G-20 Shifts Regulation Focus as Economy Struggles

By Simon Kennedy

March 13 (Bloomberg) -- The guardians of the world economy are finding their efforts to revamp the global financial system overwhelmed by the deepening recession and banking crisis.

U.S. Treasury Secretary Timothy Geithner, Bank of England Governor Mervyn King and their Group of 20 counterparts meet near London today having originally intended to push along plans to tighten market regulation. Distracting them is a global economy in freefall, pressuring them to instead focus on ways to revive growth and tackle toxic bank assets.

“It’s like a patient battling for life in an emergency room,” said Nouriel Roubini, a professor at New York University. “That’s not the time to advise about the benefits of exercise and healthy diet. You have to first make sure the patient survives.”

The prognosis is worsening and failure to find a cure may disappoint investors as G-20 leaders prepare for their own summit in three weeks. The International Monetary Fund expects the first global contraction in six decades and equity investors are $3 trillion poorer than a quarter ago.

The cost of borrowing dollars is rising, Citigroup Inc. fell below $1 and companies from Deere & Co. to Volkswagen AG are axing jobs or investment. Goldman Sachs Group Inc. today cut its forecast for the world economy for the second time in eight days and now expects a contraction of 1 percent this year.

Divided

The G-20 remains divided as European governments rebut U.S. overtures to bolster spending, while President Barack Obama’s administration takes heat for lacking the staff to work on an international remedy. That risks an impasse when officials convene tonight and tomorrow at a luxury countryside retreat near Horsham, southern England, that counts Winston Churchill among its former guests.

“The Europeans want to use this as a forum to discuss global coordination of regulation, and the Americans are more interested in global coordination of firefighting,” said Randal Quarles, a former U.S. Treasury undersecretary and now a managing director at the Carlyle Group in Washington.

The conflagration of the 19-month crisis is putting policy makers under “enormous pressure” to take more action and head off further deterioration, said Marco Annunziata, chief economist at UniCredit MIB in London.

The U.S. has yet to implement its plan to remove tainted assets from banks and the Federal Reserve’s $1 trillion initiative to prop up the market for consumer and business loans won’t start until later this month. The European Central Bank has lagged behind the Fed in cutting interest rates and the region’s governments have been slow to cut taxes.

Debt Burden

China, the U.S. government’s largest creditor, in turn chose to draw attention to America’s debt burden on the eve of the G-20, with Premier Wen Jiabao saying in Beijing he’s “worried” about the value of China’s Treasury holdings.

Failure by the G-20 to step up efforts to rid banks of damaged securities may delay the recovery beyond 2010, says IMF Managing Director Dominique Strauss-Kahn.

“The stimulus will not work without a healthy financial sector,” Strauss-Kahn said in an interview March 9. U.K. Chancellor of the Exchequer Alistair Darling argues the crisis needs to be fought with “far greater urgency” and said late yesterday the G-20 must agree on measures that will curb excessive leverage at banks.

The London interbank offered rate, or Libor, that banks say they charge each other for three-month funds has climbed back to the highest since Jan. 8 as financial companies stung by almost $1.2 trillion of writedowns and losses hoard money.

Under Pressure

Policy makers are also under pressure to coordinate their efforts more or risk diluting their individual moves. Japanese Prime Minister Taro Aso today ordered a third spending plan and in total governments and central banks have provided more than $495 billion in aid for financial companies and cut rates to record lows.

Still, their efforts have been uneven. The IMF estimates that only Saudi Arabia, Australia, China, Spain and the U.S. will introduce budget boosts worth 2 percent of gross domestic product this year -- a benchmark Geithner endorses as “reasonable.”

The refusal of some governments to be as generous undermines those efforts and the Fund calculates the U.S. receives twice the boost of higher government spending if it’s matched elsewhere.

European ministers argue their social safety nets are bigger than elsewhere and blowing up budgets would create future problems.

“We don’t exactly have the same priorities at the same moment,” French Finance Minister Christine Lagarde said on LCI television today. Lagarde and Germany’s Peer Steinbrueck instead want the G-20 to focus more on cracking down on bankers’ bonuses, hedge funds, tax havens and credit ratings companies.

Froth

“All that is froth,” said Richard Portes, a professor at London Business School. “The accelerating decline in economic activity has to be dealt with first.”

One previous participant says the G-20 doesn’t need to decide between fighting the current crisis and unveiling a long-term solution to rewire the system.

“It’s quite possible and desirable for the G-20 to pursue both goals,” said Daniel Price, President George W. Bush’s G-20 negotiator and now senior partner for global issues at Sidley Austin LLP in Washington.

An overhaul of the financial system may nevertheless exceed the group’s reach in the immediate future.

Obama has yet to outline a detailed program for regulation, lacks key Treasury advisers and would have to work with Congress. Nor has the European Union formed a plan to improve the rules governing its own 27 members.

Principles

The most likely outcome is that the G-20 agrees to principles on regulatory reform, said Jim O’Neill, chief economist at Goldman Sachs Group Inc.

That could include an agreement that banks put away money during good times so they have a buffer to fall back on during hard times, he says. Other areas of agreement may include boosting IMF resources and warning against protectionism.

G-20 members are Argentina, Australia, Brazil, Canada, China, France, Germany, India, Indonesia, Italy, Japan, South Korea, Mexico, Russia, Saudi Arabia, South Africa, Turkey, the U.S., the U.K. and the European Union. Officials from Spain and the Netherlands will also be present.

To contact the reporter on this story: Simon Kennedy in Paris at Skennedy4@bloomberg.net