Global and Regional Policy Challenges—an Address at the State University of the Ministry of Finance
November 7, 2011By Christine Lagarde
Managing Director, International Monetary Fund
Moscow, November 7, 2011
As prepared for delivery
Good afternoon. I am delighted, as always, to visit this beautiful city. I would like to thank the Russian authorities as well as rector Afanasiev for extending me such a warm welcome. I am deeply touched.
This is my first trip to Russia as Managing Director of the IMF. I am very pleased that Russia and the Fund enjoy an extremely strong relationship. Russia is certainly one of our most important shareholders. I look forward to listening to you and to discussing how our partnership can grow even stronger in the future.
The great Russian author Anton Chekhov once wrote that “All of life and human relations have become so incomprehensibly complex that, when you think about it, it becomes terrifying and your heart stands still”.
And indeed, our modern global economy is incredibly complex and interdependent. Russia and emerging Europe have done relatively well so far in traversing the global economic crisis. But now, we see dark clouds gathering in the west.
And if we do nothing, Chekhov’s dark vision might come to pass.
I believe that the time of action is upon us, that the time of timidity has passed. We saw the Euro Area Leaders take some important steps just a few weeks ago; and we saw the G20 Leaders take some further steps just a few days ago. Granted, there is much work left to do, but I am impressed with the determination of leaders to do it.
Russia has got work to do as well. The risks emanating from the global economy are serious. We must all be vigilant.
So let me talk about four things today:
First, the state of the global economy and the risks to emerging Europe in particular.
Second, the policy path we need to take to lift the gloom and restore global growth.
Third, how Russia can do even more to protect itself and safeguard the future of its economy.
And fourth, the importance of the shifts taking place in global economic governance, especially as it relates to Russia’s role.
1. Global and regional economic challenges
On my first point, as I have said many times, the global economy has entered a dangerous and uncertain phase, with a darkening outlook and rising risks. Adverse feedback loops between the real economy and the financial sector have become very prominent.
And to make it worse, unemployment remains unacceptably high in too many countries. Indeed, one of my greatest worries is that we may betray a whole generation of young people, as they become disconnected from the productive economy and the bonds of society.
What is the main problem? Fundamentally, the world is suffering from a collective crisis of confidence.
If we do not act, and act together, we could enter into a downward spiral of uncertainty, financial instability, and a collapse in global demand. Ultimately, we could face a lost decade of low growth and high unemployment.
What about emerging Europe? As I said, this region has come a long way since the deep crisis of a few years back--thanks in large part to the adoption, in many cases, of sound economic policies.
But the risks are clear. If the storm strengthens further in the Euro Area, emerging Europe—as its closest neighbor—would be severely hit by lower exports and increased financial strains.
And even though most countries in the region do not have the large current account deficits they had in 2008, there are still some big fault lines in the system. External debt in many countries is high. The share of foreign currency loans is close to peak levels. And this time around, western parent banks would be less likely to provide a lifeline of capital and liquidity.
Fiscal space is also lower than in 2008. Back then, because they had sown in good times, countries were able to reap in bad times, letting public demand expand to partly cushion the decline in private demand. That option is no longer on the table.
So my message, simply, is this: the region must get prepared for any potential storms. There is no room for complacency. The stakes are very high.
2. The Policy Path Forward
Which brings me to my second issue: the policy path forward.
Obviously, the advanced economies have a special responsibility to act. And since the Euro Area countries are in the eye of the storm, they must be at the center of any solution.
The decisions taken by Euro Area Leaders on October 26 represent a critical step in the right direction: to restore debt sustainability in Greece; recapitalize European banks; strengthen the firewall against financial contagion; and lay the foundations for robust economic governance reform in the Euro Area.
At the Cannes Summit just ended, the G20 Leaders reiterated the imperative of implementing these steps. And the Euro Area Leaders of the G20 emphasized their determination to do so. Implementation is not easy, and some bumps in the road are to be expected. But the Leaders made clear in Cannes that their commitment to this framework remains strong.
More broadly, they also emphasized the need to keep our eyes on the big prize—restoring growth and stability.
What does this mean for the advanced economies in terms of the policy path forward?
On fiscal policy, a focus on strong and credible medium-term consolidation can restore confidence and create the space to accommodate growth and jobs in the short-run. Of course, the available space differs by country. Those under market pressure have little choice but to forge ahead with adjustment. But others can ease off the brakes if growth slows further.
Given well-anchored inflation expectations, monetary policy can stay accommodative.
Many countries need to reform structural policies to boost competitiveness and growth.
And better financial sector regulation also remains critically important in the years ahead: to make the financial sector safer and more stable, and to put it back in the service of the real economy.
What about the emerging markets? They cannot remain passive. But neither can they follow a single path.
I have already quoted Chekhov, so now let me now quote Tolstoy, who famously said that while “all happy families resemble one another, each unhappy family is unhappy in its own way.”
Some of the key emerging markets with external surpluses need to provide more global demand, by switching to more domestic sources of growth. This is both good for the countries themselves and good for the global economy.
But other emerging markets have a different path. They need to strengthen macroeconomic policy frameworks and rebuild fiscal space. They need to protect financial stability, especially to cope with volatile capital flows. They need to build safeguards against potential external shocks. This group includes Russia.
3. The role of Russia
So let me turn to my third point: the role of Russia. Because of its size and dependence on oil, Russia faces somewhat different challenges than the rest of the region.
As the crisis hit several years ago, Russia certainly moved ahead to fortify its defenses. Banks and firms reduced their foreign exchange exposures. The exchange rate became more flexible to be able to absorb large external shocks. And the government strengthened its institutional capacity to manage crises.
All of this should be applauded.
At the same time, however, Russia still has some important vulnerabilities. A sharp drop in commodity prices, for example, will hurt growth. Distress in core Euro Area banks could hit Russia’s banking system hard. And its budget deficit, excluding oil revenues, has more than tripled since the crisis--leaving limited space for a flexible fiscal response.
In these circumstances, a key priority must be to rebuild fiscal buffers while oil prices are still high. This means holding the line against spending pressures and saving oil revenues that come in above budget.
In terms of monetary policy, the focus should be on low inflation. This will lay the groundwork for stability and predictability. It will also help the development of financial markets, which can help turn Moscow into an international financial center.
And in the financial sector, Russia needs to improve banking supervision, so that its banks and other financial institutions operate under the highest standards.
But what if the storm comes? In this case, Russia has a number of policy options. It could allow the exchange rate to adjust, deploying its reserves to cushion the transition. It could provide liquidity support to banks as needed. It could let automatic stabilizers operate, allowing unemployment benefits to rise and the tax burden to fall in response to weaker growth.
Dealing with clear and present dangers is the key priority at this time. And doing that effectively will help Russia move forward to the future it needs--of higher, more sustainable growth that creates enough jobs and benefits the whole population.
For that to happen, Russia must reduce its dependence on oil and move toward a more vibrant and diversified economy. Besides a more stable macroeconomic environment, this means creating a more welcoming investment climate, which requires wide-ranging structural reforms.
While some steps have been taken, more needs to be done—as the Russian authorities themselves recognize. That is the challenge ahead.
4. Global Economic Governance
Let me now turn to my fourth and final point: transformation of the global economy being brought about by the rise of new centers of growth.
As a leading emerging market, Russia plays an important role on the global stage. It plays an important role in the G20. It is the world’s largest oil producer. And along with other key emerging markets, it helps to lift growth, including in low-income countries—through trade, investment, and financing.
I am also very pleased to say that Russia plays an important role at the IMF. It is one of our top ten shareholders--which is only fitting, given Russia’s important role in the global economy.
Remember, the job of the IMF is to serve its membership. To do that effectively, the Fund must look more like its membership. And our membership need to see themselves reflected in us.
And here, we have taken significant strides in terms of our overall governance.
In a far-reaching reform in 2010, the IMF's membership agreed to a historic 6 percentage point shift in the quota shares of our dynamic emerging market and developing country members, while protecting the voting share of our poorest members.This builds on an earlier reform in 2008, meaning that the total shift in quota shares is an unprecedented 9 percent.
This governance reform--now in the process of being implemented--means that the IMF will be truly representative of our global membership. And it means that we will be able to serve all our members--including Russia--even more effectively. Which is the object of the exercise.
Conclusion: Russia's Leadership Role
I want to leave you today with a simple thought—we are in one boat. In this ever more inter-connected world, our economic fortunes rise and fall together. So we must navigate the stormy economic seas together.And as we chart this common course together, I believe that Russia has a leadership role to play.
Russia has such a magnificent history, an unparalleled culture, a proud people. The bridge from east to west, from Asia to Europe, from the old to the new economic order. I look at you and I see the future.
Yes, there are challenges ahead. But Russia has overcome many challenges before. I have every confidence you will do so again. And I can assure you that the IMF is your partner-- and your friend-- in this great endeavor.