How can we better understand the ideology of Washington Consensus?

Introduction

There always have been disparities between countries in terms of the levels of economic developments and this tendency is most likely to continue in the future. However, there have been attempts by highly developed countries to assist the level of economic development of developing countries through various programs involving financial aids and recommendations.

A set of policy recommendations proposed by the US to developing countries has been known as Washington Consensus, and there are mixed opinions about the implementation and outcome of these recommendations (Bandelj and Sowers, 2010).

This article critically analyses the ideology of Washington Consensus. The article starts with discussions about factors and circumstances that have caused the emergence of Washington Consensus. This is followed by discussing positive implications of Washington Consensus for certain countries by referring to relevant facts.

Moreover, the article highlights major points of criticism of Washington Consensus and the attempts to assess the level of their validity of these points and discusses reasons and circumstances for introduction of Post-Washington Consensus also known as Washington Consensus II. The article is completed by attempting to the future of Washington Consensus prescriptions in modern dynamic global geo-political environment.

How can we better understand the ideology of Washington Consensus

Emergence of Washington Consensus

The term of Washington Consensus has been coined by in 1989 by John Williamson to label “list of ten policies that more or less everyone in Washington would agree were needed more or less everywhere in Latin America” (Williamson, 2008, p.14).

Williamson had specified these ten reforms proposed to Latin American countries as a greater level of fiscal discipline, re-ordering of public expenditure priorities, taxation reforms, liberalisations of interest rates, increasing the levels of competitiveness of interest rates, liberalisation of trade, liberalisation of inward foreign direct investment, privatisation, deregulation, and property rights.

Latin American countries were facing severe economic challenges throughout the 1980s, and this period was eventually called as ‘lost decade’ (Haynes, 2008), therefore Latin American governments were enthusiastic with new possibilities for growth presented to them by international financial institutions. However, they were bound to be disappointed a decade later for the reasons discussed further below in greater details.

Each of the recommendations need to be explained in greater details in order to assess the implications of Washington Consensus in a greater level of depth. The rationale behind each recommendation has been provided by the author of the term Washington Consensus John Williamson in the following manner.

First, introducing fiscal discipline in order to reduce the amount of deficits, and decrease the rate of inflation. In other words, the finance of deficits do not need to increase the inflation tax.

Second, re-ordering public expenditure priorities has been recommended in order to facilitate shift from pro-poor expenditures to pro-growth. Government expenditures need to be made according to the level of economic returns from investments.

Third, taxation reformation has been recommended in order to achieve an adequate combination of broad tax base with moderate marginal tax rates. The broadening of tax base has been associated with increasing the numbers of private sector enteprises.

Fourth, liberalisation of interest rates has been proposed to achieve and maintain financial stability. To put it simply, the levels of interest rates need to be determined by the forces of supply and demand, without external intervention.

Fifth, maintaining a competitive exchange rate has been recommended in order to safeguard national currency from becoming overvalued or undervalued. Moreover, competitive exchange rates were intended to fuel growth on the levels of exports.

Sixth, trade liberalisation has been recommended to increase the size of national economies with potential positive implications on the standard of life. Trade tariffs have been recommended to be introduced instead of trade restrictions. Moreover, trade tariffs have been recommended to be reduced until the range of 10-20 per cent.

 Seventh, liberalisation of inward foreign direct investment has been proposed in order to facilitate growth in the national economy. High volume of foreign direct investments into developing countries has been specified as one of the most important factors to achieve economic growth.

Eighth, privatisation has been recommended in order to take advantage of the benefits of free trade. The majority, if not all of enterprises in public sector have been recommended to be transferred to private sector through privatisation.

Ninth, deregulation has been proposed so that there would be fewer barriers to the private sector to create jobs. Moreover, entry barriers to foreign businesses through various of entry modes such as wholly-owned subsidiaries, forming joint-ventures and franchising have been recommended to be eliminated.

Tenth, the promotion of property rights has been recommended so that private sector can feel more secure and enhance the level of its contribution to the national economy. The assurance of property rights to private sector players have been specified as one of the most important factors contributing to the rise of the numbers of businesses with positive implications on the state of the national economy.

Implementation of Washington Consensus recommendations into practice by developing counties has been traditionally achieved through conditionality associated with the provisions of loans by international financial institutions. In other words, developing countries need to be implementing Washington Consensus principles in practice in order to be able to secure loans from International Monetary Fund (IMF) and the World Bank (Wylde, 2012).

Potential Positive Implications of Washington Consensus

The necessity of international organisations such as IMF, WTO, and the World Bank have been explained in a way that they possess significant potentials in facilitating international trade and growth in general, and contributing to the level of growth in developing countries in particular. Arguably, high level of transparency of operations and democratic rule of these organisations are perceived to be its main advantages (Herdegen, 2013).

According to advocates of Washington Consensus all ten recommendations provided represent appropriate economic and political policies that if appropriately implemented is going to contribute to the level of economic stability within a country, and promote growth.

Moreover, some supporters of Washington Consensus put the blame for economic failures in developing countries after the implementation of recommendations on the governments of developing countries. In other words, there are opinions that although ten recommendations associated with Washington Consensus represent effective strategy to achieve growth, ineffective manner in which these recommendations have been put into the practice by local governments are the main reasons for economic failures.

Supporters of this viewpoint argue that although the implementation of Washington Consensus recommendations have been imposed as loan conditions by IMF and the World Bank, these organisations have not directly participated in on implementation of those recommendations, and therefore they cannot be blamed for failures in successful implementation.

Advocates of Washington Consensus argue that great level of market liberalisation in line with Washington Consensus recommendations is going to stimulate competition and this consequently leads to economic growth.

Two perspectives can be adopted to explain positive implications of the Washington Consensus: narrow and broad. The positive implications of Washington Consensus in narrow perspective relate to price stability through privatisation, liberalisation and macro-stability, whereas in broad perspective positive implications involve capital market liberalisation (Serra et al., 2008).

Specifically, advocates of Washington Consensus point to the case study of Chile, Latin American country that has been able to experience notable economic growth after implementing recommendations of Washingon Consensus (Fischer, 2012). Reduction in the level of inflation in Mexico and Bolivia in early years of 1990s through elimination of fiscal deficit is also interpreted as benefits of Washington Consensus recommendations by some parties.

Additional points raised by advocates of Washington Consensus relate to the importance of political systems in terms of ensuring the security of economic transactions (Haynes, 2008), and the importance of economic climate that promotes fair competition in private sector that have positive implications to benefit consumers locally and globally.

Criticism of Washington Consensus and the Level of their Validity

Washington Consensus has been criticised by many economists and the major points of criticism relate to the lack of provisions to identify and address systematic market failures in developing countries, being purely theory based, and not derived from macro-economic experimentations and practices in practical levels, inapplicability during the times of economic crises and uncertainties, and the absence of provisions to identify and address systematic market failures in developing countries and others. All of these points are discussed further below in greater details

Washington Consensus can be viewed as an instrument to serve long-term interests of developed countries, notably United States, and other financial institutions.

Developed by bankers and policy makers in Washington, recommendations within the scope of Washington Consensus have been criticised for being purely theory based, and they have not been derived from macro-economic experimentations and practices in practical levels.

Furthermore, some economists warn that implementation of Washington Consensus principles during the times of economic crises and uncertainties can be dangerous and can produce counter-productive results. The validity of this argument has been justified in the case of former USSR member countries. The majority of former Soviet Union states with no previous free market experience have attempted to implement certain recommendations within Washington Consensus after the collapse of USSR in 1990 only to experience hyperinflation and other severe economic challenges for more than a decade (Collier, 2012).

The failure of Washington Consensus is starkly evident in the case of Russia in 1990s, where the experiments with privatisation, as one of the pillars of free market economy has resulted in large state enterprises and state companies for natural resources have been ceased by a handful of individuals who became billionaires overnight, when millions of other people were living on the verge of poverty during the same period of time.

There are undeniable evidences that for Latin America “as a whole, growth under the Washington Consensus was half of what it has been from the 1950s through the 1970s, when the region followed other economic policies such as import substitution” (Serra et al., 2008, p.4).

There have been several massive demonstrations against Washington Consensus such as demonstrations in Jamaica in 1985 against fuel price increases perceived to be the resulted by World Bank interference, and riots in Trinidad in 1990 as a protest against IMF imposed measures.

It has been noted that Washington Consensus recommendations “ignore the macro task of changing the economy’s production structure both to intensify input-output links and to diversify production towards sectors with faster growing demand and higher rates of profit” (Lee et al., 2007). In other words, there are no provisions to identify and address systematic market failures in developing countries.

Moreover, recommendations known as Washington Consensus do not take into account differences in the level of industrialisation of developing countries and other unique characteristics associated with a specific market.

The use of IMF and the World Bank as instruments to ‘enforce’ the implementation of Washington Consensus principles in practice by developing countries can be specified as another area that attracts much criticism. IMF and the World Bank require developing countries to be introducing structural reforms usually in line with Washington Consensus as conditions to apply for loans (Wylde, 2012), thus allured by loans developing countries are left with no choice but to implement those recommendations.

Moreover, there are certain problems associated with Washington Consensus recommendations in implementation levels. Firstly, Washington Consensus recommendations give more priority to large capital at the expense of small and medium business with potential negative implications on the state of economy (Wylde, 2012). Secondly, mostly due to the lack of precedent experiences, increase in the levels of market liberalisation increases the levels of economic uncertainties (Bandelj and Sowers, 2010). Thirdly, surge for efficiency in developing countries as encouraged by Washington Consensus recommendations have not been able to reimburse losses in traditional industry causing more unemployment and increasing the levels of poverty (Serra et al., 2008, Wylde, 2012).

Recommendations of Washington Consensus have also been criticised for becoming end in themselves instead of serving as methods for achieving equitable and sustainable growth (Wunderlich and Warrier, 2007).

Haynes (2008) points to an interesting paradox where the majority of highly developed countries of present day did not implement policies similar to Washington Consensus during the early and important stages of their development. On the contrary, it has been noted that during their early and important development stages those countries “implemented high tariffs and sectoral industrial policies, lagged in the production reforms, and did not have independent central banks” (Haynes, 2008, as taken from Irwin, 2004).

Washington Consensus critics also argue that its recommendations do not take into account the fact that only governments, no private sector organisations and markets possess the powers of impacting the state of national economies in an informed and proactive manner through devising and implementing relevant policies (Wunderlich and Warrier, 2007). In other words,  the patterns of resource allocation resulted solely by the forces of free market economies tend to be compromised in many levels, therefore national governments have to use their potentials of impacting national economies in a favourable manner.

According to parties with the most sceptical approach towards Washington Consensus, policymakers and officials in Washington always understood the vague nature of their recommendations and their potential negative impact to the state of national economies in developing countries. Nevertheless, those recommendations were developed in order to abstract the path of developing countries to prosperity intentionally for a set of reasons.

Critics argue that these reasons may include obtaining and maintaining new markets to sell products and services, and barring access to potential competitors to global marketplace. It is claimed that privatisation and financial deregulation in developing countries that belong to the core principles of Washington Consensus primarily serve the interests of foreign investors generating them profits, at the same time when local governments compromise the extent of advantages to be gained from own resources and the level of protection of local business and consumers becomes compromised as well (Kanbur, 2008).

It has been estimated that as negative impacts of implementation of Washington Consensus recommendations “sub-Saharan Africa’s foreign debt rose from USD 60 billion to USD 206 billion over the past 20 years, despite the debt repayments of USD 229 billion during the same period” (Robins and Ferris, 2003, p.79).

Some people are also highly critical of the name itself. According to this argument Washington Consensus clearly illustrates undisguised will of the United States to install its desired model of economy to other countries claiming superiority and dominance in the global scale. However, this specific point of criticism arises mainly on emotional levels, and this does not generally relate to the cause of economy.

Washington Consensus II and the Level of its Effectiveness

Weak economic indicators of Latin American countries that have implemented the recommendations of Washington Consensus, and economic difficulties in newly independent former USSR countries has motivated John Williamson to reassess the framework of Washington Consensus and organise conference entitled ‘After the Washington Consensus: Restarting Growth and Reform in Latin’ America in 2003.

This initiative has been unofficially entitled by many economists as Washington Consensus II (Fischer, 2012). The same framework is known as ‘Post-Washington Consensus’ as well.

Ten more recommendations have been incorporated in Washington Consensus II and these recommendations are improving corporate governance, fighting corruption, increasing the level of flexibility of labour markets, adhering to World Trade Organisation agreements, developing effective financial codes and standards, opening ‘prudent’ capital accounts, making exchange rate regimes non-intermediate, granting independence to central banks to control inflation, development of social safety nets, and engaging in targeted poverty reduction.

It has been argued that while Washington Consensus used to promote free market and capitalism in general, Washington Consensus II promotes a specific form of capitalism (Vestergaard, 2009)

Naturally, as it is true with any other frameworks and models, Washington Consensus II has found its critics as well. Major points of criticism of Washington Consensus II can be divided into the following three groups:

Firstly, Washington Consensus II has been criticised for the lack of consensus. In other words, there are arguments that while the principles of original Washington Consensus have been shared by a wide range of financial institutions, public officials, and notable economists, these parties have been less enthusiastic in relation to Washington Consensus II. This may relate to modest or no accomplishments developing countries have achieved as a result of implementing the recommendations of original Washington Consensus introduced in 1989, nevertheless, the critique  the Washington Consensus II for the lack of consensus seems to be a valid point.

Secondly, Washington Consensus II has been criticised for the lack of correspondence with empirical reality (Fischer, 2012). According to this argument Washington Consensus II, same as the original Washington Consensus does not offer feasible action plan does not take into account unique characteristics of developing countries.

The Future of Washington Consensus

Any forecasts of future state of matters in general, and geo-political and economic issues in particular can be highly compromised due to the existence of a wide range of unforeseen factors and circumstances. Such factors may include, but not limited to the rise of international terrorism, global economic crises, technological innovations in various areas etc.

Nevertheless, the ideology of Washington Consensus can be forecasted to be on its way to become a history. First of all, this argument can be justified by referring to the global economic and financial crisis of 2008-2011. The crisis that has been triggered by the credit crunch in the US, has effectively illustrated serious shortcomings of liberal market economy. Moreover, the USA and Europe is still faced with substantial economic challenges as the outcome of the crisis, and this fact is going encourage the leaders of developing counties to think twice before implementing principles known as Washington Consensus.

Moreover, the rise of China, India, Brazil and other countries as new economic superpowers despite the lack of free market economy in its pure form in these countries further strengthens the argument above. It has to be acknowledged that cheaper prices of resources, especially human resources make substantial contributions on the level of competitiveness of these countries in the global market, nevertheless, the emergence of these new superpowers compromises the idea of superiority of free market economy over all other alternatives.

Author of this paper does not aim to specify the principles of free market economy as ineffective as a whole.  The argument here is that the set of recommendations known as Washington Consensus need to be implemented by developing countries with necessary adjustments taking into account unique aspects of the national economy.

Shortcomings of Washington Consensus discussed above, and acceptance of these shortcomings by increasing numbers of economists is encouraging the emergence of alternative consensuses. For example, Kuan Lee from Seoul National University, John  Mathews from Macquarie University, and Robert Wade from London School of Economics propose the idea of BeST Consensus where the acronym stands for Beijing-Seoul-Tokyo Consensus for development.

The main differences of BeST Consensus from Washington Consensus is that the former consensus focuses on reducing poverty, development of special economic zones with favourable taxation systems for joint-ventures by the government, putting heavy emphasis on tertiary education, specifically science, engineering etc. (Lee et al., 2007).

Alternatively, Himalayan consensus can be mentioned as proposed by some economists. Interestingly, this specific consensus is based on traditional Asian values and it does not accept theories and models of economics as valid (Eckes, 2011).

Beijing consensus, on the other hand, is perceived to be based on three main principles: market-oriented reforms by the government, authoritarian rule, and avoidance from influence of foreign institutions and governments (Eckes, 2011).

Moreover, the development of Millennium Development Goals by the United Nations Organisations (UN) in 2000 can be interpreted as an alternative program to Washington Consensus recommendations in terms of assisting developing countries to achieve economic and social growth (Jha, 2012). However, instead of proposing recommendations, the UN’s attempt to deal with the issue involves the achievement of eight goals by the year of 2015.

These goals are eradicating extreme poverty and hunger, achieving the provision of universal primary education, promoting gender equality and empowering women, reducing child mortality, improving maternal health, combating diseases such as HIV/AIDS and malaria, ensuring environmental sustainability, and developing a global partnership for development (UN, 2013).

At the same time, the possibility of introduction of Washington Consensus III cannot be ruled out. However, in practical levels there are two facts that may obstruct the emergence of Washington Consensus III. Firstly, the author of the term Washington Consensus, and the main driving force behind the development of Washington Consensus and Washington Consensus II John Williamson has officially retired in 2011. Second, the implementation of both Washington Consensuses by developing countries have generated poor economic gains, and this fact is most likely to be taken into account in the future by the governments of developing countries.

Nevertheless, there are economists who are optimistic about the future contribution of Washington Consensus institutions IMF and the World Bank to the level of economies of individual countries. For example, it has been argued that learning from Washington Consensus mistakes “the World Bank and the IMF replaced their advocacy of ‘free market economy’ with an advocacy of the ‘proper economy’” (Vestergaard, 2009, p.181). However, unfortunately, such optimistic arguments often lack justifications through references to facts and statistical data.

Conclusions

Initially devised as development plan for Latin American countries, the notion of Washington Consensus has escalated from its original role to become a widely topic in economics and has had substantial effect on global political and economic climate for more than last two decades.

As it has been highlighted in this paper implementation of principles known as Washington Consensus has had both, potential positive and negative implications in various periods of time for various durations.  The positive implications of Washington Consensus relate to creation of platform for growth creating an effective economic climate and ensuring the security of economic transactions.

On the negative side, Washington Consensus has been criticised for the lack of provisions to identify and address systematic market failures in developing countries, being purely theory based, and not derived from macro-economic experimentations and practices in practical levels, inapplicability during the times of economic crises and uncertainties, and the absence of provisions to identify and address systematic market failures in developing countries.

Moreover, additional disadvantages and shortcomings of Washington Consensus discussed in this paper include neglecting differences in the level of industrialisation of developing countries and other unique characteristics associated with a specific market, enforcement of the implementation of recommendations through specifying them as conditions to obtain loans from IMF and the World Bank, and giving more priority to large capital at the expense of small and medium business with potential negative implications on the state of economy.

Nevertheless, today the notion of Washington Consensus and their principles in their original form are out-dated. Substantial global geo-political hanges have taken place since the introduction of principles in 1989, and these changes have shifted the roles of institutions such as IMF, World Bank, and the US Treasury Federal Reserve. It can be stated without exaggeration that today there is a consensus among economists about the failure of Washington Consensus.

To summarise discussions it can be noted that due to the increasingly dynamic nature of global political and social environment no ‘consensuses’ can prove to be universally effective. Therefore, in present day economists need to restrain from attempts to develop universal doctrines and they need to focus on developing economic programs and finding solutions to issues by taking into account present realities in the marketplace. Moreover, it is critically important to understand that even those programs are going to be obsolete during a short period of time, because changes in today’s global economic and political environment are rapid and significant.

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