Globalisation and its discontents by Joseph Stiglitz

The masters of world finance preach austerity for others and practise hand-outs for themselves. Robin Blackburn acclaims an inside view of market meltdowns

Allen Lane, £16.99, 282pp The IMF, the World Bank and the Bretton Woods international system were put in place at the close of the Second World War according to a plan drawn up by, among others, John Maynard Keynes. The whole idea was to avoid the Thirties-style beggar-my-neighbour policies, which individual governments would be likely to follow. For three decades the system helped to sustain an extraordinary boom, while the breakdown of this system in the early Seventies ushered in three decades of slowdown and multiplying problems.

According to Joseph Stiglitz, chief economist to the World Bank from 1997 to 2000, the would-be financial regulators lost their way when they forsook their mandate and instead became enforcers of the "Washington Consensus", a doctrine formulated by the US Treasury and the IMF. This consensus upheld the free movement of capital, fiscal austerity and market liberalisation. In a readable and gripping narrative, Stiglitz explains how these policies have set the scene for a sequence of disasters that bear comparison with the wrenching dislocations of the Great Depression: notably the Asian financial meltdown of 1997-8, the failed transition to market economy in Russia and many former Soviet-bloc states, and the current "deregulation crisis".

Stiglitz was awarded the Nobel prize for economics last year, but manages to convey his ideas without recourse to equations or baffling technical terms. It helps that he was present at key events in the unfolding story. As a participant in the 1997 annual meeting of the IMF and World Bank, held in Hong Kong, he had a ringside seat as the rug was pulled from underneath the tiger economies.

He sought to avert the disaster, and suggested concerted actions to the ministers of the south-east Asian countries: "If they all imposed capital controls – controls intended to prevent the damage as the speculative money rushed out of their countries – in a coordinated way, they might be able to withstand the pressures that would undoubtedly be brought down upon them by the international community." But the ministers did not act quickly enough, and must anyway have been puzzled at this advice so much at odds with the Washington Consensus.

Stiglitz was, after all, "chief economist", appointed to assess the coherence of the policies pursued by the Bank and the Fund. The IMF response to crisis was to offer loans only to countries prepared to adopt a harsh "beggar thyself" programme to cut government expenditure and boost trade surpluses – the same package that inflicted misery on Latin America during most of the Eighties and Nineties.

Interest rates were to be raised in the hope of tempting back foreign capital and boosting the exchange rate. In south-east Asia, the Washington package provoked instant disaster rather than prolonged agony because conditions differed from Latin America. In Asia, governments were already running a budget and trade surplus at the time of crisis, but companies were heavily indebted. The combination of sky-high rates and government retrenchment bankrupted many local corporations. In countries with little social insurance, millions were thrown out of work. Meanwhile, Western investors picked up assets from distressed companies in the largest ever fire sale.

These proceedings, so contrary to the principles of economic management in the US, shocked Stiglitz. As a former adviser to Clinton, he knew well that the US Treasury was ultra careful about raising interest rates half a per cent, let alone ten or 15. He was well aware that much financial aid offered to Asian countries ended up with speculators, or else went to indemnify Western concerns against the consequences of their own earlier contributions to a financial bubble.

Stiglitz finds it curious that the IMF, preaching market disciplines to poorer countries, scrambles to assemble bail outs when the going gets rough for investors from the rich countries (a pattern which has come to be known as "socialism for bankers"). The fact that large Western institutions knew they had the backing of the IMF in making loans encouraged them to be irresponsible. It exposed Asian borrowers to risks which the lenders would otherwise have carefully considered.

The Asian crisis helped to precipitate the Russian financial collapse of 1998 and the subsequent wider roller coaster, enmeshing the US itself. In Russia, the IMF and other Western advisers had also been preaching its "one size fits all" package of fiscal austerity, high interest rates and the avoidance of devaluation, with even more disastrous results. The Russian economy was already hugely weakened by "shock therapy". Stiglitz points to a striking contrast between the dire condition of post-Communist Russia, the patient which had all the Western medicines administered to it, and the buoyant state of China, with its strict capital controls, state banks and semi-collectivist enterprises.

Stiglitz won his Nobel prize for work on how unequal access to information corrupts or destroys market rationality. His conclusions on the antisocial results of insider systems apply equally to the Russian privatisation or corporate governance at Enron. Indeed, the Washington establishment, having winked at the "loans for shares" scams in the Russian rush to privatise, now displays mock indignation at the news that its tycoons have been practicing similar shenanigans.

While Stiglitz offers a withering assessment of the intellectual justifications of the Washington Consensus, he finds that its tenets are exactly those one might expect if the material interests it served were those of Wall Street. And just as the consensus insisted on deregulation abroad, so it (albeit more cautiously) pressed for deregulation at home, with all the consequences we now see.

Stiglitz concludes this landmark book with a raft of proposals which show him to be a worthy successor to Keynes. His programme would restore the IMF and World Bank to their original purpose, to act as global regulators and protect even the largest governments from pursuing an illusory short-term interest at the expense of global welfare. For those who wish to follow up the argument, there are even informative – but not overly copious – footnotes.

Robin Blackburn's new book about the history and future of pensions, 'Banking on Death, or Investing in Life', is published by Verso