Transcript of a Press Conference on the U.S. Article IV Mission Review
June 15, 2009Washington, D.C., June 15, 2009
MR. MURRAY: Good day, I’m William Murray, Chief of Media Relations of the IMF. This is a live press conference on the concluding mission statement of the latest U.S. Article IV mission review.
Joining us today is John Lipsky, First Deputy Managing Director of the IMF; Nicholas Eyzaguirre, Director of the Western Hemisphere Department; David Robinson, Deputy Director of the Western Hemisphere Department; and Charles Kramer, who is the Chief of the North American Division that handles the U.S. Article IV Review.
Mr. Lipsky will have some brief opening remarks, and then we’ll take your questions. Mr. Lipsky?
MR. LIPSKY: Thank you. Thanks, Bill. And thank you, all, thanks, and welcome to this briefing on the 2009 U.S. Article IV consultation.
As you know, this is the IMF’s annual assessment of the U.S. economic policies and prospects and their implications for the global economy. The full staff report will be published after the Executive Board discussion on the topic, and this is scheduled for late July.
In the interim, we’ve prepared a concluding statement summarizing staff views, and that has been distributed to you, so, let me take just a few minutes to briefly highlight the main messages before turning to any questions you have.
I think, in summary, we see some good signs, but there are still sizable challenges ahead that still require forceful and decisive attention.
Now, for those of you who are here at this press conference last year, you may remember I presented at the time our views and that they were considered to be rather negative about the outlook for 2008. We said the growth was going to be weak with output declines in some quarters and a slow recovery coming in. In fact, conditions turned out even less favorably than we had expected. Financial market turmoil late last year revealed major weaknesses in the U.S. regulatory and resolution frameworks, and, as we all know, the ensuring turmoil echoed worldwide, exacerbated financial strains and ushering in a rather dramatic period of collapsing international trade flows and shrinking domestic and foreign production.
Following the mid-September, financial market break, the U.S. policy response has been strong and comprehensive, including unprecedented monetary and fiscal stimulus, coupled with a wide range of measures to restore financial stability in revamped housing market policies, and these actions are now paying off. Recent data suggests that the sharp fall in economic activity has slowed notably, while financial conditions have improved noticeably. Correspondingly, we are revising our forecast upward, although, it’s broad contours remain unchanged. We anticipated the stagnation and economic activity in the coming quarters before a sustainable recovery takes hold next spring. However, the downward risks still remain significant, including from rising foreclosures and housing price declines and increasing corporate distress.
Now, the U.S. authorities today face three, interconnected challenges. First, completing economic and financial stabilization to set the stage for a sustained recovery. Second, developing strategies for unwinding, massive public interventions, which should be coordinated internationally. And, third, addressing the long-term legacies of the crisis, notably through fiscal and financial reforms. I’ll say a few words on each of these.
In terms of stabilization, we believe that the fiscal and monetary policies at present are appropriately supportive of economic activity and steps to stabilize financial and housing markets are having a noticeably positive effect. The Supervisory Capital Assessment Program in particular has helped improve confidence and several banks have been able to assess private markets for capitals and borrowing. The current priority is to complete the strengthening of bank capital while guarding against downside risks in the sector. For that, continued closed monitoring of the financial system will be vital. It will also be important to put in place the proposed resolution frameworks for non-bank financial institutions as quickly as possible.
With regard to exit strategies, as financial and economic conditions normalize, the development implementation and communication of an exit strategy for both monetary and fiscal stimulus will be important and collaboration with other countries will be useful and necessary. One challenge will be government support for the financial sector through gradually reducing subsidies and tightening access terms for any facilities that may need to be extended to encourage financial institutions to tap markets.
Another will be the unwinding of monetary stimulus once a sustained recovery is underway, and this could be facilitated by additional tools for the Fed, such as use of the supplementary financing program or perhaps even the ability to issue its own debt.
Now, looking beyond the immediate cyclical challenges, a clear lesson from the crisis has been the need for major reform in the framework for financial crisis prevention and resolution, and in this connection, we welcome the administration’s proposal for a systemic risk regulator. We believe it should be accompanied by measures to discourage excessive institutional complexity and to limit systemic risks and moral hazard. Also, consolidation of the current supervisory structure could raise its efficiency or efficacy. We’ll be working with the U.S. authorities to assess the U.S. financial system and its regulations more deeply in our Financial Sector Assessment Program, commonly known as FSAPs, and this will begin in full this fall.
The second challenge is the serious and lasting deterioration in U.S. public finances related to the crisis, adding to the already threatening long-term trend. The fiscal year 2010 budget lays out appropriate objectives, including an early stabilization of debt relative to GDP, but it is based on relatively optimistic, economic assumptions. Our estimate suggests that significant, additional measures will be needed over time to ensure that these long-term targets are met.
In addition, of course, there’s the looming challenges that we all know from entitlement spending. Here, it will be important that proposals for universal healthcare accompanied by strong measures to achieve the goal are reducing cost growth to 1.5 percent annually.
And, finally, the financial crisis also has important, longer-term implications for the U.S. role in the global economy, in particular the very large declines in U.S. household wealth already has led to a strong pickup in household savings, and the rise in U.S. household savings out of current income is likely to continue into the future, and that means that the long sought-after reduction in the U.S. current account deficit is likely to persist over time.
Now, I’d just like to add the note that, if you may recall, the IMF hosted the multilateral consultations on global imbalances in 2006-2007. And, if you recall, the participants in that discussion were the Euro area as a group, Japan, China, Saudi Arabia, and the United States. The underlined assumption of those discussions was that, over time, eventually, there would be a renormalization of U.S. household savings, and, hence, to sustain rapid growth internationally, the ultimate sources of growth were going to have to shift in both surplus and deficit countries. What the participants had hoped to avoid was the kind of rapid adjustment that had been associated with this unprecedented, global downturn.
It’s unfortunate that the policy measures contemplated with the multilateral consultations that were intended to avoid this outcome were not applied with the requisite vigor and energy, but, in any case, what we do know is that in the medium term, to restore and sustain global growth and low inflation, a durable shift in the sources of growth internationally are going to have to be accomplished not just in the U.S., but around in the world in major economies.
Well, coming back to the present, we see some improvement in the near term outlook, reflecting in good part an effective policy response to the challenges of the past two years. There still are large challenges ahead, as I’ve described though, and the progress needs to be underpinned by continued strong polices and strong policy implementation.
I’m going to stop here and we welcome your questions. Thank you.
QUESTIONER: If I may, looking at the data here you have on capacity and inflation, you talk about quite a lot of spare capacity and core inflation in the U.S. going down to what you described as very low levels. I’d like to invite you to tell us how much you think the peak output gap will be and where core inflation will go with actual numbers. How low is very low and where will it be in 2010 and looking out to 2011?
And related to that, the financial markets are currently pricing interest rate tightening by the Federal Reserve before even the end of this year. Does that seem to you to be appropriate, given the forecast and the analysis that you presented?
MR. ROBINSON: Well, let me start on the questions about spare capacity core inflation and so on. I mean, at present, and as you probably know, core inflation actually surprised us a little bit on the upside in the first quarter, but we think that’s mainly due to one sort of factor such as tobacco, price of new cars, and so on. As you said, the output gap is large and widening. We expect that output gap to peak around the early part of 2010 before it starts to come down, based on our projections at this point.
Core inflation, we would expect to come down during the remainder of the year and possibly pass them off. I’m going to give very rough numbers, but say it’s a year-on-year rate, a quarter and quarter rate of around 0.5 percent before it starts to turn up. So, I would say that’s a low level of core inflation. Certainly, it’s lower than the Fed would like to see on a medium-term basis. So, that’s only –
QUESTIONER: What is the size (off mike)?
MR. ROBINSON: I can give you that number later. I mean, my recollection is something like 5 percent.
MR. KRAMER: Slightly north of 4.
MR. ROBINSON: Slightly north of 4.
QUESTIONER: And the –
MR. ROBINSON: Roughly 0.5 percent is the floor for core inflation. Year-on-year core.
QUESTIONER: That’s an annual rate or an annualized –
MR. ROBINSON: It’s a quarter-on-quarter, actually. It’s sort of bottoms out at that point.
QUESTIONER: And that would be when? When would it --
MR. ROBINSON: Early 2010.
QUESTIONER: Early 2010. Thank you.
MR. EYZAGUIRRE: This is very much an art rather than science because, as you know, we have a number of uncertainties here.
First, the size of the output would really depend on how fast the recovery is, so, you have one uncertainty there, but that’s not the main problem because regardless of whether the rate is going to be a bit higher or lower, the size of the output gap is not going to change that much in different sort of hypothesis around the growth of the economy this year and the next one. But, also, it will depend very much on inflationary expectations and communication. In that sense for the Fed to avoid sort of a deflation.
Expectation is very important, and, also, you have to factor in what’s likely to happen with costs, especially oil prices. So, at the end, this is very tentative, but the three forces would be at work, and sort of our better estimate given what we believe the scenario is going to be, instead it’s going to be at around 0.5 percent.
MR. LIPSKY: Yes, turning to policy, let me start with the reference back to what I just said about the international context in which this recovery is going to take place.
Let’s put it this way: One way of characterizing this situation is, over the past decade, global growth, growth outside the U.S., has depended to an unusual extent on the strength of domestic demand growth in the United States. Over the next 5 to 10 years, growth in the United States is going to depend to an unusual extent on the growth of domestic demand and its trading partners.
Our global forecast anticipates that the recovery is going to be broad based, but it is going to be sluggish. We don’t anticipate a return to trend growth rates in the advanced economies until late next year, which means the output gap is going to continue to grow through that time. That means that there is no obvious, fundamental source of near-term pressure on the Fed to act, but in terms of deciding when, where, and how to begin their exit strategy from monetary stimulus, will depend on the strength or growth both here and aboard will depend on the evolution of inflationary expectations, as Mr. Eyzaguirre said, so, it is not easy to reduce to a neat formula, but, again our guess is that the return to trend growth is both in the U.S. and globally is going to be sluggish relative to previous downturns reflecting our experience that cyclical downturns accompanied by financial turmoil and bank strains tend to involve relatively moderate and modest recoveries.
QUESTIONER: You mentioned that there’s no near-term pressure for the Federal Reserve to act. What’s your reading regarding the spike in the yield curve?
MR. LIPSKY: Somebody else want to take that? Me? Okay.
It’s been very interesting. Typically, changes in the shape of Treasury yield curves or sovereign debt, yield curves in sovereign debt, in general, are dominated by changes in monetary policy. Most recently, the shift in the U.S. curve and echoed elsewhere has been more a reflection of changes at the long end of the curve, but has come in context of rather dramatic shifts in yield spreads between sovereign debt and private debt and historic strains within the financial sector. There was a tremendous flight to quality that widened the spreads and increased demand for what's widely perceived as risk-free debt. At the same time, there were comparable concerns about the risks of a really serious downturn in global activity.
So, I think we would interpret the recent rise in long-term, sovereign rates as reflecting, first of all, the effectiveness of policy and the evolution of events in reducing fears of a really seriously negative outcome. And I’ll use the jargon of saying that as the tail risks seem to have become truncated, people become less worried about that.
That has been associated with a return to or the beginning of a normalization of risk appetite among investors and the beginning of a restoration of more normal yield spreads. In absolute terms, by historic standards, Treasury yields at the long end are not high, they’re still low. They’re more normal in real terms.
So, again, our basic interpretation has been that this is a sign not of inappropriateness of monetary policy, but rather something more like the beginnings of a normalization of the process of normalization in financial markets as the fears and strains of the previous quarters begin to recede.
EYZAGUIRRE: If I may add a thing, it’s like two effects at the same time that you can sort of put together, but are different in a way. One that will be the typical thing that it’s when the agents become more sanguine about future prospects, they expect the Fed to move in the other years, and that gets priced in the long end of the curve, but, also, as John was saying, this time around, it’s not a normal sort of repricing of the other years, but, also, sort of a normalization of a abnormally high demand for T-bills in the middle of the uncertainty.
So, people’s appetite is coming back to corporate debt, and, unfortunately, the rates of the high end of the yield curve have not been one-on-one with what is happening with corporates that actually are benefiting somewhat because money is returning to those quarters.
QUESTIONER: Two questions on I guess you’d call it the politics of the economy. You talk here about the toxic asset program, the PIPP. And the possibility that it won't get put in place. What happens if the U.S. doesn’t put in place a toxic asset removal program? How much does that affect your forecasts?
And then, secondly, on the deficit reduction, you talk about they would need another 3.5 percent of GDP to get to their numbers, the administration’s numbers. And there are suggestions that you have reducing deductibility of corporate debt, household mortgage, interest, and so on, energy taxes, these are all basically considered political suicide in the U.S., and, so, again, if those sorts of provisions aren’t put in place, what would be the consequence?
MR. ROBINSON: Let me start on the deficit reduction, and maybe Charlie, if you agree, can talk a bit about the PPIP. I mean, in terms of the deficit reduction, as you said, we broadly support that the targets that the administration have set out in the budget, and I want to get that on record because I think it’s the single most important thing is stabilizing the level of debt post 2011, after the stimulus and financial market effects are out there. Yes, we do think significantly more adjustment is going to be needed in order to do that, mainly because our economic assumptions are somewhat less optimistic than those at the OMB, I think, we’re even slightly more pessimistic than the CBO on that.
I mean, in terms of the measures, I mean, I think no one denies that raising taxes in countries is always difficult. There are a variety of options here, and maybe there are others that we haven't mentioned, or those are the ones that have been talked about, I think, quite a lot over the last few years in various contexts. What I think is most important is clearly that some combination of these get done because, otherwise, debt will not stabilize. I mean, you ask what would happen, and that will be the result. Debt will not stabilize but continue on an upward trend, and I think when you add that to what’s just coming from entitlement post 2020, obviously, that is a real concern.
MR. KRAMER: On the question you raised on the Public-Private Investment Program, we just see this as a potentially useful tool for cleaning banks’ balance sheets, but the concern has been raised about the willingness of banks to sell loans into the facilities that would crystallize losses. But I think we should step back and think about the purpose of this type of program in terms of strengthening bank balance sheets and also in terms of improving clarity about the situation of banks, and on that, of course, we’ve seen somewhat of an improvement in the economic outlook and a reduction of financial strains.
The banks have, to a significant extent, been able to raise private capital, which will help with balance sheet difficulties that they’re experiencing. And, in addition to that, in the wake of the stress test, the SCAP that the authorities have improved confidence in the financial system and transparency about the state of the major institutions that were subject to that stress test has improved significantly. So, that’ll help on those fronts.
That said, we think it’s a useful program to keep open, the future remains uncertain, and I think it’ll be useful to track the progress and implementation of that program moving forward.
QUESTIONER: On the latter point, you talk about -- several times you said it was “useful,” but is it essential?
MR. LIPSKY: Well, let’s clarify. The antecedent of “it” is? The PPIP?
MR. LIPSKY: Okay.
MR. KRAMER: I think the really essential point is to get full confidence in the banking system and to strengthen bank balance sheets. This is one tool. Recapitalization of the banks and a recognition of losses, as we saw in the stress test is another tool also for achieving that same end.
QUESTIONER: I’m surprised the view that you just articulated, which I might sum up it’s sort of suggesting it’s nice to have this, it’s good to have it, the toxic asset program in place, but, in some senses, there are other ways of achieving the similar objectives of stabilizing the financial system.
It’s my understanding that the Fund has actually articulated quite strongly the belief that you needed to have both programs targeted at bank capital and programs that were specifically targeted at toxic assets. I would take away the impression from today that you’re watering down that position, you didn’t feel that directly taking toxic assets off the books of the banks was an essential part, an indispensable part of fixing this. If I’ve misunderstood you, could you just clarify.
MR. EYZAGUIRRE: May I –
MR. LIPSKY: I’m going to do it.
MR. EYZAGUIRRE: You finish. The boss.
MR. LIPSKY: You’re right, it’s not a watering down, this is a position that we’ve taken, and we think that this is correct. In other words, that both bolstering capital and cleansing balance sheets are an important part of balance sheet healing, of the financial sector healing. I think listening closely to what we said was that the portion of the PPIP dealing with loans, it wasn’t quite as clear what the fate of that or the success of that part was going to be.
But, of course, those are not the source of the greater uncertainty about bank balance sheets. The deterioration credit quality conventional loans are more typically associated in a reasonably predictable way with the health of the overall economy. In other words, with the course of GDP. So, that isn’t exactly the novel challenge. The novel challenge for the financial sector has been evaluation of these novel, securitized instruments, and there we continue to think that a program that helps take those off balance sheets aids the process of strengthening.
Now, you still go ahead.
MR. EYZAGUIRRE: Well, it’s always good to have more instruments. You don't know whether the value of those assets are going to recover soon or maybe they will. So, if the value of those assets or the markets where there are almost no prices do recover, it may be in the interests of the banks to keep those assets in their books, but if that does not happen, the PPIP is a very important sign to ensure everybody that the balance sheets of the banks are going to be clean. So, you have two hands for one fight rather than one.
MR. MURRAY: Okay, very good. We’ve received a few questions via the Media Briefing Center that are really more germane to the world economic outlook update, which we will have in early July. Those questions were related to what other countries should be engines of global growth? What is the impact of the United States on Latin America? Things of that nature. We can take those up next month when we update the world outlook.
Are there any additional questions here?
QUESTIONER: Could you just clarify? You said, Mr. Lipsky, you revised upward or forecast the contours remained the same. You said recovery takes hold next spring. Where is the improvement or is there like a quarterly improvement you see that you didn’t see half a year ago?
MR. LIPSKY: Yes, I’ll turn to my colleagues for details, but in broad terms, the characterization is that the fourth quarter of last year and the first quarter of this year were worse than we had anticipated, so, the starting point has been lower. We do see the likelihood that the forward-looking trajectory is going to be improved relative to what we had seen before, but not forgetting that the starting point is worse than we had anticipated.
Now, in terms of the broad characterization, as someone who’s been in this business for awhile, it always struck me that an important judgment regarding the performance of an economy is in broad terms is the economy a trend growth, above trend growth, below trend growth, well above trend growth, well below trend growth?
So, a critical question in assessing the outlook is when will the U.S. economy return to trend growth? In other words, when will unemployment rates effectively stop rising? And our judgment had been second half of next year until we return to a sustained trend rate of growth. The trajectory hasn’t changed that judgment.
MR. ROBINSON: No, that’s exactly right. I’ll just give a couple more of the underlying details. Before, we had, as we have now, a very sharp decline in Q4 and Q1. then we had a period, and this is the previous projection, of pretty much negative growth for four quarters, until we really started to take off in Q2, 2010. I think the difference now is instead of that four-quarter period being negative, we’re much closer to we’re actually slightly positive over that period.
QUESTIONER: Slightly positive over a period?
MR. ROBINSON: Over that period of those four quarters from Q2, 2009, to early 2010, before we had a period of very sluggish, negative growth, now we have a period of sluggish, but positive growth. So, the shape is the same, but the amount of growth is higher, and that’s what you see in the forecast, and that’s why we say the contours are unchanged.
QUESTIONER: And in Q2, 2010?
MR. ROBINSON: Q2, 2010, is about when we start to see growth really sort of take off in a sustainable way in our forecast, correct.
MR. EYZAGUIRRE: Sort of a serious, sort of a enigmatic thing that maybe deserves more explanation, since Q1 was worse than expected, but now we expect Q2 this year, Q3 this year, Q4 this year to be either zero or slightly positive. For the 2009 as an average, our forecast does not change that much, but since the growth or at least the economy is not going to continue falling throughout 2009. That means that for 2010, our forecast is better.
MR. LIPSKY: But, still, it’s one thing to say GDP is growing, but it’s another thing to say unemployment has stopped rising.
MR. EYZAGUIRRE: Right.
MR. MURRAY: Okay, thanks. I think we’re going to take one last question or we have a couple more questions.
QUESTIONER: You had mentioned that in unwinding the stimulus that that might benefit from having new tools, such as Fed bills.
Why do you think that that would be helpful, and if it doesn’t move to those kinds of new tools, do you think you can get the job done with what it’s got?
MR. ROBINSON: I mean, in answer to your second question first, the Fed has a range of tools already, of course, and it’s got some that have just been introduced, including paying interest on reserves, which I think are going to be very important in the exit, although, of course, there are new tools, so, they haven't yet been tried. There are other ones that the Fed has talked about, such as reverse repos of, for instance, agency securities that are also, I think, very promising tools, although, again, they’re new, and, so, we’ll have to see precisely how much liquidity can be absorbed from them.
We’re not saying the Fed can’t do the job with the tools that it’s got. What we’re saying is, that in an environment which is quite uncertain looking forward, we don't know how financial markets are going to evolve, there will be all sorts of different challenges. The more tools the Fed has, the better, because it will give it more ability to adjust to circumstances as they happen than if it had less tools. And the two that we’re talking about here are the supplementary -- I always get the name wrong.
MR. LIPSKY: Supplementary Financing Program.
MR. ROBINSON: Thank you. A Supplementary Financing Program, which, of course, already exists, but is subject to the debt ceiling, and possibly also a chance of Fed paper. One or both of those would give the fed just that little bit more room for maneuver, which would be helpful going forward.
MR. LIPSKY: Again, I wouldn’t want to overemphasize the importance. I think the idea is a relatively straightforward one. The Fed has been innovative in combating the crisis. It has, therefore, resulted in a position of its balance sheet that’s unusual with different instruments. So, in the exit strategy, it’s likely to be useful to be innovative, as well. It’s not stronger than that.
MR. MURRAY: I think this will be our last question. Thanks.
QUESTIONER: Yes, my question is on the dollar. What is your view regarding its reserve status?
MR. LIPSKY: The dollar is the principal reserve currency in the global economy and will remain so for as far as we can see.
MR. MURRAY: Thank you very much. If you have any follow-up questions for the press that are viewing, please send an e-mail to email@example.com. We’d be happy to follow-up. A transcript of this briefing will be posted later today on our public Web Site, imf.org. Thanks again for joining us, John Lipsky, Nicholas Eyzaguirre, David Robinson, and Charles Kramer.
[Conclusion of press briefing.]