Credit globalization has integrated the global economy into a whole, meanwhile debt globalization is dragging the latter into a trap whereby the amount of existing debts can never be repaid. As a result, the global economy is struggling onwards, overshadowed by the risk of an outbreak of a second credit crisis at any time. All those have presented a pragmatic question before the entirety of human society: How can we appropriately utilize credit resources and prevent a global credit crisis from undermining the sound development of human society? Looking historically, the first-ever global credit crisis was triggered by the Western developed nations’ over-indebtness exceeding their repayment capabilities. The root of the problem lies in that they obtained the highest possible credit rating levels merely through their dominant position in the international rating market. By doing so, they concealed their repayment risks and made the entirety of human society bear the credit catastrophe caused by flawed ratings. Following the crisis, however, Western developed nations, as usual, sought to elevate the amount of global debt. Moreover, flawed ratings assigned by Western credit rating agencies still led the world’s credit resources to flow into economies where debt amount surpassed wealth creation capability. In consideration of such circumstances, what is the prospect of the global economy? Our human society has never stopped reflecting upon such serious matters ever since the 2008 credit crisis. The current state of affairs is warning us that we must abandon traditional thinking and adopt a renewed perspective to think over the problem of global economic governance.
In the aftermath of global financial and credit crisis, remediation and governance of the global economy has placed onto the agenda of the world. However, the key questions, such as what to remediate, how to accomplish the remediation, what to govern and how to perform the governance, have not been clearly addressed. As result of that, we have not seen visible effects from the remediation and governance of the global economy. The unprecedented, 8-year long process of relying on massive debt issuance to build up demand for consumption and stimulate world economic growth has not met people’s good expectations. On the contrary, it has placed the global economy upon a foundation of debt which is so massive in scale, that its repayment is completely impossible. This debt based economic policy and practice has increased the probability of another financial crisis. The fundamental cause of this outcome is that the remediation and governance of the global economy has deviated from the inherent laws of the credit based economy, and has not incorporated an equitable credit rating system into the global economic governance and remediation system.
1. Credit ratings shape the fortunes of the global economy through the allocation of credit resources
The role of credit rating within the global economy is determined by the inherent laws of credit based economy. The key attributes of a credit based economy include: 1) liquidity required for social reproduction activities relies highly on debt; 2) economic activities of and by the humans are largely based on capital acquired through credit; 3) on the other hand, to match with the production capacity and growth, debt is also used to sustain and grow the demand from consumption. Hence, the level and conditions of the credit resources formed through the creditor-debtor relationships determine the ups and downs of the social reproduction. We all know the establishment of a lending relationship between a creditor and a debtor is based on the creditworthiness of the debtor, which is an assessment of debtor’s ability and willingness to repay the debt. This assessment is a very technical process which can only be performed by a rating agency as an independent, third-party professional service provider. Because of this unique role as the inevitable intermediary between creditor and debtor in constructing credit relationships, rating agency has naturally acquired its function and power in allocating credit resources. Consequentially, the logic of the credit based economy is born, which is: credit production → credit consumption → credit resources → credit ratings. Through establishing credit relationships, distributing credit resources, and influencing the production and consumption, credit ratings have been the ultimate ruling power of the credit based economy. The global economy today has been a credit based economy, a type of economy built upon creditor-debtor relationships and shaped by the conditions of credit relations. Therefore, the remediation of the credit based economy should be mainly focused on how to allocate credit resources equitably through establishment of credit relationships, and how to create more values leveraging the liquidity provided by debt. To achieve this goal, it is necessary to use credit rating as a special instrument solely dedicated to the evaluation of debtors’ creditworthiness and credit risk. From the above analysis, we discover 2 pairs of contradictions in the credit based economy, the first one being the pair of production and credit, and the second one being credit and credit rating. The first pair, which is between production and credit, is a pro-cyclical force, due to the fact that production needs continuous credit expansion to sustain and support the consumption of its products. The second pair between credit and credit rating is a counter cyclical force because credit rating’s responsibility is to provide information about the quantified boundary of debtors’ debt repayment capacity. Therefore, the two pairs of contradictions formed the global economy’s inherent laws of movement.
2. Western credit ratings have long played a governance role in global economy
Participation and domination of global economic governance by Western credit ratings is accomplished through 3 levels: 1) direct rating; 2) wide adoption and application by private and public sectors of their rating concepts, methodologies and practices; and 3) institutionalization of their credit rating services. Western credit rating agencies have controlled the allocation of global credit resources, with their near monopoly on access control of capital markets to various economies or business entities seeking to raise fund. All along, Western credit rating agencies have been the direct driving force of the excessive credit expansion, and this conclusion is made upon the observation of the relationship between debt growth and the growth of wealth-creation capacity. Compared to 1998, the United States’ gross national debt in 2008 increased by 122.0%, while its GDP increased only by 61.9%; the ratio of debt to GDP increased from 269.7% to 369.7%. During the same period, for Euro-zone countries, their gross national debt increased by 111.2%, while total GDP increased by 98.2%; the ratio of debt to GDP increased from 271.1.0% to 289.0%. During the same period globally, gross debt increased by 114.1%, while the total GDP increased by 101.7%; the ratio of debt to GDP increased from 228.4% from 242.4%. In 2015, this ratio has risen up to 286%. The above sets of data have demonstrated, the global economic growth is achieved on the basis of massive debt expansion. If we exclude the virtual portion from the GDP, the gap between the debt expansion and value growth would be even larger. This comparison between debt and GDP is made with the assumption that the debt can be repaid with GDP, yet in reality it is not possible to repay debt with GDP. The excessive debt issuance has caused the much faster debt growth than the growth of wealth creation. It is a solid proof that Western credit ratings have failed to channel global credit resources into economies with real wealth creation capacity and opportunities, causing the imbalance between credit resource occupation and wealth creation capacity, and finally, to make matter worse, this imbalance can only be corrected through the form of a credit crisis. Since the 2008 financial crisis, however, the status of Western credit ratings dominating global economic governance has remained unchanged and has been continuing to play a pro-cyclical role in contributing to the excessive global debt expansion. As a result, the peak of international debt scale increased by 40.1% over that before the financial crisis, while economic growth decreased by 40.3%. History and present have repeatedly proved that Western credit ratings are unable to undertake the counter-cyclical responsibility required by the laws of global economic development to hold back the excessive expansion of debt. This has not only led to the absence of an equitable credit rating system within the current global economic governance system, but also reduced the credit rating to an instrument of disguising credit risks and a destructive force to global economic remediation and governance.
3. Without equitable credit ratings in global economic governance, the global economy will have no hope
The fundamental problem in global economic governance and remediation is that the pro-cyclical force is too strong and the counter-cyclical force is completely absent, which goes against the inherent laws of credit based economy, in which the two pairs of contradictions, product and credit, credit and credit rating, interact with each other in the law of unity of oppositeness. The dominant status of pro-cyclical force is manifested in the credit expansion driven by the inherent drive of the production, as well as in the fact that current credit rating system actively pushed for credit expansion. On the other hand, the absence of a counter-cyclical force is manifested in the reality that the current global credit rating system has failed in holding back excessive credit expansion.
What is global economy after all? It is the movement of the unity of opposites between production and consumption. When the global economy has transformed from the stage of consuming material wealth already created, to the stage of relying upon virtual consumption capacity, or upon lending to consume the material wealth which would be created in the future, the global economy has transcended into a higher stage in which we have the unity of opposites between production and credit. At this new stage, the balance between credit and production which is constructed and built upon creditor-debtor relationships will determine the status of the global economy. Therefore, from the perspective of globalized credit distribution and relationship, the mission of global economic governance and remediation is to effectively manage credit relationships from the demand side, prevent the imbalance between production and credit from happening due to over expansion of credit, and enable credit relationships to become active and positive driving force of the global economic growth. Speaking from a fundamental level, to remediate and govern the global economy which is credit based really depends upon how to govern the global credit system. The target of managing the credit relationships is really to delineate the quantitative boundary of safe debt load of debtors, which is the natural responsibility of a credit rating agency. Therefore, it is pivotal to build up an international credit rating system which can truly reveal credit risks. Otherwise, the international community will not have an effective tool to prevent excessive and abusive credit expansion, which will exacerbate the imbalance between production and credit. The extreme imbalance will eventually correct itself through another round of debt crisis. Under the current global economic regime as we have today, where is the hope for us to bring effective remediation and governance to the global economy? In the final analysis, the credit crisis the global economy is facing today is a global economic governance crisis, caused by the absence of an equitable credit rating system.
4. The key of incorporating equitable credit ratings into the global economic governance system is transforming our way of thinking
How could we incorporate equitable credit ratings into the global economic governance system? The key is to, 1) apply the research methodology which is able to reveal the inherent laws of credit based economy, and focused on the 2 pairs of contradictions in a unity of opposites, i.e., production and credit, credit and credit rating; 2) review the accomplishments and failures of global economic governance and draw lessons learned; 3) correctly recognize the flaws and harms of Western credit ratings; 4) formulate new ways of thinking about global economic governance, and 5) answer the fundamental questions concerning what to govern and remediate, how to perform the governance, and how to accomplish the remediation. The ultimate goal for the global economic governance is to establish and leverage an equitable credit rating system, allocate credit resources in an equitable manner, encourage and motivate wealth creation, achieve balance between debt scale and wealth creation. In order to prevent the imbalance of this important relationship from occurring and affecting the global economy, it is necessary to manage credit relationships effectively between debtors and creditors, a task in which an equitable credit rating system and process is critical and indispensable. Well, people may ask, how to distinguish equitable or correct ratings apart from inequitable or wrong ratings? The key is calculation, as credit rating is a form of calculation. It is calculating the amount of available and potential resources and capacity for the repayment of debt. Since the capability of debt repayment is dependent upon wealth creation capacity, the standard of credit rating will dictate that anticipated debt repayment resources should align with wealth-creation capacity; the bigger the deviation between the two, the larger the risk. Using this methodology, we can differentiate equitable and correct ratings from inequitable and wrong ones. Once we have transformed our way of thinking regarding how the global economy should be governed with the direction provided by the inherent laws of credit based economy, we will be able to establish a conceptual foundation to build up and incorporate an equitable credit rating system into the governance system of the world economy, and we will be able to focus our energy to construct a brand new international credit rating system which represents the broadest common interests of humanity and is capable of taking on the mandate to provide the fair and responsible credit rating services for the world.
Reforming the existing inequitable global credit rating system and constructing a new international regime for credit rating has been a major consensus of the international community since the financial crisis in 2008. At such a historical juncture for reconstructing the global economic governance system, due to the ingrained conventional thinking and the absence of thought leadership on the credit based economy, reconstructing the global credit rating system has not been put onto the agenda of global economy remediation and governance, which nevertheless is commanded by the socio-economic development of mankind. As the result, the global economy is still stuck with the crisis which erupted eight years ago, and in the risk of another round of global credit crisis. Today, when people worry about the next crisis, we face a historical opportunity to revamp the international credit rating system. Whether or not we can seize this historical opportunity, which is highly significant to the peace and development of our society, will be a test to our wisdom.