We Need a Bank Of the World

If a global central bank had existed before today's financial crisis, it could have sounded a shrill warning about irresponsible financial transactions much earlier; and if it had been set up with the enforcement teeth it deserves, it would have had the clout to demand, perhaps as early as 2005, that banks and other financial institutions start building reserves when times were booming, rather than allow them to maintain lower reserves precisely because profits were soaring. It would have seen that financial institutions were accumulating debt that was 30 times their capital and imposed—or caused national central banks to impose—more sober leverage ratios.

A global central bank worth its salt would have reined in not just commercial banks but also loosely-regulated investment banks, because all such institutions would have been obligated to adhere to the global banks' regulatory standards or else be blacklisted in global markets. It would have intervened to deal with Lehman Brothers and AIG, both with truly global reach, and thereby put the burden not just on American taxpayers but also taxpayers of other countries who used these institutions' services.

Had it existed, a global central bank would have acted without the air of panic that has been exhibited by national central banks and finance ministries in this meltdown. Ideally, it would have gathered its governing board well in advance of a financial blowup to execute a coordinated rescue and global-stimulus plan, part of what should be its ongoing role of preparing for crises.

It would be hard to overestimate the political pushback that any official proposal for a global central bank would draw from various constituencies, most especially within the United States. Among their many charges, critics will protest the establishment of "world government." But we have a World Trade Organization with legally binding powers over trade disputes. We have a World Health Organization for communicable disease with the ability to quarantine entire countries. And a World Court functions today that has considerable legal and moral clout.

No one should want too much globally centralized oversight. But the world's gathering misery shows that too little leadership from the center can be equally dangerous. The November summit itself won't solve anything, but if it gave instructions to finance ministers and central bankers to explore what a new central bank could do, with a deadline to come back with concrete ideas shortly after a new U.S. president is inaugurated, it will have made real progress on one of the great problems of our times.

Garten is the Juan Trippe Professor of international trade and finance at the Yale School of Management.

© 2008