The global economy: still in crisis? -- Remarks by Michel Camdessus
November 25, 199898/24
As prepared for delivery
(Delivered in Spanish)
Managing Director of the International Monetary Fund
at the International Financial Congress: Finantia ’98
Madrid, November 25, 1998
It is my great pleasure to be with you today. With the birth of the euro, Europe—or more accurately the inaugural participants in the EMU—stands on the verge of a great step forward in international cooperation. For the first time in history, a group of major nation states are voluntarily surrendering one of the most cherished symbols of nationhood, their currencies: not because the individual currencies have been debased, but because of the mutual benefit that they perceive will result. An entirely new common currency is being created, one that transcends the nation state, having as its foundation consensus on common institutions, economic convergence, and a mutual understanding on policies. This is indeed a major event in global economic evolution, and it is great to have Spain as part of it.
At the beginning of the twentieth century, national economies were already extensively linked through trade and capital flows. But, the first half of this century was marred by a retreat into isolationism, autarky and global conflict. The second half of the twentieth century has been marked by the effort to regain, indeed to extend to all nations, open trading, payments and capital arrangements. As the century draws to a close, indeed we find that substantial globalization has again been achieved, financial markets have become far more integrated, and the need for consistency and predictability in policymaking has increased. The world has long abandoned the gold standard as a foundation for the functioning of the global economy. Instead, we may think of a "policy standard" that creates confidence through the robustness of economic institutions and policies.
On the eve of this historic launch of the euro, in what condition do we find the global economy? In what condition is the "policy standard" around the world? Six weeks ago, when the economic and financial leaders of the world gathered for the Annual Meetings of the IMF and the World Bank, a sense of imminent crisis pervaded the occasion. To many commentators—often very vocal—it seemed that the Asian crisis would never end. Russia’s unilateral action in rescheduling its debt had shaken the financial markets severely,precipitating fears that other large debtors might follow suit. Indeed, contagion threatened to spread to other major emerging markets, especially in Latin America, which had weathered the first wave of crisis in 1997. Concerns remained high over the state of the Japanese economy, slipping deeper into recession while domestic banking reform was making little progress. And even in the most robust economy of all, the United States, suddenly the authorities were confronted with having to avert the collapse of a highly-leveraged hedge fund, a player with extensive exposure to the international financial markets.
In these circumstances, I felt obliged, in my address at the Annual Meetings, to observe that this was not 1928. Global recession could be averted, given the right policies and cooperative action. And today, that assertion could be restated even more confidently, since the chances of avoiding recession on a global scale have improved, even though it seems unlikely that we shall see a rapid upturn in global growth from this year’s probable outturn of about 2 percent. Yet at those same meetings, I asserted without equivocation, that we faced a global crisis, a crisis of the international financial system, some elements of which have not been sufficiently adapted to keep pace with the evolution of the markets in recent years.
Within just a few weeks, the expectations of many market participants seem to have shifted strongly. Now it seems that a sense of greater calm has returned to the markets, even if the earlier ebullience has been replaced by a more cautious attitude among many participants.
Were our concerns in October about global crisis too strong? Was it much ado about nothing? Not at all. It is true that owing to a number of encouraging developments in the weeks since the Annual Meetings, the immediate downside risks have eased, but clearly they have not dissipated. If the immediate risk of recession is less threatening, the international community has gained an invaluable breathing space, an opportunity to press ahead with the longer term reforms to the global financial system that need to be taken. And it has begun to do so.
In sum, the symptoms have abated and the underlying malaise is now better understood—and recognized for its severity—but the treatment is only just beginning. Let us reflect further on events in the past few weeks, the state of the global economy, and the steps that need to be taken toward longer term reform of the global financial system. I shall identify four positive developments that represent important progress in just one month: actions by the industrial countries to preserve global economic stability, developments in the emerging markets, progress in developing an agenda for international financial reform, and the strengthening of the IMF’s financial position.
First, the industrial countries’ policy actions have been consistent with the assessment—that we strongly endorse—that the balance of risks had moved away from inflation. In North America, short-term interest rates have been reduced to ease liquidity concerns, and in Europe short-term rates have moved down in several countries. In the prospective euro area, the convergence of rates toward those prevailing in the core countries is reducing the average for the area as a whole. None of these economies has been immune from the effects of the global crisis. And no two countries are being affected in exactly the same way. All relevant authorities, therefore, will need to keep developments, both at home and abroad, under careful review in the period ahead, and to act flexibly and promptly to ensure that economic expansion is not derailed. In Japan, the authorities have announced a new package of fiscal measures to stimulate domestic demand and have passed important legislation to address the banking system problems. These are very welcome developments, clearly moves in the right direction. Both initiatives will have to be pursued with vigor and, as necessary, reinforced by further measures to ensure a return to robust growth for Japan, and, in turn, to contribute to the recovery elsewhere in Asia.
Second, in recent weeks, the overall balance of news from the emerging markets has become more positive. The most prominent event has been Brazil’s determined efforts to forestall crisis by initiating a strong policy program which led to the successful completion of negotiations with the IMF a few days ago. The courageous three-year program of economic and financial reform includes substantial up-front adjustment. This augurs well for its ability to withstand the current turbulence and to strengthen prospects for future growth. Our response has been to organize an exceptional package of financial support totaling $41 billion, three-fourths of which will be available for disbursement in the next twelve months, if needed. We should also look for universal commitments from domestic and international creditors. With this agreement, the outlook for the whole Latin American region and for emerging markets everywhere has brightened considerably.
To those glib commentators, those prophets of doom who chronicle the imminent collapse of the Brazilian and Latin American financial system, I would say again what I have said all along: the Latin American domino will not fall. This requires commitment from all sides. You have seen it from the Brazilian authorities. You have seen it from the IMF and the international community. To those who have prospered and stand to prosper again, I appeal to their sense of responsibility, and to their experience, which amply demonstrates that success is not founded on a short-term perspective. Take the long view! We should all work together so that it can be said that in Brazil and Latin America, the crisis in the international financial system was brought under control.
Elsewhere in Latin America, the news is more tragic. The most distressing development in recent weeks has been a crisis of a different sort—the devastation wrought upon the Central American region by hurricane Mitch. During my visit there last week, I was overwhelmed by the extent of the devastation to the countries, especially to Honduras and Nicaragua, and at the same time deeply impressed by the efforts of the people, the organizations, the authorities, to rebuild. The rest of the world should recognize this spirit of self-help, by extending support in every possible way, especially through new aid flows, and providing as much debt relief as possible. It will be essential that this assistance is sustained, to ensure that the initial surge of sympathy does not, as too often happens, lapse into indifference.
What is the situation for the emerging market economies that were struck by crisis earlier on? In Korea and Thailand, for some time the financial indicators—appreciating exchange rates, falling interest rates, and very strong reserves—have been signaling that a turning point in the countries’ performance is approaching, and confidence is rising that a recovery could begin during 1999. The Philippines, by its prompt policy response to fortify the gains made from programs supported by the IMF over the years, has avoided the worst effects of the crisis suffered by its neighbors. Even Indonesia, where the political and social repercussions of the crisis have been more severe and prolonged than elsewhere, has been following a path to recovery quite similar to that of its East Asian neighbors since mid-1998. Obviously recent civil strife in Indonesia has raised new concerns, but if stability is restored, there is every prospect of continued improvement in the economy. In all these countries, the key to sustainable longer-term growth lies in determined implementation of structural reforms.
Throughout the world, most other emerging markets have responded constructively to the turbulence, taking steps to maintain or regain access to international markets by adapting their policy stance. A most encouraging feature of the response to date has been that, with almost no exception, countries have chosen not to retreat behind protectionist barriers nor have they rolled back the measures of liberalization already undertaken. This has been especially visible in Latin America, but also in China and many other Asian countries.
Turning to Russia, let us hope that, in the near future, it will provide the world with convincing evidence of strong efforts to address its critical situation. Its most immediate challenge is to take major, credible actions on fiscal policy and tax collection to move the budget to a clearly sustainable position. At the same time, the prospects for renewed growth will be assured only if the authorities persevere with market-oriented reforms and resist the temptation to try to stimulate the economy through direct government intervention. We will not abandon Russia. We are fully prepared to work with the authorities to develop a convincing package of policies for stabilization and renewed reform. But Russia must first be willing to help itself.
The international community has contributed to bolstering confidence in the emerging markets by their contributions to the financing packages put together by the Fund, most notably in Brazil. Japan, through the "Miyazawa Initiative" to provide financial support to Asian countries in crisis, will make an important impact on the region’s recovery. The actions of Spain itself also deserve commendation. The Spanish authorities have shown their willingness to participate in—indeed to spearhead—initiatives to provide financial support to Latin America. This...well, why not call it the "Rato Initiative"...?
If the balance of news from the emerging markets is positive, then it enables us to reflect on that other, continuing crisis: that of the poorest countries. Many developing and transition economies in Africa, Asia, and Latin America have been making determined efforts for several years to reform their economies, to implement sound economic management, and to integrate with the global economy. It is unfortunate that, just as their efforts were beginning to succeed, they have been confronted with a severe deterioration in the external economic environment—lower capital flows, falling commodity prices, and weaker export demand. Instead of being rewarded with increasing capital inflows, their external environment has become harsher, and they are faced with the prospect of further policy adjustments. In such circumstances, it is essential that these countries should be able to rely on support from the countries that are least affected by crisis. As a limited example, I hope that the donor community will join us in an initiative to provide additional bilateral and multilateral assistance to six low-income transition economies severely hit by the Russian crisis. More generally, in the coming weeks, it will be important to strengthen our efforts to persuade the donors of the urgent need to provide financing for the IMF’s concessional facility (the ESAF) and initiative for debt relief (HIPC). And more generally still, I wish to underscore my view that it is high time for the industrial countries to reconsider their long-term retreat from the UN target for ODA of 0.7 percent of GDP. By last year it was less than one-third of that level, a mere 0.22 percent of GDP, its lowest level in half a century.
The third major development of the past few weeks has been the progress toward an agenda for international financial and monetary reform, together with the emergence of a clearer sense of direction from the international community as a whole, and from the major industrial countries in particular. For many months, we have been talking in metaphors about the new architecture of the international monetary system. Let me speak in plain language: we are talking about the reform of institutions, policies, and practices to build a more robust, global financial system. Our goals must be:
- to promote the more orderly working of the international monetary and financial system;
- to minimize the risk that systemic crisis will recur; and
- to ensure that, when isolated crises do happen, we have early warning, effective policy tools, adequate resources, and broad support to help countries withstand difficult external conditions.
In short, we must begin to correct the fundamental weaknesses the present crisis has revealed.
After many months of debate in several forums, the agenda for reform was given focus and substance in the communiqué of the Interim Committee, the IMF’s ministerial level advisory body. Shortly afterwards, the leading industrial countries, the G-7, in unprecedented statements—one by their heads of government and the other by their ministers of finance and central bank governors—expressed their determination to lead by example in a number of critical areas confronting the global system, and their desire to see the agenda moved forward by pertinent international organizations, with a key role for the IMF.
The agenda is challenging in both its breadth and complexity. Its premise is that significant development and integration of the international financial markets has already taken place and has contributed to higher investment and stronger growth in many countries. But this integration has not always taken place in the most orderly or optimal fashion. We need to pursue far more resolutely the goal of an integrated financial system based on stable economic policies, sound national financial systems, open capital accounts, transparent behavior by market participants, and equitable socioeconomic policies. This adapted system would bring together the roles, rights, and responsibilities of the different constituents of the global economy: governments, citizens, private corporations—especially financial institutions—and international organizations. Needless to say, this is a task that exceeds the capability of any single institution or government, and we in the IMF will be working with national governments, the World Bank, the OECD, the BIS, and other specialized agencies and organizations to bring about the necessary changes.
I shall not elaborate the issues today. Let it suffice to recap seven broad principles that are being pursued:
- the development and adoption of standards and codes of good practice at the international level similar to those that already prevail at the national level in many countries;
- the pursuit of the golden rule of transparency for governments, the private sector—especially financial institutions—and international financial institutions such as the IMF;
- the liberalization of the capital account in an orderly fashion;
- the reform of domestic financial systems, since a sound global financial system will require sound and resilient national systems;
- the search for market-based mechanisms that would involve the private sector in resolving and forestalling crises;
- the formulation of equitable social policies and support for the most vulnerable; and
- the adaptation of the international institutions, especially the IMF.
Let me expand very briefly on the very last of these: As you know well, the IMF itself has a central role in the global economic and financial system. If the global system is to be reformed, then the IMF too should be adapted and equipped to carry out its mandate. Over the years the IMF has been called upon to assume an ever-increasing range of responsibilities. To perform these responsibilities, we need appropriate authority and adequate resources. And the IMF should reciprocate through an acceptable level of political accountability and transparency. This is at the heart of the adaptation that we will continue to pursue in the IMF.
This brings me to the fourth important positive development of recent weeks. In early November, the U.S. government took the necessary decision to ratify its contribution to the increase in the IMF’s quota, our de facto capital stock, and I am now optimistic that, with this major hurdle behind us, it will be possible to finalize the quota increase quickly. Also, within the past few days, the New Arrangements to Borrow, of which Spain is a member, have come into effect and will be initialized for Brazil. These two essential steps represent a highly significant strengthening in the financial position of the Fund, providing the resources needed for us to help countries prevent or react to crises.
In concluding, let me observe that we may be hearing sighs of relief from some quarters that the worst of the current crisis may be over. For the time being this may be true, but we should not allow a false sense of security to develop. The present calm is not accidental but results from well-considered policy actions by governments around the world. We cannot afford to miss this opportunity to press ahead with the complex longer term task of reforming the global financial system. Only in this way can we enhance the prospects for extending the benefits of globalization to a far wider group of nations and people.