of Government Level Meeting .......................................................................................... 30 5 June 2010: The Fourth G20 Heads of Government Meeting ......... 33 C The IMF, MDBs and the WTO .................................................................. 34 V A New Design?....................................................................................................... 37 A Coordination............................................................................................... 38 B Trade........................................................................................................... 39 C Macroeconomic and Monetary Policy........................................................ 40 1 Macroeconomic Policy................................................................... 40 2 Monetary Arrangements................................................................. 41 D Financial Stability and Development ......................................................... 41 1 Crisis Prevention: Regulation......................................................... 42 2 Crisis Management: Liquidity........................................................ 50 3 Crisis Resolution ............................................................................ 50 E Sustainable Growth and Development ....................................................... 51 VI Conclusion .............................................................................................................. 52 I INTRODUCTION The global financial crisis of 2007–10 has triggered discussions of reform of domestic, regional and international financial architectures.1 Financial crises are not new phenomena — in fact, they occur frequently.2 As a result, there is a clear need to design domestic, regional and international financial architecture to address their causes and consequences.3 In this article, we argue the necessity of redesigning the architecture of the global financial system to meet the realities of global finance. Such an approach has in fact been attempted before. In the wake of World War II, an overall design for the international economic system was agreed. The structure was based on open trade flows, fixed exchange rates, limited capital flows and international support for reconstruction and development, and was embedded in a series of international treaty-based institutions. The system sought to establish formal arrangements for interactions between nation states in four main areas: economic coordination and cooperation (through the United Nations); trade and investment liberalisation (through the International Trade Organisation (‘ITO’)); monetary arrangements (through the International Monetary Fund (‘IMF’); and reconstruction and development finance (through the International Bank for Reconstruction and Development (‘IBRD’), today a part of the World Bank group). As international capital flows were to be restricted, there was no international treaty-based organisation designed to 1 See, eg, Douglas W Arner, ‘The Global Credit Crisis of 2008: Causes and Consequences’ (2009) 43 International Lawyer 91. 2 See Carmen Reinhart and Kenneth Rogoff, This Time is Different: Eight Centuries of Financial Folly (Princeton University Press, 2009). 3 For detailed discussion, see Ross P Buckley and Douglas W Arner, From Crisis to Crisis: The Global Financial System and Regulatory Failure (Kluwer, forthcoming, 2011); Ross P Buckley, International Financial System: Policy and Regulation (Kluwer, 2009); Douglas W Arner, Financial Stability, Economic Growth and the Role of Law (Cambridge University Press, 2007). 2010] Redesigning the Architecture of the Global Financial System 3 regulate global capital and the existing organisation, the Bank for International Settlements (‘BIS’), was to be closed. The system was designed on the premise that global capital flows and exchange rate instability were destabilising but cross-border trade and investment were necessary for economic growth and political stability. For a range of reasons, only the Bretton Woods monetary system — centred on the IMF and the United States dollar — actually functioned according to the original design and only up until 1971. However, despite this fact, the international economic architecture has not been redesigned to address the realities of a global economy, realities which have changed fundamentally in the past 65 years due to the advent of floating currencies, profoundly liberalised capital markets, the emergence of new economic powers (especially in Asia) and the general liberalisation of trade and investment. Although certain changes were made following the collapse of the Bretton Woods international monetary system over three decades ago (with the Second Amendment to the IMF Articles of Agreement)4 and again following the Asian financial crisis over a decade ago (with the establishment of the Financial Stability Forum (‘FSF’) and related arrangements), the current global financial crisis has thrown into stark relief the limitations of the existing arrangements. This article discusses the implications of the global financial crisis of 2007–10 for reform of the international financial architecture and