The global economy...

The Economist offered an interesting and fairly detailed special report on the world economy in the October 9th edition. Not everyone will agree with all of their conclusions, but it is at a great disservice to yourself if you chose to not read the report.

Perhaps most enlightening for me was the section on commodities and speculators...

Contrary to what the critics of speculation suppose, the main task of futures markets has been to signal these fundamentals to firms and households, speeding up their adjustment to the changing balance of supply and demand for physical commodities. In the absence of such signals, it would have taken even bigger and more extended swings in the prices of physical commodities to bring supply and demand into balance.

In the end, the report recognizes that there is a need for additional regulation in certain areas of the economy (mostly the finance portion). It points out, however, that we should not get caught up in a nationalistic protectionist mindset, whereby many of the big net positives that have come to fruition under globalization are lost, as we retreat to an era of big tariffs and neo-mercantilism blended with government interventionism. Long, but good....

A successful multilateral strategy to staunch the crisis would also make it more likely that the world will rise to the second challenge: learning the right lessons. Too many people ascribe today’s mess solely to the excesses of American finance. Putting the blame on speculators and greed has a powerful appeal but, as this special report has argued, it is too simplistic. The bubble—and the bust—had many causes, including cheap money, outdated regulation, government distortions and poor supervision. Many of these failures were as evident outside America as within it.

New-fangled finance has its flaws, from the procyclicality of its leverage to its fiendish complexity. But the crisis is as much the result of policy mistakes in a fast-changing and unbalanced world economy as of Wall Street’s greedy innovations. The rapid build-up of reserves in the emerging world fuelled the asset and credit bubbles, and rich-world central bankers failed to counter it. Misguided monetary rigidity caused financial instability. Much though people now blame deregulation, flawed regulation was more of a problem. Banks set up their off-balance sheet vehicles in response to capital rules.

It is the same story with the spike in food and fuel prices over the past year. To be sure, commodities markets can overshoot—but rather than pointing the finger at speculators, governments should look in the mirror. Rich countries’ biofuel policies pushed up the cost of food. Poor countries’ food-export bans and fuel subsidies compounded the problems. In many ways today’s mess is a consequence of policymakers’ misguided reactions to globalisation and the increasing economic heft of the emerging world.

If markets are not always dangerous and governments not always wise, what policy lessons follow? In the aftermath of the crisis the battle will be to ensure that finance is reformed—and in the right way. The pitfalls are numerous. Banning the short-selling of stocks, for instance, makes for a good headline; but it deprives markets of liquidity and information, the very things that they have lacked in this crisis. Even if the easy mistakes are avoided, improving supervision and regulation is hard. Financial regulators must look beyond the leverage within individual institutions to the stability of complex financial systems as a whole. Wherever the state has extended its guarantee, as it did with money-market funds, it will now have to extend its oversight too. As a rule, though, governments would do better to harness the power of markets to boost stability, by demanding transparency, promoting standardisation and exchange-based trading.

Over-reaction is a bigger risk than inaction. Even if economic catastrophe is avoided, the financial crisis will impose great costs on consumers, workers and businesses. Anger and resentment directed at modern finance is sure to grow. The danger is that policymakers will add to the damage, not only by over-regulating finance but by attacking markets right across the economy.

That would be a bitter reverse after a generation in which markets have been freed, economies have opened up—and prospered. Hundreds of millions have escaped poverty and hundreds of millions more have joined the middle class. As the world reconsiders the balance between markets and government, it would be tragic if the ingredients of that prosperity were lost along the way.