Public Policy Making in a Crisis: A Canadian Perspective

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Remarks by Kevin G. Lynch
Clerk of the Privy Council, Secretary to the Cabinet and Head of the Public Service
to The Hertie School of Governance

May 7, 2009
Berlin, Germany


Introduction

Thank you for the kind invitation to present some remarks at the Hertie School of Governance. Since its founding in 2003 in Berlin, the Hertie School has already created a well deserved international reputation for academic excellence and practical application of public policy theories.

We are now six months into the worst global financial crisis since the 1930s. What are public policy makers learning from this crisis, and more generally about public policy making in a crisis. Fareed Zakaria ruminated recently in NewsWeek (February 16, 2009) that “If President Obama is looking for smart government, there is much he, and all of us, could learn from our quiet-OK, sometimes boring–neighbour to the north”. While these remarks will attempt to make a compelling case for the importance and complexity of public policy making in crises, I can assure you they will fail utterly in dissuading anyone from the view that being boring is at least a trait of Canadian public servants.

So what I want to do today is look at the challenging environment public policy makers face, viewed from a Canadian perspective but with, I hope, more general application. To do that, I will touch on the complexities presented by globalization; the uncertainty that is present in any crisis; how the core principles of public service are key in addressing crises; and what all this tells us about the importance of strong public services going forward in both our countries.

How Globalization and Complexity Shape Crises

First, a noteworthy characteristic of many recent crises that policy makers in all our countries have confronted has been their “multilateralism”…elements of global roots, global connections or global consequences. SARS, the Asia financial meltdown of the late-1990s, terrorist threats, and climate change all shared this globalization “gene”. Moreover, the nature of the policy making responses has been shaped by this reality. Whether it is today's global financial crisis or tomorrow's next crisis, this is unlikely to change.

What's remarkable about our times is not that they are challenging or changing. That's always been the case. What's remarkable is the speed, the velocity, the acceleration of change; and the scale and scope of the challenges. Why? Globalization and technology.

The extraordinary reach of globalization has been both enabled and fuelled by technology. Globalization today is about far more than the integration of markets, or the collapsing of distance and time, or the emergence of new non-statal corporate institutions. It's about interconnections among individuals, firms, groups and nation whose complexity and pervasiveness is often underestimated or misunderstood or ignored, until it suddenly has to be deciphered and understood.

As today's challenges underscore, a central paradox of our times is that globalization's progress has not been matched by mankind's wisdom. As the Canadian Homer Dixon noted in a more benign context before the current global economic and financial crisis, “the challenges (before us) … cross the spectrum of politics, economics, technology and ecological affairs. They converge, intertwine and often seem largely beyond our ken … can we create ideas fast enough to solve the problems we've created”.

A by-product of this intersection of globalization and technology is complexity. Consider the stylized but realistic example of a Latvian or Icelandic or Scottish bank which largely ceased lending to its local business and household customers because of toxic assets crushing its balance sheets. These same toxic Icelandic assets started life as seemingly benign, but very low quality, mortgages in Iowa and Arizona and Florida. They were then bundled together, securitized and collateralized and became, through the power of statistical models, high quality structured securities, promising high returns and low risk --- the true sorcerer's gold. The global financial market place, entranced by these structured products, demanded more and more and more of them. A risk assessment of the poor quality Iowan mortgages underlying the structured securities was not done by the Icelandic mortgage manager; it was done by the bank's statistical risk model which was unbelievably sophisticated and wrong. The structured securities emperor, if anyone had looked, was naked to all but the models.

Another by-product of globalization and technology is the connected world. Technology, in collapsing time and distance, has also radically restructured patterns of communications. A prescient Canadian, Marshal McLuhan, once underscored the role the medium plays in influencing the message. With the advent of an internet based, high-speed broadband, multi-channel communications universe, we are now truly in a global 24/7 information age. Information originates from anywhere at anytime and is available everywhere, all the time. Traditional news channels --- newspapers, radio and television --- were at first supplemented by, and now risk being supplanted by, a wide variety of alternative information channels --- internet, blogs, Facebook, YouTube, Google and a list which changes endlessly.

In this age of instantaneous communications comes a demand for instantaneous responses. The 24/7 multichannel communications universe now expects 24/7 responses from governments, from public services, from business, from whomever. This, in turn, is profoundly affecting the complexity of public policy making. It raises the issue of whether the speed of policy making processes can possibly match the expectations for the speed of communications responses. And, if not, what then?

Uncertainty and Crisis

Uncertainty is another fundamental characteristic of a crisis, the civilian equivalent of the “fog of war”. Unhelpfully, in this data rich world, very few crises self-identify in advance, notwithstanding the experts who, in hindsight, had clearly “seen
it coming”. Thus, to a very real extent, job number one in crisis management is not immediate policy action but the urgency of reducing uncertainty. Public policy making in a crisis starts with the dictum of Sargent Friday…“the facts, ma'am, nothing but the facts”.

Not all crises are similar, to state the obvious. But exactly what type of crisis are policy makers dealing with? In his increasingly well read book, The Black Swan, Nassim Taleb uses the anecdote of the European certainty that all swans were white, because this accorded with enormous empirical evidence until it was completely disproved by the single observation of a black swan when Australia was discovered, to underscore the difference between data and knowledge, and the risks of extrapolating beyond the realm of the data. Translating this to understanding crises, Taleb defines a “black swan” crisis as one that is rare, has a high impact but has little prospective predictability.

Policy makers always face a trade-off in dealing with the inherent uncertainty surrounding a crisis. On the one hand, there is the urgent search for knowledge to better understand the nature of the crisis so as to better shape the policy response, and this takes time and expertise. This is always in tension with the understandable desire for action, to do something and to be seen as doing something.

Principles of Good Public Policy Making

How does all of this inform the principles of good public policy making in a crisis? First, it is useful to remind ourselves that public servants don't make policy decisions, elected government do. The job of the public service is to provide governments with analytically rigorous, professional, unbiased policy options and recommendations. A related observation is that the policy challenges of today are more complex than in years past, they are different, and they are less predictable.

Public sector policy capacity has to be world class in new areas such as globalization, security, climate change, ageing and productivity. The public service needs to have the inherent capacity and flexibility to rapidly deploy policy resources to the most important issues, and crises. Further, we need to have better frameworks for risk management in the face of uncertainty and how best to balance speed versus accuracy in responding to crises, always recognizing that information is key and the plural of anecdote is not knowledge.

A final observation is that the public service should not have a monopoly on policy research and advice. The more independent, non-governmental think thanks doing high quality, analytic policy work, the better for public policy making.

Learning from Experience: What Have Crises Taught Us?

We are now in the midst of the most serious international financial turmoil since the 1930s and the first synchronized global recession in over 60 years. Uncertainty is unprecedented because the crisis was so unpredicted, so complex, so pervasive. And yet, the Canadian financial system, in contrast to those of many other countries, has weathered the global financial meltdown relatively well and the Canadian economy, while in recession, is expected to fare relatively better than the U.S. and many other countries. Why?

Part of the answer is public policy, part is corporate governance and culture. Canadian capital requirements for financial institutions are above international standards, are higher than in other jurisdictions, and Canadian banks maintain capital buffers above these minimum requirements. Canadian financial institutions are less highly-leveraged than their international peers because we have a regulatory cap on leverage at an asset-to-capital ratio of 20-to-1. As a result, major Canadian banks have an average asset-to-capital multiple of 18 while the comparable figure for U.S. investment banks is close to 30, many European banks are well over 30 and some approaching 50.

Canada has integrated regulation of banks and insurance companies and, since large investment dealers in Canada have been bank-owned since the late 1980s, they too are regulated under the same umbrella. The Superintendent of Financial Institutions meets regularly with the largest financial institutions, and their Board of Directors, to ensure that they are governed to be sound and stable.

Further, the vast majority of Canadian mortgages are originated by banks to hold, thereby providing a strong incentive to not lend where there is a high risk of default. Government regulations impose high credit standards on the eligibility for mortgage insurance, and these were recently tightened to guard against a U.S.-style housing bubble. In short, Canadian public policy has made a difference in building, what the World Economic Forum recently called, the soundest financial system in the world, in combination with more prudent financial sector practices and strong corporate governance.

But the most recent crisis is neither our first nor our last, nor is it over. Therefore, it is worthwhile reflecting more broadly on our experiences with past crises, such as the Lebanon evacuation in 2006, SARS in 2003, the terrorist attack of September 11, 2001 and the deficit and debt challenges of the mid-1990s. While all were different, collectively they offer some useful lessons for public policy making in a crisis.

  • First, a strong public service matters. Regardless of the type of crisis, a strong, competent, flexible public service is a necessary condition for an effective public policy response by government. Hence the focus on public service renewal in Canada in this increasingly challenging global environment. While public service renewal is being driven by Canadian public service demographics and by the changing nature and complexity of our work, the objective of renewal is to have a globally excellent public service, capable of meeting the needs of tomorrow as well as of today. I'm sure this applies to Germany as well as Canada.
  • Second, policy capacity and analytics matter. While historians can debate whether history repeats itself, it certainly does inform about the future. Starting from scratch is never a good way to launch into public policy making in crisis. Hence, the value of a professional public service that can invest in policy capacity building, in developing rigorous analytic standards and in engaging in preparatory work over a wide range of future possibilities, both macro and micro. The more the world is changing, the greater the uncertainty, the more valuable are such investments.

    Similarly, solid analytic work by think tanks and others can only enrichen public understanding during crises. For example, the breadth of analytic work undertaken both within and outside government on the danger of deficits and debt took quite a while to affect the course of fiscal policy in Canada, but when crisis was lurking in the mid-1990s, this preparatory analysis proved invaluable in shaping a huge shift in public policy by both federal and provincial governments.

  • Third, networks matter. Very few crises are respectful of jurisdiction, or departmental mandates or even sovereign boundaries. To understand what is going on, to mobilize partners to respond, typically requires extensive networks that have to be built up over time, invested in, and nurtured.

    Emergency management is an excellent case in point, requiring prior scenario planning for a wide range of possible eventualities, with pre-established information sharing networks, response protocols and accountabilities. In the event of a pandemic, for example the current Influenza A virus (H1N1), these networks need to be not only federal, provincial and local, but global, and involve an extensive and complex array of front-line responders.

  • Fourth, delegation matters. No matter how good the preparation, no crisis can be fully anticipated, and no crisis ever completely replicates itself. Crisis management needs a sophisticated balance of central strategic direction and delegated tactical and operational decision making. A great case in point is the management by Transport Canada senior officials in the aftermath of 9/11 when U.S. skies were closed to all incoming international flights. There was no scenario binder for such an unexpected event; there was unbelievable uncertainty; and, there was a very real clock set by the fuel reserves of planes approaching North America. In the end, Transport Canada, working with air traffic control systems in other countries, landed 239 of these flights in Canada and redirected hundreds more safely back to Europe and Asia --- an extraordinary example of public sector crisis management.
  • Fifth, communication matters. Government communications in a crisis needs to inform the public on a regular basis, to the extent of reliable information, and to manage expectations. Neither is as easy as it sounds. The information revolution has yet to be fully understood and adopted to in the public sector.
  • Sixth, a strong balance sheet matters, something Germany well knows. Having a strong national balance sheet, the result of 10 years of fiscal surpluses, provides the federal government in Canada the capacity to act in the event of a crisis and this inherent capacity itself helps maintain confidence in the face of uncertainty. A case in point of the confidence effect was the stability of Canadian businesses and consumer confidence after the dot.com crash and terrorist attacks of 9/11 in contrast to many other countries. More recently, we have been able to use the government balance sheet to support bank lending at no fiscal cost to the Canadian taxpayer.

Conclusions

Let me conclude by looking forward as economists are wont to do. In this vein, the current financial crisis and its causes suggest there will be a fundamental restructuring of how global finance operates. Public policy making, at both the national and international level, will be part of this reshaping of the global environment. Financial structures will change, particularly in the U.S. and the U.K. Deregulation, light-touch regulation and the scope for regulatory arbitrage will come under deep scrutiny, within and across the G20 countries, as will the role and scope of international financial and development agencies.

In all this, public policy will matter, and I would argue that in the present global financial crisis, Canada is an interesting case in point. Effective regulation and sound corporate governance provided a solid foundation for the Canadian financial system in the midst of this global upheaval.

More generally, at no time has government needed a professional, non-partisan public service more than today as we face the most difficult international economic circumstances in recent history. A high performing public service is crucial as we work our way through these very uncertain times. Both Germany and Canada need public services that can respond creatively to the complex challenges of today and tomorrow.

Thank you.