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CHAPTER 11 Key Elements for a New International Financial Architecture Stephany Griffith-Jones and Jose Antonio Ocampo 1. WHAT PROGRESS ON INTERNATIONAL FINANCIAL REFORM? The recent wave of currency and banking crises that began in East Asia and then spread to many other emerging markets (as described in depth in previous chapters) and even threatened briefly to spill over to the United States in the wake of Russia and Long Term Capital Management (LTCM)-generated a broad consensus that fundamental reforms were required in the international financial system. More recent crises, as in Brazil, as well as critical situations in Turkey and Argentina, reiterate the need for additional changes in the eyes of many observers. Existing institutions and arrangements were widely seen as inadequate for dealing with very large and extremely volatile capital flows, in which an important part of the volatility was caused by serious imperfections in the financial markets themselves. The seriousness of the situation is underlined by the fact that in the 1990s, out of 120 months, during 40 (that is 33 percent of the time) there have been important crises. This is particularly problematic for two reasons. First, currency and banking crises-which have recently occurred mainly in emerging markets-have extremely high development and social costs. Indeed, deep and frequent crises in developing countries could undermine the United Nations (UN) goal of halving world poverty by 2015. Second, there is always the very small-but totally unacceptable-risk that contagion and spillovers in an increasingly interdependent international financial system could lead to global problems. Both of these problems implied that urgent action was required to overcome the risk that the important benefits that globalization offers in other fields could be seriously undermined by international financial developments. Several years after the Asian crisis, it is a good time to evaluate the 310 Key Elements for a New International Financial Architecture 311 progress achieved in reforming the international financial system. In this chapter, we will do so particularly from the perspective of developing countries ' interests; our policy proposals will emphasize how to deal with problems originating in the supply of capital flows, which is the focus of both our empirical and policy concerns in this book. We will also review very briefly the vast literature and discussion on international financial reform, so as to place our policy analysis and recommendations in the context of this broader debate. Some progress has been made on reforming the international financial system, but it is clearly insufficient. Important changes have been implemented . For example, lending facilities of the International Monetary Fund (IMF) for both crisis prevention and management have been quite usefully expanded and adapted, and the Fund's total resources were increased. Important institutional innovations have been introduced, such as the creation of the Financial Stability Forum (FSF), to identify vulnerabilities and sources of systemic risk, to fill gaps in regulations, and to develop consistent financial regulations across all types of financial institutions. As capital and credit markets become increasingly integrated both among each other and between countries, it is essential for regulation to be efficient so that the domain of the regulator is the same as the domain of the market that is regulated . Given that regulation is still national and sectoral, an institution like the FSF is valuable to help coordinate regulation globally and across sectors. The creation of the Group of 20 (G-20), the body formed to discuss international financial reform, which includes both developed and developing countries, is also a positive development. Developing countries have been asked to take a number of important measures to make their countries less vulnerable to crises; these include the introduction of a large number of codes and standards. Though introducing standards is very positive, there are concerns in developing countries that the number of standards (at more than 60) is too large; developing countries also are worried that the standards are too uniform in the assumption that "one size fits all." At a major conference organized with the IMF and the World Bank held at the Commonwealth Secretariat in June 2000, senior policymakers from developing countries called for greater selectivity and flexibility in the standards they are asked to implement. A more inclusive process is also necessary, whereby developing countries can participate in the development of these standards and codes, which at present they are asked to implement without having been involved in their design. Even though there has been significant progress on reform of the financial architecture, it...

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