Introduction

Unlike other recent financial crises, the seeds of this one were sown in the United States (US or America). This crisis erupted in America in the summer of 2007 and the shock waves radiated out from there. The crisis was rooted first and foremost in lax regulation and skewed incentives in US financial markets.¹ Within a few months, however, it had engulfed the entire world. It thus has important implications for high-, medium- and low-income countries alike.

In this paper I focus on the lessons for middle-income countries, what are popularly called emerging markets. Given the origins of the crisis a large literature has already developed around the lessons for the advanced countries.² And organizations from the International Monetary Fund (IMF or Fund) to the United Nations and the Overseas Development Institute have focused on the plight of the poor countries.³ The implications for middle-income countries have received less attention, for reasons that are not entirely obvious. For a time there was the belief that emerging markets might decouple from the advanced countries and consequently that the crisis had no first-order repercussions for them. While decoupling proved to be a mirage, important emerging markets, starting with the People's Republic of China (PRC), have bounced back smartly from disruptions to their exports and growth. Again this may have created a mental inclination to minimize the implications.

The lessons for the US and the other high-income economies are clear. They need to strengthen supervision and regulation and address agency problems in their financial markets. They need to finish repairing their broken financial systems. When growth resumes they will have to address their gaping budget deficits and rising debts. For low-income countries the implications are also clear. They need to continue investing in education, health care and other basic human services and building the physical and organizational infrastructure needed to penetrate foreign markets. There may be no question of the desirability of more help from outside, but they must be prepared to do these things under their own steam insofar as the more slowly growing advanced countries may now be less forthcoming with aid.

But what about emerging markets? More than the fact that the impact on their economies has been relatively muted, there is a lack of clarity about the policy lessons. How, in light of recent events, should emerging markets modify their terms of engagement with global trade and finance? What are the implications for supervision and regulation of their financial systems, given that supervision and regulation in the high-income countries, traditionally regarded as role models in international standard setting, have been revealed as deficient? Should monetary, fiscal and exchange-rate policies be rethought in light of new evidence on what has and has not worked? Now that recent events have given emerging markets more influence over reform of the international financial architecture, for what specific changes should they push?

The crisis also reminds us that it is appropriate for pundits from “advanced” countries to show modesty and restraint when sketching lessons for emerging markets. But I won't let this stop me.

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