2002 Annual Meetings of the IMF and the World Bank Group
September 28, 2002
Documents Related to September 28, 2002 IMFC Meeting
Argentina and the IMF
Chile and the IMF
Paraguay and the IMF
Uruguay and the IMF
Statement by the Honorable Nicolás Eyzaguirre
I. A Vulnerable Global Economy
1. Global economic prospects continue to depend heavily on the currently less dynamic US economy. The absence of alternative engines to lead the global growth process weakens and delays the recovery, critically affecting conditions in emerging markets and developing economies in general. Consequently, policy stimulus in the advanced countries should not be withdrawn before clearer signs of recovery appear. Given that in today's environment inflationary pressures are subdued, and especially in view of the fact in some regions the challenge is deflation, monetary policy should remain supportive as the first line of defense. The medium-term fiscal framework in the US should serve to avoid further imbalances and a crowding-out effect that may end up raising interest rates. In Europe, the automatic fiscal stabilizers should be allowed to operate complemented by a strengthening of structural reforms in products and labor markets, while in Japan the reforms of the financial system and corporate sector remain critical. Unfortunately, in most emerging market economies the scope for supportive macroeconomic policies is extremely limited given the low appetite for risk and the subsequent net capital outflows affecting those economies. The pending uncertainties have been recently exacerbated by the growing Middle East tensions including the possibilities of a military conflict of unknown consequences that already has affected international oil prices.
2. After years acting as the single global growth engine the US economy has accumulated some structural imbalances that limit its chances for growth recovery at least in the near future. The US corporate sector is lowering its capital spending plans, as it is being affected by confidence shocks, an ensuing credit contraction and overcapacity in several sectors. Consumers are entering a stage of greater caution after the increase in unemployment, the bursting of the equity bubble and the common wisdom that the gains in real estate prices should have a limit. While the US economy deserves some rest and recuperation, other economies should play a more dynamic role.
3. Several smaller advanced economies have consistently implemented significant structural reforms and together with the best performers among emerging market economies have the potential of play a leading role in global growth. Unfortunately, they lack the critical mass required to pull the global economy, particular when investors are retrenching from risks. It seems increasingly unlikely that they as well as the other major advanced economies could even remain unaffected by a slowdown in the US economy, let alone make up for it. In a globalized world, most countries lean on an export-led strategy for growth, and while an increasing proportion of world exports has been directed to the US market, demand from the other major advanced economies, Japan and the major European economies, have been shrinking. These economies should accelerate their structural reform programs, --Europe particularly in product and labor markets and Japan in the financial and corporate sectors--, and maintain supportive demand policies so that they can finally make the contribution to global growth that has been expected from them for so long.
4. This weak demand environment is reflected in the growing pressures for protectionist trade measures in advanced economies. These pressures will need to be forcefully resisted through genuine attempts at achieving a more complete liberalization of global trade. In this regard we need simply point out the harm-from the perspective of balanced growth in the world economy-caused by the staggering size of resources used by developed countries for the subsidization and protection of agricultural production. Measures against protectionism include the elimination of tariff peaks and escalation as well as of other forms of price support schemes and cross-border restrictions. The growing use of trade remedy actions such as antidumping procedures as protectionist devices should also be eliminated.
5. Global linkages with the US economy are not only limited to trade, they are also financial, and while the US economy absorbed an increasing portion of world savings, investors appeared also to be more willing to take risks elsewhere. The equity market turmoil and the fall in profitability in the US appear also to have affected the investment plans of multinationals corporations all over the world and tend to lower the risk appetite of investors. This signals the risks for the global growth involved in a sudden resolution of the current account imbalances and currency misalignments, which could develop into a hasty pull back out of equity funds and further contractions of investments in emerging markets and riskier assets in general.
6. The higher generalized risk aversion and the dramatic adjustments in the level and volatility of asset prices and trading volumes are signals of a turnaround in financial markets that pose significant systemic risks if this trend continues. The declining level of corporate profitability in mature markets, and the confidence shocks that have arisen as a result of the continuous stream of accounting irregularities in some advanced economies, have generated a high level of uncertainty and contributed to the heightened risk aversion. These developments have adversely affected emerging market economies, even the healthier ones, and underscore the need for furthering the initiatives adopted to reinforce corporate governance. Effective corporate governance and enhanced financial disclosure highlight the importance of a suitable regulatory framework encompassing clear and adequate accounting and audit rules, disclosure standards and effective supervision of over-the-counter derivatives.
7. Prospects in emerging markets remain clouded by sluggish global economic growth, heightened global risk aversion and by varying degrees of contagion from the countries in crisis. Despite the continuous an unparalleled efforts at structural reforms in emerging market economies, economic growth in this asset class is dampen by the investors reluctance to further their exposure. The reversal of net capital flows to emerging markets indicates the significant risks of a long-lasting low-growth scenario for these economies. The external financing conditions impose restrictions on their policies, with many emerging economies unable to allow the automatic fiscal stabilizers to operate fully, while others have had to submit to strong pro-cyclical fiscal adjustments because of the financing constraints. Monetary easing may be also limited by the threat of a sharp currency depreciation, which in many emerging market countries poses risks for the fiscal position, for private corporations, and for the financial system.
8. Crises among emerging market economies remain a frequent occurrence,
and now they seem to have become concentrated in Latin America.
However, it should not be forgotten that emerging market crises are not
geographically defined, and while countries in regions other than Latin
America have not yet come out of crises of their own, or remain highly
vulnerable to them, some Latin American countries still maintain strong
external financial positions and have faced limited contagion.
II. The Fund and Crisis Prevention and Resolution
10. Despite all the advances in crisis prevention, surveillance, transparency, standards and codes, crises appear to be more frequent and stronger than ever. Domestic factors and policy-induced vulnerabilities have played a role in the onset of crises currently affecting a number of emerging market economies. However, it is the global environment-characterized by sluggish growth and volatile international capital flows-the critical underlying factor behind the frequency and extent of the financial crises. The IMF has an important role to play in reducing uncertainty and preserving financial stability, by strengthening its global surveillance process, and through its technical and financial support to the countries affected.
11. The promotion of a stable macroeconomic environment conducive to growth and stability for the membership at large requires addressing systemic issues and adapting the surveillance process to the evolving global economy. To be effective, surveillance should not be limited to the countries at risk and the assessment should cover all members with exposure or participation in international markets. Surveillance should consider not only the effects of policies on the originating country, but also their international repercussions. A more effective surveillance to advanced economies seems critical for global growth and stability.
12. The Fund must ensure the availability of sufficient resources to effectively respond to crises. Due to the pace of globalization in the 1990s, international transactions -including trade, current payments and reserves-have increased faster than global GDP and become more volatile. Consequently, the size of Fund resources relative to these measures has declined more than with respect to GDP. Available Fund resources should be defined by a forward-looking approach that recognizes the characteristics of the global environment and the demands on the institution. Moreover, in light of the uncertainties, a significant "prudence premium" should be considered in assessing the adequacy of the Fund's resources. There are asymmetric costs, whereby the international community would face higher costs from shortfalls of Fund resources than from an "excessive" quota base.
13. While capital markets have become more discriminating, there are consequences of contagion risk, which should be given weight in the decisions on access to Fund resources. The Fund should stand ready to mitigate regional and systemic risks, and it should aim at facilitating a cooperative equilibrium in crisis countries so that insufficient liquidity does not turn into insolvency. Recent events and, more generally, the conditions confronting emerging market countries, ultimately indicate that greater consideration for the Fund's role akin to international lender of last resort should not be ruled out.
14. We favor the notion of maintaining some constructive ambiguity regarding the level of access to financing that the Fund would be prepared to provide in exceptional cases, namely, those situations in which capital account shocks result in financing requirements that cannot be met within the normal access limits. We would underscore the importance of avoiding unnecessary restrictions on the Fund's ability to act swiftly and cooperatively to minimize the consequences of such disturbances. Maximum exposure limits should be avoided, but there should be other requirements for enlarged access, including a high probability that the debt of the member country experiencing the disturbance is sustainable, while ensuring that good prospects for regaining market access in a reasonable time horizon are maintained, and that an economic policy program with a reasonable prospect of success can be rapidly implemented.
15. Moral hazard should not be dismissed, but neither should it become the central source of concern. After the Russian and Argentine defaults and the open discussions regarding the Sovereign Debt Restructuring Mechanism (SDRM), it should be clear to the whole range of investors-from the less to the most sophisticated among them-that there are no implicit bailout guarantees. This leaves little room for "investors' moral hazard", while the shrinking capital flows to emerging market economies since the late 1990s provide little empirical support to the relevance of the moral hazard hypothesis. On the other hand, program conditionality and debt sustainability requirements, that allow for safeguarding the Fund's credibility and its resource base, also entail minimizing moral hazard on the part of country authorities. The policy-induced adjustments associated with the use of Fund resources imply social and political sacrifices that are a significant counterbalance to excessive risk. More importantly, however, the Fund is unlikely to fulfill its role of promoting growth and financial stability if it seeks to tackle moral hazard in its credit operations by limiting the overall size of its financial resources.
16. Reducing the social and economic consequences of sovereign debt restructuring episodes constitutes a worthy objective for the SDRM, a mechanism to be used in the exceptional cases that debt becomes unsustainable. We remain of the opinion that the statutory and the contractual approaches are complementary elements to be refined in an effort to provide a feasible mechanism for the resolution for sovereign debt crises, and we believe that the sovereign debtor is the only party cognizant of the full costs of exercising the restructuring option and should have the exclusive authority to activate the mechanism. At the same time, account should be taken of the need for continuing support from the Fund during the restructuring process-in the context of its lending into arrears policy-so as to facilitate an orderly economic adjustment and debt restructuring. Regarding the scope of the debt to be covered under the SDRM, the differences among creditors point to the desirability of ensuring proper differentiation, and the framework should envisage sufficient flexibility for the sovereign debtor to determine the categories of debt to be excluded from the mechanism.
17. We should stress that the main emphasis of the Fund's work in this area should continue to be on crisis prevention rather than on crisis resolution, and that the SDRM should not be viewed as synonymous with crisis resolution. Traditional Fund financing and adjustment have proven to be effective in solving crises across all continents.
III. Other Fund Policies
The Fund and Poverty Reduction
18. Worldwide efforts to reduce poverty in middle-income and low-income developing countries are facing a new obstacle with the slowdown in economic activity in the advanced economies. Thus, countries and the international community should work harder to go back to an adequate path to achieve the UN's Millennium Development Goals, especially to halve poverty by 2015. Last March the Monterrey Consensus adopted the lessons learned from recent experiences in a wide range of countries, regarding the need to achieve measurable results in poverty reduction, with mutual responsibility and accountability for both developed and developing countries, increasing trade opportunities, implementing sound policies and institutions, and scaling up effective development aid.
19. Despite the global economic slowdown and the recent significant decline in primary commodity prices, the debt-service ratios were reduced substantially for almost all Highly Indebted Poor Countries (HIPCs) in 2001. Still, the greatest challenge for the international community is to provide assistance for debt sustainability, in the face of recurrent and adverse shocks affecting HIPCs. Continuous efforts by the Fund and the Bank in support of growth and poverty reduction in these countries remain critical. Notwithstanding the substantial relief provided under the HIPC Initiative, its magnitude is still moderate when compared with the income losses associated with distortions in the trading system. It is to be expected that during the Doha round significant advances in the area of trade liberalization will enhance market access by developing countries' exports.
20. A more pro-poor and pro-growth environment requires overcoming impediments to the efficient use of budgetary resources in low- income countries, including improvements in budget execution to enhance productivity. In our view, this reaffirms the importance not only of political will, but also of adequate financial and technical assistance resources to narrow the institutional and administrative gaps that breed insufficient accountability and inefficiency in budgetary management.
Combating Money Laundering and the Financing of Terrorism
21. Money laundering, the financing of terrorism, and other criminal activities that weaken institutions and undermine social cohesion call for a firm and coordinated international response. The Fund has an important role to play, but we would like to reiterate our stance on this subject, namely, that the Fund's involvement should be restricted to its core areas of expertise. In addition, progress in the collaboration with the FATF on developing a global standard should be geared toward ensuring the uniform, cooperative, and voluntary nature of the ROSC process. In particular, the publication of the report should be voluntary, as is customary in ROSC exercises. All the countries of our constituency have reported to the Fund their progress in the implementation of measures taken to counter the financing of terrorism.
IV. On the Southern Cone Countries
22. The effects of the global slowdown on external demand, terms of trade and financing, as well as the spillover from the regional turmoil have resulted in a very difficult environment for the countries of our constituency, prompting some of them to seek financial and technical support from the IMF to reestablish the conditions for sustained growth. Argentina is entering an unprecedented fifth year of recession and continues to be excluded from international markets. After a severe depression, macroeconomic conditions have stabilized --seasonally adjusted industrial production has bottomed-out and financial indicators are showing less volatility. But only with full restoration of the domestic credit and payments system a firmer recovery would be secured serving to attenuate the risks of further political and social deterioration. The Fund should maintain an active engagement with the authorities to define ways to regain financial stability, and conclude expeditiously an economic program that can be supported by a stand-by. Uruguay obtained decisive support form the Fund in the form of an arrangement with exceptional access, which has enabled that country to correct a critical lack of liquidity in the banking system and to stop a massive withdrawal of deposits. The arrangement has helped to restore market confidence; sustained and consistent implementation should now help the economic recovery while preserving macroeconomic stability and ensuring debt sustainability. Paraguay, which has also been vulnerable to adverse developments in the region-in particular, its financial sector-is seeking Fund support under a stand-by arrangement and is awaiting passage of legislation included among the prior actions under the program.
23. Chile has managed to weather the external shocks well. Export volumes continue growing at fast rates, and GDP, capital formation, and even employment are expanding, albeit more slowly than in the 1990s. This compares well with Chile's experience in earlier global slowdowns, and with the effects of the present slowdown on other open economies. Sound macroeconomic policies and financial system strength, and Chile's broad diversification of its export markets, have helped reduce its vulnerability to shocks, especially to those that are country- or region-specific. But an open economy cannot escape the effects of a global slowdown or a generalized aversion to emerging market risks. As a result, GDP growth was 2.8 percent in 2001, much lower than the average growth of the 1990s, and a somewhat lower rate is expected for 2002 as the optimistic view of a relatively rapid recovery has been dampened by the protracted weakness of the global economy, international financial turmoil, and regional instability. Growth is expected to accelerate in 2003, supported mostly by domestic factors.
24. Domestic demand has been depressed by external factors, including worsening terms of trade, weaker investor confidence, diminished net external financing, and, to some extent, by the wealth effect created by the real depreciation of the peso. Domestic factors, including an easier monetary policy and the full operation of the automatic fiscal stabilizers, are supporting domestic demand. Moreover, the relative price effect of the peso depreciation is helping to sustain economic activity through expanding export volumes and contracting imports. To counter shocks and stimulate recovery, Chile has used a rule-based policy framework, including an explicit fiscal target, inflation targeting, and a floating exchange rate system, while moving forward with the structural and social reform programs.
25. Chile's fiscal policy is based on an explicit target for the central government structural balance, set at a surplus of 1 percent of GDP. This rule-based fiscal policy has increased the confidence of the financial markets, giving Chile the lowest sovereign spread in the region and one of the lowest among all emerging market economies. The benefits of this reduced financing cost accrue also to private investment, and this broader effect of fiscal consolidation on financing costs and aggregate demand is deemed more significant than that of a temporary fiscal expansion. To respond to the slowdown of activity and the higher unemployment rate, the composition of public spending has been modified to accelerate labor-intensive public investment projects and implement a program of employment subsidies.
26. Monetary policy is based on a symmetric target range for inflation. The target has been met continuously and presently inflation is at the lower boundary, allowing for a supportive stance of monetary policy. The central bank continues to foster the development of a financial market for peso instruments, including deepening the market for central bank peso notes, and it has extended to five years the longer end of the maturity range, while keeping at twenty years that of the CPI-indexed instruments. The recent first issue of five-year peso notes was a big success with an annual yield of 5.8 percent, compared to a 2.8 percent yield in inflation-adjusted instruments of the same maturity; this points to implicit inflationary expectations for the next five years fully in line with the central bank's annual inflation target, 3 percent.
27. The floating of the peso is an essential element of Chile's policy framework, and interventions in the currency market are reserved for exceptional circumstances. The volatility and strong correlation with regional currencies displayed by the peso at times of financial turmoil do not represent fundamentals. The fundamentals for the Chilean peso remain strong, based on sustained productivity and export volume growth, a low current account deficit and a strong liquidity position. Net international reserves remain comfortably high, hovering around US$15 billion, equivalent to more than two times Chile's short-term external debt at residual maturity.
28. Progress in structural reforms is continuing. The complete elimination of all remaining restrictions on foreign exchange operations and the continued efforts to develop an external market for peso-denominated instruments have been complemented by the subsequent completion of the first phase of the capital market reform, including increasing scope for voluntary savings, the elimination of the capital gains tax on certain trades, and the reduction of the tax rate on interest receipts for non-resident investors. In addition, several initiatives have been adopted to increase the flexibility of the operations of institutional investors. The single external tariff rate will reach 6 percent in about three months, without quota limits; a free trade agreement has been concluded with the European Union, and another agreement is being negotiated with the United States. Discussions have been held with private sector representatives on a broad agenda for promoting growth and increasing efficiency. The main goals are to further promote international integration, to foster the development of new segments of the local capital market, to improve competition and the resolution of economic disputes, to increase labor market flexibility, and to improve the incentives created by the regulations of key sectors.
29. A far-reaching social program seeks to complement economic growth in the fight against poverty. In education, the government's efforts to create equal opportunities have been directed at increasing the access to financing for university education, under a program that seeks to increase access to private bank lending at regular market rates by providing guarantees that are linked to conditions of career advancement. A new health initiative will provide a wide coverage health plan aimed at giving universal access to a carefully defined set of essential medical services under a new scheme that carries markedly improved incentives for public health providers.
30. All of these are significant steps forward indicating that Chile continues to make progress in implementing policies aimed at fostering stability and stimulating growth, and showing that the prolongation of the present period of sluggish growth is mostly the result of continuing global and regional difficulties that eventually will be overcome.