Old development models no longer work. We must all find our own path

Whether it’s macroeconomic modelling or export-led industrialisation, the game has changed with peak globalisation, technology diffusion and climate change
Development and how to finance it is the question, and brave countries can adopt very different models from the past

Andrew Sheng

Published: 8:30pm, 8 Mar 2024

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Money makes the world go round, sang Sally Bowles in the film Cabaret. Indeed, it keeps the global economy ticking and if central banks were to stop printing it, we would be in a 1930s-style depression. Money is powerful – so why have mainstream development theory and models ignored the role of finance?

Until the 2008 global financial crisis, the mainstream economic models used by central banks, governments, the International Monetary Fund and World Bank were built on dynamic stochastic general equilibrium models, which looked at the real economy of production and consumption in value-added terms.

In such macroeconomic modelling, the role of finance and the banking industry was largely ignored. This meant three critical blind spots: the underpricing of pollution or planetary costs, the assumption that the political structure would remain the same, and a belief that shocks to the economic system could only come from outside rather than also from within.

These blind spots created a delusion that finance was benign, the global economy was stable and there were no planetary or political costs from the “no limits” growth model.

Today, the red lights are flashing. The US national debt has exceeded a gross US$34 trillion, or just over 30 per cent of world GDP. Social inequality is rampant across the world as the rich get much richer than anybody else, and the poor increasingly protest.

As a civilisation, we are hitting the planet’s limits in terms of natural resources, consuming them 1.7 times faster than the Earth can regenerate them. And if everyone lived like the Americans, we would need five Earths to satisfy our rapacity.

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And then there is modern development theory, which emerged after the second world war. Four models emerged: the US-led neoliberal Washington Consensus in favour of free trade, East Asia’s export-oriented industrialisation, the Soviet Union’s central planning, and Latin American import substitution industrialisation.

History proved that export-oriented industrialisation worked best within the free-trade framework associated with the Washington Consensus; the other two models largely failed due to too much inward orientation. If you don’t learn through open competition, you cannot reach economies of scale in small domestic markets.

Now that globalisation has peaked somewhat, with rich countries becoming more protectionist and concentrating on decoupling or “de-risking” from global supply chains in search of more “resilience”, what is the next development model?

In a broken world, globalisation is dead. Long live globalisation lite

The game has changed dramatically with the diffusion of technology, talent migration and the accelerating impact of climate change and extreme weather. This means countries can adopt very different models from the past.

The delineation won’t be as simple as the West vs the rest, not least because the rest includes China and Russia, both nuclear powers with huge manufacturing and military capacities, and other countries in the Global South spanning Africa, Latin America and South and Southeast Asia.

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The Brics grouping includes not just Brazil, Russia, India, China and South Africa, but also new members such as Saudi Arabia, the United Arab Emirates, Iran, Egypt and Ethiopia.

The other countries in the Global South can choose to side with either the West or the East depending on which side offers more goodies (or fewer threats and costs). Their development models cannot be independent of geopolitical strategy. The Association of Southeast Asian Nations looks to be firmly non-aligned; it will focus on development and trade, rather than follow any strict geopolitical ideology.

In other words, each society will change over time and must respond to the different challenges it perceives or recognises. Even the global disaster of climate warming affects different geographies differently, with some island economies sinking and others affected by water, food or energy calamities. There is no development model that fits all nations.

Furthermore, it is no longer a simple choice between the state and the market, because there are now non-state players, such as terrorists, religious movements, crime syndicates and charitable foundations, that are larger and more powerful than individual nations. There are also global issues that need multilateral cooperation to resolve.

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The crux of development finance is that there is a huge funding need if all countries are to get to net zero carbon emissions and this could be as much as US$9.2 trillion per year by 2050, according to consultancy McKinsey & Company, though conventional estimates are in the order of US$3-5 trillion.

Although the global financial system has combined assets of roughly US$461 trillion, not all countries are able to mobilise the funding needed to deal with domestic imbalances and tackle net zero goals at the same time. Indeed, the IMF has calculated that 10 countries are in debt distress and 26 countries are at high risk.

In a world of higher risks and volatilities, countries must all deleverage, focusing more on equity rather than debt. Risk-averse banking will continue to fund payments and liquidity needs, but tech and supply chain restructuring will require risky investments.

This is where Hong Kong, as one of the most vibrant equity markets in the region – or indeed any regional stock market – must step up and rethink how it can play a different role in development finance.

Without a fundamental response to the changing times, all economies face marginalisation or decline. The risk is the opportunity, but only for those brave enough.

Andrew Sheng is a former central banker who writes on global issues from an Asian perspective

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