"We need a crisis prevention capability, not just crisis resolution." Gordon Brown, Prime Minister of the United Kingdom

When leaders of the G20 countries - which combined account for almost 90% of world GDP and 80% of world trade - meet in London in April, they will face a set of economic challenges unlike any encountered by global decision-makers since the Great Depression. These include stabilizing a fragile financial system, stimulating demand at a time when interest rates are at or near zero in many countries, combating a dangerous turn towards protectionism and perhaps most importantly - taking the first steps towards redesigning the global governance structures that failed to prevent the crisis.

These same topics were the subject of extensive debate at this year's Annual Meeting, as participants sought to both formulate responses to the immediate crisis and develop a vision for the reforms that will inevitably follow it.

"We have two tasks: the first is to help manage the crisis and the second is to shape the post-crisis world," noted Professor Klaus Schwab, Founder and Executive Chairman of the World Economic Forum. "Because only if we look at longer term perspectives can we recreate trust in the economic system and in the future."

The short-term perspective is bleak, according to John Lipsky, First Deputy Managing Director, International Monetary Fund (IMF), Washington DC. The IMF's latest forecast predicts global GDP growth will decelerate to a meagre 0.5% in 2009, the weakest showing since World War II. Global unemployment, meanwhile, is rising rapidly, with the bulk of layoffs still to come.

A protracted global slump, comparable to the Great Depression in duration, if not in depth, cannot be ruled out, some economists warned. "We cannot underestimate the challenges and the dangers we face in 2009," said Stephen S. Roach, Chairman, Asia, Morgan Stanley, Hong Kong SAR. Badly over-leveraged US consumers are dramatically cutting back on spending, Roach noted, reversing one of the main sources of global demand during the previous boom.

A number of sessions focused on the sources of the current crisis, with many participants, including Roach, arguing that they ultimately stem from the same global economic imbalances that have driven the large US and United Kingdom current account deficits and the similarly large surpluses of many exporting countries. Wen Jiabao, Premier of the People's Republic of China, blamed "inappropriate macroeconomic policies of some economies and their unsustainable model of development." Vladimir Putin, Prime Minister of the Russian Federation, cited the harmful consequences of a global economy in which "one regional centre prints money without respite and consumes material wealth, while another regional centre manufactures inexpensive goods and saves money printed by other governments." However, Ferit Sahenk, Chairman of Turkey's Dogus Group and Young Global Leader, expressed the views of many that "what is important is collective action" at this stage of the crisis.

"We have to promote trade and investment at this juncture otherwise we will all suffer." Han Seung-Soo, Prime Minister of the Republic of Korea

If an extended slump is to be avoided through collective action, then G20 leaders will need to act quickly on a number of fronts to restore business and consumer confidence, participants agreed. These include:

•	Financial stabilization to repair bank balance sheets and revive lending
•	Fiscal stimulus to boost aggregate demand
•	Recapitalization of the IMF and other steps to restore capital flows to the developing countries
•	Agreement on the outlines of a new system of global financial regulation

Above all, participants stressed, actions taken by the G20 governments must be coordinated to a far higher degree than they have been so far. Otherwise, the risk of perverse and/or self-defeating consequences - such as continued market volatility - will remain high.

Financial Stabilization
The threat of systemic collapse, which loomed last September following the failure of Lehman Brothers, has receded in the wake of public capital injections by the United States, the United Kingdom and other G7 governments, and liquidity interventions by the major central banks. However, bank balance sheets remain stuffed with non-performing loans and other "toxic" assets, deterring new lending. "In a deflationary environment, the weight of accumulating debt can sink the banking system and push the economy into depression" was the fear expressed by George Soros, Chairman of Soros Fund Management, and shared by many participants.

Participants, however, differed on the best approach to fix the banking problem. Gordon Brown, United Kingdom Prime Minister and current chair of the G20, suggested most of the group's leaders are leaning towards a "good bank/bad bank" model, in which governments either purchase impaired assets or offer guarantees to banks that keep them on their own balance sheets. "We need international discussion on what is the best model," he said. "But that appears to be the way forward."

However, this approach presents a number of practical problems: the chief one being how to price the purchased or guaranteed assets. Some participants warned that leaders risk undermining already weak public support for financial stabilization if they are seen as providing hidden subsidies to existing bank shareholders.

"We are in the midst of a transformational crisis and the world will be quite different when it comes out of it. So, we have two tasks: the first is to help manage the crisis and the second is to shape the post-crisis world. Because only if we look at longer term perspectives can we recreate trust in the economic system and in the future." Klaus Schwab, Founder and Executive Chairman of the World Economic Forum

Given the staggering size of the liabilities - including derivative exposures - involved, governments may end up impairing their own creditworthiness, warned Joseph E. Stiglitz, Professor, Columbia University, USA. Nor is there any assurance banks will resume lending. "We may end up throwing more good money after bad," Stiglitz complained. Stiglitz and others argued that more should be done to rescue the system from the bottom up, by providing relief to homeowners faced with foreclosure.

Most participants rejected the alternative of nationalizing troubled banks, predicting it would cause an exodus of private capital from the entire financial sector. "If governments wipe out private shareholders, I don't think private investors will ever invest in banks again. There would be no incentive," contended Tony Tan Keng-Yam, Deputy Chairman and Executive Director, Government of Singapore Investment Corporation (GIC), Singapore.

Fiscal Stimulus
With short-term interest rates effectively at zero in the US and Japan, and further easing seen as imminent in the European Union, the world's leading central banks would appear to have almost exhausted their ability to spur an economic recovery. Although some participants held out hope for "quantitative easing" - in which monetary authorities step up purchases of the risky assets of the private sector, most agreed coordinated fiscal stimulus in the G20 countries is the best hope for supporting global demand. Justin Yifu Lin, the World Bank's Chief Economist, reminded participants that "the whole world is a closed economy," and that "fiscal stimuli will not work if they are not coordinated."

The scale and scope of various fiscal stimulus plans were highlighted throughout the Annual Meeting, but it was apparent in Davos that the global coordination of these national plans was minimal. Taro Aso, Prime Minister of Japan, cited the stimulus package under consideration in Japan's parliament, the Diet, which includes fiscal measures equalling roughly 2% of the country's GDP. Wen Jiabao, Premier of the People's Republic of China, told participants the two-year plan approved by his government would equal 16% of the country's GDP, and would be used to subsidize housing, railway construction and other infrastructure projects. The prospect for US President Obama's proposed stimulus package was also discussed.

Here, too, however, concerns were raised. Several participants questioned whether the packages announced to date are large enough to offset the decline in private investment and consumption. Others warned that financial markets might eventually rebel against increases in government borrowing, sending bond yields higher and negating much of the economic benefit.

Delays could also prove damaging, suggested Abhisit Vejjajiva, Prime Minister of Thailand, citing his country's experience during the 1997-1998 Asian crisis. "If you act too late, you end up having to do it again and again," he said. "The political costs can become unsustainable, because the public begins to believe it is not worth it."

"Talking through what we need to do is important and that is why Davos is more than ordinarily important." Stephen Green, Group Chairman, HSBC Holdings, United Kingdom, and Co-Chair of the Annual Meeting 2009

President José Manuel Barroso of the European Commission signalled the need for coordinated action by the European Union's member states to address the crisis, noting that the EU collectively represents the largest economy in the world. He called for "a new triumph for coordinated European actions." President Jean-Claude Trichet of the European Central Bank said the long-term objective should be to ensure the resilience of the global financial system. "We need to solve immediate problems as well as follow a sustainable recovery path, and ensure longterm stability.

Restoring Capital Flows to the Developing World
Hopes to avoid an outright contraction in global output this year rest heavily on continued growth in the developing countries. However, the financial crisis has resulted in an abrupt decline in capital flows to those countries, with the IMF estimating such flows will total just US$ 300 billion in 2009, half of last year's total. While nations with sizable international reserves, such as India and China, can compensate for this drought, at least for a time, developing debtor countries face severe constraints on their ability to combat recession.

The immediate, practical step the G20 could take to address the problem, participants agreed, would be to increase the resources of the IMF and the other multilateral lending agencies, while giving them greater latitude to offer assistance to countries before they encounter balance-of-payments problems. "We need a crisis prevention capability, not just crisis resolution," Prime Minister Brown argued.

Prime Minister Aso noted that Japan has already offered the IMF a US$ 100 billion loan, while Lipsky said the fund hopes to obtain an additional US$ 150 billion from its other members. But even these amounts appear insufficient, argued Montek S. Ahluwalia, Deputy Chairman, Planning Commission, India. Ahluwalia called for a tripling of existing member quotas, as well as for more innovative steps, such as a generalized issue of Special Drawing Rights (SDRs). "We need to see some unique confidence-building measures," he said.

Multilateral financing will be of limited help if the private capital drain is not reversed, participants warned. Many cited an alarming rise in "financial protectionism" as a result of the crisis, with banks in the developed world redirecting funds to domestic lending, often at the behest of their governments.

Reforming Financial Regulation
In an address to the Annual Meeting participants, German Chancellor Angela Merkel called for the adoption of a "new charter for a global economic order" based on sustainable economics. "This may even lead to a UN Economic Council, just as the Security Council was created after World War II," she said.

2009 World Economic Forum Brainstorming

Participants generally viewed the case for regulatory reform as self-evident, given the excesses revealed by the crisis - although some in the financial industry cautioned against an overreaction that would further discourage lending and entrepreneurial risk taking.

When participants at an economic brainstorming session were polled on the issue the G20 should make its single highest priority, 40.6% listed the lack of an international regulatory framework, while 21.3% cited the absence of effective oversight of the use of financial leverage.

Montek S. Ahluwalia, Deputy Chairman, Planning Commission, India, with Stephen A. Schwarzman, Chairman and Chief Executive Officer, The Blackstone Group, USA

Above all, participants agreed, regulators need to ensure greater market transparency, both through closer surveillance and by facilitating the shift of over-the-counter derivatives trading to regulated exchanges. Bank capital standards, such as those set by the Basle I and II Accords, will also need to be reviewed, and the internal risk models used by banks to implement those standards must be completely overhauled. Likewise, the role of the credit rating agencies in assigning risk levels (and thus the required capital backing) to assets is in question.

Participants rejected as unrealistic the idea of a single, supranational regulatory authority, concluding that informal bodies such as the Financial Stability Forum, which draws together prudential regulators and monetary policy-makers, will have to provide the closer coordination the system desperately needs.

A number of participants suggested this collaboration should include the development of anti-cyclical regulatory policies - such as capital requirements and leverage restrictions that can be tightened during booms and loosened during downturns. Industry participants, however, were sceptical. "Political pressures will prevent it from working," predicted Walter B. Kielholz, Chairman of the Board of Directors of Credit Suisse.

Conclusion
With the economic downturn still deepening, the need for a rapid, effective and coordinated response to the crisis naturally dominated the economic agenda at this year's Annual Meeting.

However, participants also stressed that the G20 governments, as well as other global decision-makers, can ill afford to ignore the world's longer term challenges, such as reducing poverty, controlling the spread of infectious diseases, arresting global climate change and - not least - correcting the structural imbalances in global savings and consumption that contributed to the crisis.

"What we are experiencing," Schwab reminded participants, "is the birth of a new era, a wake-up call to overhaul our institutions, our systems and, above all, our way of thinking."