A Financial 9/11

After 2001, the foreign policies of many countries were shaped in response to the terrorist attacks of September 11, which had wrenched minds back to the imperative of national security. Today those foreign policies are again being reshaped—but this time by the economic crisis. And the changes will be as profound as those wrought by 9/11.

An economic crisis does not kill and maim in the same way as do terror attacks. In the current case, its impact will be more diffuse, more long-term and less visible. But the effects may be just as far-reaching, stretching across more countries and covering more aspects of nations' lives, not just security.

The history of past crises shows that our fate will be determined less by the event itself than by how we respond. The U.S. Smoot-Hawley Tariff Act of 1930 is an often-quoted example of how a mismanaged recession was turned into a depression. By contrast, the financial crashes and panics of the early part of the 20th century sparked a wave of institutional innovations, with changes to central banking, labor and competition laws, and consumer safety regulation.

In the current case, the wrong response is clear: to pander to protectionism, defer action on climate change, turn inward and succumb to extremism. Such warnings a year ago would have sounded alarmist. Today, with governments struggling to hold on to power—those in Latvia, Iceland, Hungary have already fallen—they feel all too real.

But while the crisis is giving new momentum to the politics of fear, it is also giving new energy to the politics of hope. What the legal scholar Roberto Unger calls "false necessities" no longer constrain our thinking. Old orthodoxies have crumbled, leaving space that either progressives or reactionaries can fill. To ensure they prevail, progressives must address the deep economic, environmental and political imbalances that gave rise to the current mess.

Economic imbalances between rich and poor created the market in subprime mortgages as banks lent to people who could not afford to repay loans. Growing global financial imbalances between countries with surpluses and those with deficits depressed interest rates and created the demand for risky securities.

Americans are now beginning to save more. China is boosting domestic consumption. Certain risky financial services look less attractive. But some imbalances will not correct themselves. In fact, the gaps between rich and poor, within and between countries, may be exacerbated. That is why governments need to rebalance the relationship between the state and markets to create a fairer, more equal distribution of rewards. And the developed world must not abandon its commitments to increasing aid to poor countries, achieving the Millennium Development Goals and completing the Doha round of trade talks.