But even on foreign currency borrowing, a country may find that the spread of the interest rate at which it can borrow over the interest rate charged to "safe" countries, such as the United States, can reach extremely high levels. And where that interest rate is markedly higher than the growth rate of the economy, the debt burden rapidly becomes unsustainable unless the interest rate can be brought down quickly. Before the Russian default and devaluation of 1998, the average spread on emerging market sovereign debt was around 500 basis points, in itself a sizeable addition to the burden of borrowing in international capital markets. That spread then rose sharply to levels of between 1000 and 1500 basis points. At these levels debt burdens were clearly unsustainable. Since then, macroeconomic reform in many of the affected countries, with the help and support of the IMF, has reduced average spreads to a range of between 600 and 800 basis points, although there has been a further rise recently following the difficulties in Turkey and Argentina. Emerging market spreads are currently around 900 basis points over interest rates on US Treasury bonds. It is not easy to reconcile spreads at this level with the fact that sovereign debt defaults on bonds are running at historically low levels. In part, the low level of defaults may reflect the increase in the number of exceptionally large loans made by the IMF in recent years. So what does account for the high level of emerging market spreads?
The vulnerability of countries to financial crises when private capital is freely mobile was uppermost in the mind of officials then, and has recently returned to prominence in the wake of recent crises. Capital flows do, however, bring real economic benefits. They enable savings from around the world to move to those countries with the most profitable investment opportunities, benefiting lenders and borrowers alike. And such capital flows also transfer knowledge and expertise. The most important task of any financial system is to guide the allocation of scarce capital. As Larry Summers, the former US Treasury Secretary, said earlier this year, "If you are looking for reasons why some countries succeed and why other countries do not succeed in the new global economy, a very large part of it goes to the greater success of the successful countries in channelling capital into the right places, and then making sure that it is used in a disciplined way." At Bretton Woods it was thought that post-war reconstruction could be financed by capital provided by the new World Bank, the twin of the International Monetary Fund. Hence it would be possible to finance reconstruction from long-term investment supplied by official institutions, without the necessity of allowing free movement of private capital that might raise the problem of the "impossible trinity". Soon, however, the demand for capital imports exceeded the ability of international institutions to supply loans. Private capital markets came into their own.