The Changing Role of the IMF in Asia and the Global Economy, Speech by Rodrigo de Rato, Managing Director of the International Monetary Fund
June 13, 2006Speech by Rodrigo de Rato, Managing Director
International Monetary Fund
At the National Press Club
June 13, 2006
As Prepared for Delivery
1. Thank you very much. It's a pleasure to be with you here today. I would especially like to thank the National Press Club for hosting this event, and Kenneth Randall for that very kind introduction.
2. We live in times of change. [Anyone who stayed up late to watch the end of the World Cup match between Australia and Japan last night can tell you that events and emotions can change very rapidly. A great game.] And in recent weeks we have witnessed how economies and financial markets are affected by change in a globalized environment. Today, I would like to talk about the role of the International Monetary Fund in supporting global economic growth and stability, and about some changes I've proposed to ensure that the Fund continues to be responsive to the changing needs of our membership. I will also talk a bit about what is going on in the global economy, the challenges facing the Asia and Pacific region, and about Australia's role in the world, in Asia, and in the Fund.
3. This is an exciting time for the Fund. We are in the process of implementing a new Medium-Term Strategy, with the aim of adapting the institution to help our members deal with the challenges of 21st century globalization. These include issues like greatly increased capital flows which permit current account payments imbalances on an unprecedented scale; integrated financial markets that are both more complex and subject to more rapid change and development than in the past, and the emergence of new economic powers. These developments give rise to great opportunities but also to serious challenges. I believe that if the Fund is to remain relevant to its members, including those in Asia, both its work and its governance structure must be adapted to these new realities.
4. To set the stage, I will begin with a bit of background on the International Monetary Fund. The Fund is a unique, global institution. Almost every country in the world is a member: currently 184 countries with 98 percent of the world's population. Our tasks are to foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth, and reduce poverty.
5. One of the most important functions the Fund performs is its surveillance of the international monetary system and of the global economy. By surveillance I mean both monitoring of the global economy and the Fund's discussions—consultations—with individual members on their economies. The IMF is a unique global institution, because every country's policies are assessed by an independent staff, and are subject to peer review by an Executive Board representing all of the membership. In addition, building on the analysis of individual countries, the Fund makes an objective assessment of the global economy and publishes its assessment twice a year in our World Economic Outlook.
6. At the moment, the global economy is doing well. We expect global growth to be close to 5 percent in 2006, the third consecutive year for global growth to be noticeably above the historical trend. Growth is also more broad-based than in the past: the U.S. and emerging Asia, especially China, remain the key drivers of the current global expansion, but the recoveries in Japan and the euro area are strengthening. A few months ago, we might have said that this is as good as it gets.
7. But perhaps it was too good to be true. Downside risks have clearly increased, as evidenced by increased financial market concerns. And although what we have seen so far is a fairly modest correction of previous increases in asset prices, there is evidence of heightened risk aversion, as investors reassess prospects for liquidity, inflation and growth. In the face of rising inflationary expectations and concerns that higher interest rates may choke off growth, the balancing act that central banks around the world must undertake has become more difficult. Governments can make their task easier by addressing some of the risks in the global economy, and the Fund can help them.
8. Some of the risks to the global economy are obvious—for example, high and volatile oil prices; and the small but very serious risk of an avian flu pandemic. The Fund is working with its members on these issues. To combat the risk that high and volatile oil prices will adversely affect global growth and inflation, we are encouraging sound macroeconomic management and polices that promote a more stable oil market and a better balance between supply and demand. On avian flu, we are working within our areas of expertise: helping our members to prepare business continuity plans, especially for their financial sectors, so that financial systems will continue to function properly in the event of a major public health problem.
9. But more work is needed to address a third major risk, global payments imbalances. The most obvious signs of these payments imbalances are a large deficit in the current account of the balance of payments of the United States—that is, the United States will depend on foreign savings to the extent of almost 6½ percent of its GDP in 2006—and large surpluses in the external accounts of certain other countries. These include oil exporting countries, Japan and some of the major Asian emerging market countries, especially China. Of course, Australia also has a large current account deficit—about the same size as that of the United States as a share of GDP—but there are some important differences between the U.S. and Australian deficits. First, Australia has a budget surplus, so there are not "twin deficits," as there are in the United States. Second, Australia's external deficit reflects high investment, rather than inadequate domestic saving, and investment is especially strong in the resources sector, which boosts prospects for future exports.
10. The problem is that the imbalances between the United States and the rest of the world are not sustainable. American consumers cannot support demand in the rest of the world indefinitely. And other countries will not continue to finance American consumption indefinitely. Actions to bring about a gradual reduction in imbalances are needed. The risk is that if nothing is done, imbalances will not be reduced gradually, but suddenly, and in a disruptive way. For example, there could be an abrupt fall in the rate of consumption growth in the United States, perhaps triggered by a slowing housing market, leaving countries dependent on exports with inadequate demand. Or a disorderly adjustment might be triggered by developments in financial markets. Recent changes in exchange rates are in the right direction to help aid the adjustment process and, so far, have been orderly. But if investors become suddenly unwilling to hold U.S. financial assets at prevailing exchange rates and interest rates, this could lead to an abrupt depreciation of the U.S. dollar and increases in U.S. interest rates. This could cause global financial market disruptions as well as a downturn.
11. The problem is a global one, but it has the potential to affect Asian countries profoundly. Either a global downturn or financial market disruptions could affect Asian emerging markets, which remain heavily dependent on exports, and Australia, with its open, trading economy, very seriously. For the world, for the region, and for this country, this is a problem that needs to be addressed.
12. There is now increasing agreement on what needs to be done to reduce global imbalances. Most policy makers around the world agree that what is needed is fiscal adjustment and measures to stimulate private saving in the United States, further exchange rate appreciation and measures to stimulate domestic demand in some countries in emerging Asia, and structural reforms to stimulate demand and improve productivity in the non-tradeables sector in Europe and Japan. But so far this consensus has not been reflected in action.
13. I believe that the Fund can help. As a key element of the Medium-Term Strategy that I mentioned at the outset, I have proposed a new tool to supplement the Fund's surveillance of the global economy: multilateral consultations, in which particular issues of global or regional significance will be taken up comprehensively and collectively with some members and, where relevant, with entities formed by groups of members.
14. I have now proposed that our first multilateral consultation focus on narrowing global payments imbalances while maintaining robust global growth. To this end, the Fund has now asked a number of countries to come together to discuss the issue. In proposing the group of countries, we have tried to make the group sufficiently large in economic size that it can make a real difference to world economic prospects, but also, crucially, sufficiently small in number to be able to engage in free and frank debate. I am happy to report that China, the euro area, Japan, Saudi Arabia, and the United States have agreed to participate. Some of these countries have large current account deficits or surpluses; and together the participants represent a very large share of world output. By cooperative actions they can play a major role in producing an orderly unwinding of global imbalances and go a long way toward sustaining world growth as demand and saving patterns adjust.
15. The multilateral consultation on global payments imbalances will take place during the remainder of 2006, beginning with staff discussions with each participant during the next few weeks, followed by multilateral meetings with all of the parties involved, both at the technical level and with senior policy makers. All other members of the Fund will be involved in the process through the Fund's Executive Board and eventually the International Monetary and Financial Committee (the IMFC), which provides guidance for the Fund at the ministerial level. I expect that the discussions will focus primarily on how we can help make action happen in several countries together. The process will require a flexible and informal approach on our part, and the involvement and commitment of high-level policy makers on the part of the participants. There is a lot of work to be done, and it will take time: global imbalances did not build up overnight, and will not be solved in one shot. But I am confident that we can make progress on resolving this vital issue.
16. Let me now talk about a few other areas where work is underway as part of the Medium-Term Strategy to improve the services we can offer to our members, and also give some examples of the effects of this on the Fund's work and role in Asia and the Pacific.
17. One change that we are considering is adding a new instrument to our toolkit for lending to emerging market countries. One aspect of financial globalization is that the integration of capital markets has helped to allocate savings and investment more efficiently, but it has also increased the risks from volatile capital flows and financial contagion. This leaves economies around the world, including in Asia, with the challenges of reducing their vulnerability to large and volatile capital flows and avoiding future crises. The first line of defense against crises must be a sound macroeconomic framework, including appropriate monetary and fiscal policies. Asian countries have made great progress on this, especially in making policy frameworks more flexible, though more work is needed in some countries—for example making fuller use of flexible exchange rate arrangements, strengthening the financial sector, and enhancing corporate governance. These countries have also built up their cushion of foreign exchange reserves in three complementary layers—nationally; through regional arrangements like the Chiang Mai Initiative; and through their access to support from global institutions like the IMF. Indeed, the IMF has a key role to play in helping these member countries optimize the contribution from all three levels of these reserve mechanisms.
18. But there are also actions that the Fund can take. I want to make sure that when financial market conditions worsen, which they will eventually, the services we offer to our members, including members in Asia, are sufficiently useful that they will come to us for support if they need to. For this reason, I have proposed to the Fund's Executive Board that we develop a new instrument to provide financing to emerging market countries that have strong fundamentals but remain vulnerable to shocks. The instrument would be designed to help members avoid crises and to respond to crises if they do occur. To be more attractive than previous approaches, the instrument would need to provide for more automatic drawings for programs that are on track, and provide more finance up front. Conditions would be narrowly focused on policies to maintain macroeconomic stability and reduce vulnerabilities.
19. The Fund also has an important role to play in low-income countries. There are many faces of poverty around the world, but also common problems and common approaches to dealing with them. In the Pacific islands, where Australia plays such an important and constructive role, there are significant challenges from poverty and low growth, on which the IMF can bring to bear its worldwide experience.
20. The Fund must tailor its approach to the needs of individual members, but there are some common themes that have emerged from our work on low-income countries. We have learned that the most effective way that the Fund can help low-income countries achieve these goals is by focusing on policies and economic institutions that are critical to economic and financial stability and growth and that fall within our core competencies. For example, one thing the IMF can do is help countries manage their macroeconomic policies in ways that maximize their capacity to absorb aid and debt relief. Another is make sure that countries that have just benefited from debt relief don't quickly become heavily indebted again. These are some of the elements of the Medium-Term Strategy for low-income countries.
21. Let me now turn to IMF governance, and specifically to IMF quotas, which largely determine voting shares, and also influence the amount countries can borrow. In a number of countries, Fund quotas have become increasingly out of line with economic weight. For example, Asia's share of world GDP was about 22 percent in 2003. This is about one third higher than its share in Fund quotas. I am also concerned that the voting power of small, low-income countries has been eroded over time. This gives rise to concerns about the adequacy of voice and representation for a number of relatively small, poor countries that continue to borrow from the Fund but that have only a limited share in Fund voting.
22. I believe that action in this area is vital for the effectiveness of the institution. The IMFC shares this view, and at our Spring Meetings last month, the IMFC gave me a mandate to make concrete proposals to address these issues by the time of the Annual Meetings. I am now in the process of working with the membership to develop these proposals. At this stage, I envisage that we tackle the issue in a two-year program of action beginning with some key decisions in Singapore in September. These would include immediate action on quota increases for a few countries whose quotas are most clearly out of line with their weight in the global economy. But I would also want our members to agree in Singapore to move during the next two years on more fundamental changes, including the position of small countries and a further round of ad hoc quota increases for underrepresented members following a review of the formula that is used to calculate quotas.
23. Before concluding, let me say a few words about where Australia fits into this. Australia certainly has a stake in reducing risks to the global economy. Although Australia's economic performance continues to be strong, it benefits from international cooperation just like other countries. Oil is a global problem. You can see how heated rhetoric in Iran or kidnappings in Nigeria raise prices at the petrol pump. Avian flu is a global problem, and we need to be prepared for it. And the risks from global imbalances—a global downturn, financial instability, and the rise in protectionist sentiment that could follow these—can cause significant problems for a country like Australia, which thrives on trade.
24. I have been impressed with the leading role that the Australian government has taken in addressing some of the issues I've talked about today. Through its chairmanship of the G20, Australia has taken the lead in raising issues of Fund governance and in exploring options for changing Fund quotas. Through its participation in the IMF, the WTO, and APEC, Australia has been a regional leader in promoting good policies, including trade liberalization. And through its aid and security support in the Pacific, and especially in the Solomon Islands and in Timor-Leste, Australia has shown its commitment to economic and social stability.
25. Australia also leads by example, especially in economic management. Australia's flexible exchange rate, inflation-targeting system and prudent fiscal policies have helped the economy get through the 1997-98 Asian crisis, a global IT slump, and a severe drought, and still enjoy 15 years of uninterrupted growth. Structural policies have been important too. Sustained reform efforts in labor and goods markets have reduced unemployment, increased productivity, enhanced flexibility, and have helped to reduce the scale and impact of economic shocks. Australia's Future Fund also looks like a good model for other countries: certainly there are few, if any, industrial countries as well prepared for the fiscal costs of an aging population as Australia.
26. Australia and the Fund have worked well together for a long time. But perhaps we don't know each other as well as we should. The last time a Managing Director of the Fund came to Australia was in 1998, and I believe this is the first time a Managing Director has spoken to a television audience here. There is a great deal to see here, a great deal for me to learn, and I hope that there are some things that you can learn from our experience too. So I hope that you've found my comments today useful, and that I will see you again soon.
27. Thank you very much.