Saturday, 22 May 2010

Patron’s address Following the Deakin Lecture - May 2010

Patron’s address by Peter Reith
Following the Deakin Lecture
19 May 2010
Melbourne University

Reflections at dinner after the 42nd Deakin Lecture 2010 delivered by Greg Sheridan on the subject
The death of multilateralism and the crisis of global governance.

In last year’s address David Kemp said

“in the course of trying to implement liberal values an enormous amount has been learnt over the years”

I share that view particularly in regards to economic management. It may be that we have a lot still to learn but from my experience in Australia and in Europe I believe that we can be confident that our society has a lot of knowledge on how to run a modern economy.


It is a simple point but often ignored. I know some will say that the Global Financial Crisis (GFC) proves how little we know about economics and how dreadful and inefficient is capitalism but when you note that the world today enjoys the highest living standards for the most number of people in the history of mankind then surely we are entitled to say that we must be doing something right. Looking at Europe’s problems today of massive debts, large inefficient bureaucracies and inflexible labour markets, I think we can also say we know how not to run a modern economy.

The other related point I like about David’s comments was

“the history of liberalism is not so much an internal debate about values as it is a history of debates about how values are to be put into practice”

So when I was asked to speak tonight and told that Greg Sheridan was delivering the lecture, I suggested I could say something from my own recent practical experience of an international organisation and what I thought of how it was run.

I headed off to London with little idea of my role as a director of an international bank. Australia was a founder member of the bank in 1991 and we bought our 1% of the bank’s shares for about $AU90m. 

I soon came to appreciate that I did not need to be a banker as my role was mainly a policy  job to ensure the bank observed its mandate to support countries in eastern Europe as they became democratic and free market following the tearing down of the Berlin wall. The first trip I made was to Latvia and Estonia. A condition of the bank’s lending was that the bank not compete with the private banking sector; in other words our lending had to be additional to what was available from the private banks. Literally within a day or two I came across lots of examples of where our bank was competing against the private sector. The EBRD banker in charge of the Baltic region happily admitted that our work was not additional. Given that these countries were proudly democratic, having just recently thrown off the Soviet shackles, and given that our banking was contrary to the bank’s mandate, I could not understand why the bank was still active in this area. That was in 2003 and 7 years later the EBRD is still in those countries. For years, with my US colleague, we campaigned to close offices in the Baltic countries that were not needed so that funds could be directed to countries that had real needs and for years the Swedes and others campaigned against us just because they thought the politics of them supporting the Baltic countries was good politically for the Nordics.

I learnt 2 things about the bank from that trip. Most of the directors were European bureaucrats and their motives were formed by a mix of their national, political and personal interests and secondly they had virtually no commitment to the agreed mandate for the bank. In their view, if they all agreed then the bank was justified to do anything whereas for the Australian, British, Canadian, Dutch and American EDs, the mandate was a binding international agreement that had to be observed. It was a ‘cultural divide’ that I never got used to and certainly never accepted. To me it demonstrated that ‘global governance’ at the EBRD was a myth. This was not ‘global governance’ in accord with an agreement but national, political and personal interests being pursued in contempt of the mandate.

Once I understood this reality it was not hard to understand that the bank’s expansion was also irrelevant to the mandate. The bank that was established for Eastern Europe soon became active in central Asia and more recently opened offices in Turkey. Turkey was not even behind the ‘the iron curtain’, the ‘raison d’etre’ for the establishment of the EBRD. Turkey was never meant to be in the EBRD any more than Mongolia or the other countries that were added since the bank was formed.

This leads to my 3rd lesson. If you give a group of bureaucrats 5 billion euros in cash to start a bank then they will grow that bank regardless of the wording of the mandate. They will expand its activities to the maximum extent they can get away with.  Some probably think that the bank needs to be bigger to justify the fact that it already has more Directors  to run one bank with 1200 people than we have Cabinet Ministers to run the Australian and New Zealand governments.

Only last week at the bank’s AGM it was announced that its capital has increased from 20 billion euros to 30 billion. The capital increase does not involve any capital being paid in by shareholders, but it does involve an increase in callable capital which is effectively a set of shareholders' guarantees of the Bank's external liabilities. The additional callable capital will be in the form of shares offered to shareholders - shareholders cannot be obliged to subscribe to the shares, but will do so since they want the Bank's capital increased. To demonstrate their sense of humour, the Board also announced that the additional callable capital is to be the object of a review in five years' time of whether it's still needed, and any part of it determined not to be needed is to be cancelled. What a joke; that will never happen in my life-time.

So the money we have invested is now more at risk and our liabilities have increased.
You do not need to look at the EBRD to know what can happen to a bank that is not properly supervised. It was called Tricontinental and it was a subsidiary of the State Savings Bank of Victoria.

If all the incentives for a director are to pass the buck to their departmental heads in their home capital, if they are paid more than their usual day job and if there is little scrutiny of their behaviour then they will act accordingly. Very few will take responsibility and most will support their host organisation because that is the rational thing for them to do. You can imagine how popular I was when, at one time, I advocated cutting the number of Directors and when later I announced that the Australian government had decided to leave the EBRD.

Let me read some of what the Australian Treasury told me to say, it is a neat summary. These are Wayne Swan’s views before Kevin Rudd did one of his backflips.

In considering the issue of Australia’s membership of the EBRD, the Government is taking into account that Australia joined the EBRD primarily because we wanted to support the political and economic changes occurring in Central and Eastern Europe at a time of significant transition.
Australia believes the EBRD has largely fulfilled the role it was set up for. Evidence of this is the ascension to the EU of 10 of the EBRD’s major clients and the graduation of most of them from the EBRD by 2010.
More so than any other international financial institution, the EBRD was always intended to be a transition bank for the countries of Central and Eastern Europe and by definition, its business over time would be expected to decline.
However, the EBRD’s move into Central Asia, the large proportion of lending to Russia and the Bank’s search for new clients such as Turkey, demonstrates that the Central and Eastern European mandate is largely complete.
While countries such as Mongolia, Kyrgyz Republic and Kazakhstan remain
under-developed,
Australia is supporting development in these regions through institutions such as the World Bank and ADB.

My 4th lesson was that if you have over 60 shareholder governments then with so many bosses, nobody is the boss. A vacuum is created and the management of the institution will largely fill that gap. Management’s incentives, like the Directors, can lead to outcomes quite different to the policy interests of the shareholders. How else can one explain the EBRD’s growing interest in Russia? To repeat, access to EBRD funding is subject to the country adopting democracy and promoting a free market. Can anyone say this is the case in Russia since Yeltsin? So why did the bank decide to significantly increase funding (about 1 billion euros) to Russia as a result of the GFC? The answer is simple; they want the business even though most of that business is contrary to the bank’s mandate.  The bank will do business with some people that are unsavoury, to say the least. Quite a lot of the extra money announced last week will go to central Asia – hardly any of those places will be democratic in our life-time.

Australian taxpayers would be shocked to hear how some of their money has ended up with oligarchs in Russia and how their money is being used for purposes and in countries never contemplated when we generously offered to help fledgling countries like Poland, Hungary and the Baltic States.

I thought I had achieved quite a coup when the Rudd Government decided we would sell our shares in the EBRD. It would have been a reform worth making and would have persuaded NZ to come with us. Sadly Kevin Rudd then changed his mind ostensibly because of the GFC but the GFC was irrelevant to the simple fact that the major economies that were the initial reason for our involvement were still democratic and still free market and now members of the EU. Australia’s role has come to an end but I can only assume that Kevin Rudd’s campaign for Australia to be in the Security Council was, in his opinion, worth our $90million and now the extra risk.

I suppose that is a drop in the bucket compared to the monies lost in home insulation, schools and the NBN but I hope one day a liberal government will leave the EBRD and call time on an international institution that has passed its use by date and is now increasingly competing against the very free market players that it was supposed to support. Whilst I do not comment on Greg Sheridan’s wider thesis, at the EBRD today, and at other similar international banks like the Asian Development Bank, in my experience, governance is a concept smothered by personal, national and bureaucratic interests and, in Australia’s case, to the detriment of Australian taxpayers.

No comments:

Post a Comment