Governments and Economic Development in a Globalized World - Remarks by Michel Camdessus
May 17, 199999/8 Remarks by Michel Camdessus
Managing Director of the International Monetary Fund
at the 32nd International General Meeting of
the Pacific Basin Economic Council
Hong Kong, May 17, 1999
It is a real pleasure to participate in this International General Meeting of the Pacific Basin Economic Council (PBEC). In view of the role you have played for 32 years leading the way—to use the words of President Ramos—"in the historic drive toward market liberalization", and in view of your special responsibilities in helping 25 countries to address emerging issues likely to shape the Pacific and global economies, I believe that I can perform no better service this morning than bring you up-to-date about the work governments and financial institutions are undertaking to adapt the international monetary and financial systems to the globalized world of the 21st century. I am sure that I can count on you to react to it with the most constructive suggestions for concrete steps and actions.
It is also a pleasure to return to Hong Kong, the site of the IMF/World Bank Annual Meetings in September 1997. Only one month later the crisis would hit Hong Kong—despite its remarkably strong fundamentals—with full force. These last 18 months have been most difficult. But the economy has adjusted rapidly, absorbing these shocks in accordance with the principles of the system, and the authorities have stood firm in maintaining the linked exchange rate. As Chief Executive Tung recently said, the economy will probably continue to be difficult in 1999, but I believe that policies are on the right track, and there is good prospect of recovery in the second half of this year.
The emerging markets crisis revealed deficiencies in the international financial system both on the debtor side—in the national policies and institutions of the emerging markets and developing countries—as well as on the creditor side, notably in the capacity of investors to undertake adequate risk assessment and of supervisory authorities to monitor properly their activities. The cost of it was high: the most severe worldwide crisis of the last 50 years. Was that a reason to abandon globalization with all its promise for a more prosperous world, in favor of the old models of protectionism and state intervention? There was, on the contrary, a very broad consensus for embarking on a major and immediate cooperative effort simultaneously to contain the crisis—a task now well advanced—and to reform the "architecture" of the system. This had to entail in reality a very profound change in what has been the relationship among governments, banks, and enterprises in promoting economic development during the last decade.
In essence, this reform must be based on a mature partnership between governments and market players, and a higher sense of responsibilities for the international common good. In normal times, it means establishing an arm’s-length relationship between governments and markets, neither too close nor too distant. It is a partnership that demands good governance, transparency and disclosure of information, and a respect for standards and codes of good practice that are consistent across countries. And when crisis strikes or contagion looms, it will involve efforts to find voluntary, market-based methods of bringing forth the participation of the private sector in working out solutions from which everyone will benefit in the final analysis.
In other words this crisis is obliging us all to imagine new ways in which economic dynamism and financial stability should be reconciled in the future. This is what the new architecture is all about. Let me tell you about the four domains where we see progress, and also mention those where more conceptual and practical work is no doubt still required.
There is a strong consensus for making transparency the "golden rule" of the new international financial system. On that I can be very brief, merely to underscore that it is absolutely central to the task of civilizing globalization. In fact, improving transparency lies at the heart of many elements of the debate. A lack of transparency has been found at the origin of the recurring crises in the emerging markets, and it has been a pernicious feature of the "crony capitalism" that has plagued most of the crisis countries and many more besides. More positively, the very first principles of the market economy tell us that open, competitive markets function only where transparency exists. But the world was very far removed from this. So it may seem like a very tall order to change the culture and attitudes of many decades. But in fact considerable progress is being achieved in defining new standards and establishing new practices. We are at the point now where—let me be a little impertinent—central banks no longer compete for a reputation for secrecy but for one of transparency.
A second domain where a consensus is clearly crystallizing is on the need to establish at the international level the discipline that has progressively come to prevail in domestic markets. It was time to admit, as a matter of fact, that governments had not devoted enough attention in order to secure such a civilized environment. In the international markets we were already living in the 21st century but with an absence of universally accepted rules and standards that was reminiscent of the domestic environment that prevailed at the end of the 19th century in the industrial countries. No wonder that a number of countries hesitated to expose themselves to such a risky environment.
Consequently, tremendous effort is under way to establish standards and codes of good practice at the international level that build on and offer the potential to globalize the standards that exist within the most advanced nations. New standards are being defined and existing ones refined. The IMF has been formulating standards or codes of good practice for governments with respect to data dissemination and transparency in fiscal policy and monetary and financial policies, which are already well advanced or being implemented. Standards established by other agencies on issues such as securities markets, accounting, bankruptcy law, and corporate governance are also at various stages of production, in some cases being almost ready for general implementation.
In the critical area of financial sector strengthening, the IMF and the World Bank are cooperating closely to help promote stronger financial systems, based on the internationally accepted Basle Core Principles. But there is scope for even deeper international cooperation, and the Financial Stability Forum that has just been established to encourage dialogue among the many national and international agencies will make an invaluable contribution. There is nevertheless a condition to its success—its ability to promptly associate with its work all those countries which are, or could become, active participants in international financial markets. At the outset, among its first studies will be the possible sources of vulnerability that arise from the activities of offshore centers, highly-levered financial institutions, and short-term capital flows. Essential topics indeed!
A third domain where major efforts are deployed with a particular sense of urgency and where public and private forces must join hands is in preventing and resolving crisis. This is the most complex area of the debate, and although considerable headway has been made, there is still some way to go. The focus should be on normal times—on preventing crises. Just as the public sector is being asked to adapt its culture, so too the private sector will have, I think, to increase its own transparency, to use internationally accepted standards, to promote an arm’s length relationship with government, and—as far as financial institutions are concerned—to make much more careful evaluation and management of their risks, while developing a more mature partnership with their clients. This should lead when crisis does strike, to an active contribution to their resolution. In the past two years, we have all learned from the experiences of involvement of the private sector in a number of country crises, such as Korea, Thailand, Indonesia, and Brazil. In moving forward, we need a creative approach that draws on a mature partnership between the public and private sectors.
On the public side, this effort expected from the private sector should be accompanied by powerful intervention to help contain the crisis, re-establish confidence and provide the countries with the temporary financing that they may require during the phase of adjustment and reform. You can recognize here the kind of support orchestrated by the IMF. The four countries I have just mentioned are, I think good examples of this kind of post-crisis international support. But more innovative and more promising is the IMF’s recent decision to contribute to the prevention of crisis through a new mechanism, the so-called Contingency credit Lines (CCL). Why such a new instrument? The past two years have confronted countries with situations where contagion is such that they can encounter severe external financing pressure even when they have basically sound economies. This new mechanism, approved about a month ago, represents a substantial change in the way in which the Fund interacts with its members and the global financial community; it shifts the emphasis from curative medicine to preventive medicine. Existing IMF facilities help countries that are in a weak condition and experiencing an actual balance of payments need—because of policy shortcomings or adverse external developments. By contrast, the CCL is designed to help countries that are strong—with sound macroeconomic management, strong financial systems, applying internationally recognized standards, and having established responsible relationships with their international creditors—withstand the pressure on their balance of payments that might arise from a sudden loss of confidence caused by the contagion from crises in other economies. Other initiatives are also being considered to help the orderly workouts of crises if they do occur. This could entail introduction of collective negotiation clauses in bond contracts and definition of appropriate arrangements in extreme situations for allowing a stay to be organized to help creditors to arrange orderly workouts in their mutual interest.
A fourth domain where we are actively working to establish a proper balance is in the fundamental question of the freedom of capital movements. Here we must reconcile a freedom from which many countries have benefitted so much, with the precautions needed to preserve stability. Being in Hong Kong, the center of such great financial flows, it is appropriate to reflect somewhat more on whether capital liberalization is a goal that all countries can or should pursue. The breakneck pace of development of the international financial markets during the decade preceding the Asian crisis raised questions about the appropriate approach to the liberalization of the capital account and, of course, we have learned many lessons from the emerging markets crisis that will be valuable in the period ahead.
- Should capital account liberalization be pursued at all? Well, it is happening but in a less than optimal way. The emerging markets exposed themselves to great volatility, often unintentionally, by allowing the rapid but poorly managed liberalization of short-term flows. It became too easy for banks and corporations to incur short-term debt without adequate prudential safeguards and, in many cases, they were encouraged by the implicit guarantees of long-term exchange rate pegs. So my question needs to be rephrased. Recognizing that de facto capital liberalization is under way—and without doubt potentially most beneficial—are we prepared to accept a haphazard, piecemeal and potentially volatile process, or should we try to manage the process in a way that increases economic stability and growth? This calls for a judicious approach on the part of both debtor and creditor nations. Debtor nations will need to satisfy two prerequisites: one, a sound, internally consistent macroeconomic framework; and two, a robust financial system with sound institutions and a good regulatory and supervisory framework. It is easy to imagine that these conditions cannot be met overnight in many countries. This means that creditor nations and institutions need to pay attention to assessing and managing risk. Of course it is the investor who has the primary responsibility for assessing risk. But regulators in the industrial countries need to ensure that financial institutions participating in the global financial markets are subject to appropriate safeguards.
- Should there be a formalized institutional approach to capital account liberalization? It was here in Hong Kong, at the IMF Annual Meetings in 1997, that the international community, through a statement of the Interim Committee, declared that "[it] is time to add a new chapter to the Bretton Woods agreement". The Fund’s Executive Board was invited to propose "an amendment to the Fund’s Articles of Agreement that would make the liberalization of capital movements one of the purposes of the Fund, and extend, as needed, the Fund’s jurisdiction through the establishment of carefully-defined and consistently applied obligations regarding the liberalization of such movements." It is significant that this statement was made after the crisis had begun to emerge and it is even more striking that, as the full scale of the crisis became evident, how few countries reversed direction. Although it was understandable that the crisis made the international community think twice before proceeding, I believe it is now time for momentum to be re-established. The reason is simple: as confidence returns to world markets and financial flows are starting to grow again, undoubtedly new forms of innovation will take place. It is vital that these next stages of integrating global financial markets take place within the framework of "carefully defined and consistently applied obligations" rather than accepting the risks of a return to the piecemeal approach of the past decades. We need a constructive means of helping countries that wish to access capital markets, do so in a way that protects their stability and economic security. This is the work we will try to advance this summer.
- Does it leave, for the transitional period, an appropriate role for some form of controls on capital movements? A lively debate is in progress on this. Generally, consensus is emerging that capital controls do not deal effectively with fundamental economic imbalances, but may only be useful in certain circumstances—indeed as envisaged under the IMF’s existing Articles of Agreement. Consensus also seems to be emerging on a few more points. Controls may have a place when there is the risk of a crisis, but only to allow a breathing space for other fundamental measures to take effect. What is more, controls are more effective on inflows rather than outflows and they work best when they are price-based and temporary. It would be illusory to attribute to them more merits than those of temporary expedients. Those countries that enjoyed success in using them are those which have simultaneously adopted measures of perfect orthodoxy such as stronger macroeconomic policies and/or strengthening or restructuring the banking sector. These, more than controls, were the key to the observed success.
So progressively a few features of a deeply renovated financial system are emerging as the painful lessons of the last crisis are drawn. Transparency together with the standards and rules of modernized markets should prevail. Better aware of the unacceptable costs of crisis, public and private sectors should join hands in preventing them or in resolving them in an expeditious and orderly way. Full liberalization of capital movements should be promoted in a prudent and well-sequenced fashion, taking into careful consideration the strengths and weaknesses of each country. Will that suffice to complete a credible architecture? Not by a long way, and in my judgment urgent work is still needed in at least three more areas:
First, we must add a social pillar to this architecture. The Asian crisis laid bare the surprisingly underdeveloped state of the formal social welfare systems of the countries affected. They were renowned for their attention to some aspects of social policy, such as education, and traditionally relied on family-based support systems, but when the crunch came it turned out that their social protection arrangements were decidedly inadequate. Of course, from the very start, the IMF was well aware of the potential for deteriorating employment and social conditions, and the programs were designed to utilize to the maximum possible extent the limited available resources to shelter the most vulnerable; here we could count on the active partnership of the World Bank, to whom we looked to take the leading role in helping the authorities design the structural policies and social content of the programs.
But we have all become conscious that existing mechanisms are just not enough. The Asian crisis has highlighted how important it is for a country to build up its social defenses at the same time as it builds up its economic defenses—before crisis strikes. Each country must have a social pillar in its policy framework. Equally, the stability of international economic system requires that a strong social pillar should be an integral part of the architecture. Recently, the Development Committee, a joint advisory body for the IMF and the World Bank, considered a draft paper on principles and good practices in social policy that can guide national authorities in formulating domestic social policy. It is hardly necessary to say how important it will be to actively develop such social practices, since equity, equality of opportunity, and participation of all are, and will increasingly become, key conditions for sustainable development.
Second, we must also redouble our reflection and efforts on how best to integrate into the globalized economy those developing countries that are still far from benefiting from globalization. Too many obstacles remain; too little is being done by industrial countries to facilitate this integration for instance by opening their markets or by extending official development assistance, which presently is in a dramatically declining trend. Of course, we are actively involved at this very moment in a broad effort to alleviate the debt of the highly indebted poor countries, but even if this initiative were to be successful, it would only remove one obstacle to development for a limited number of countries. The task of putting the poorest countries on a track of sustainable development by integrating them better in the new globalized world would still remain with us.
Finally, deep reflection is needed also to make sure that all institutions, including the IMF, evolve in line with the demands of the changing global economy and that all countries could express their views on the preparation of decisions of a global character that will have more and more importance in shaping their destinies. On this, the debate is only just starting .
Mr. Chairman, as you can see, the outline of international financial and economic reform that I have presented confirms what you certainly suspected, namely, that when we talk about architecture we refer only to work in progress, with some positive steps having been taken but with much still needing to be done and even to be designed. The global economic system will be in a transitional state for some time to come, and will therefore continue to face many risks. Confronting these will require a cooperative approach; consensus and partnership between the private and public sectors will be essential and with a major role for each in long-term development. After all, that is what makes the unique beauty and charm of the cathedrals of my country: they were never completed, they were utilized when still under construction, and many artists from the most diverse schools contributed to them. May your meeting be successful in providing us with many contributions to this ongoing work.