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Restoring Confidence Crucial to Rebuilding World Recovery

Christine Lagarde attending a panel discussion in Davos (photo: World Economic Forum)

World Economic Forum

Restoring Confidence Crucial to Rebuilding World Recovery

IMF Survey online

January 28, 2012

  • No country immune from current crisis, says Lagarde
  • Need to build firewalls to restore confidence
  • Countries must tailor their budget responses to individual situation

Rapidly restoring confidence in both Europe and globally is crucial to protecting the battered international financial system and rebuilding the ailing recovery, threatened particularly by strains within the euro zone, panelists at a discussion on the global economic outlook said in Davos.

“No one is immune in the current situation. It’s not just a euro zone crisis. It’s a crisis that could have collateral effects, spillover effects around the world,” IMF Managing Director Christine Lagarde told a panel discussion at the World Economic Forum.

To get beyond the crisis, she said Europe must address three key issues—lack of growth, reduced competitiveness, and the need for greater integration. To restore confidence more immediately, the euro zone must develop a strong firewall to protect its members.

“It is critical that the euro zone members actually develop a clear, simple, firewall that can operate both to limit the contagion and to provide this sort of act of trust in the euro zone so that the financing needs of that zone can actually be met."

So big “it won’t need to be used”

In addition, the IMF’s resources should be built up to help protect other countries around the world. The aim, she said, is to build up a big enough contingency fund that will help restore confidence and therefore it won’t have to be used.

Lagarde is trying to ramp up the IMF’s resources by up to $500 billion so it can help if more lending is needed in Europe or elsewhere. She stressed that the money is not just to support Europe, but “any country that is a member of the IMF,” particularly in central and eastern Europe, and poorer developing countries.

Quoting British wartime leader Winston Churchill, she said “We have the tool[s], we must do the job.”

Tailor made

She clarified that there was not a “one-size fits all solution” in the current crisis. Efforts to reduce budget deficits and debt must be tailored to the situation in each country as consolidating too quickly could strangle growth. “We are not suggesting that there should be fiscal consolidation across the board, without differentiation and without specific treatment adjusted to the specificities of the country,” Lagarde noted.

In the context of discussing the IMF’s broader position on fiscal policy, she set out three main country groupings—those with no choice but to adjust debt levels and spending now, those with room for flexibility, and those who have the option to stimulate growth further, and thereby help other economics.

The IMF has said that the euro zone countries are expected to fall into a mild recession this year. Overall, activity in the advanced economies is now projected to expand by just 1.2 percent in 2012—a downward revision of percentage points relative to the forecast last September.

Lagarde said that in addition to Europe, the United States and Japan needed to adjust their large deficits, while major emerging markets should work to develop domestic consumption.

Panelists included Ali Babacan, Turkey’s Deputy Prime Minister for Economic and Financial Affairs, Mark J. Carney, Governor of the Bank of Canada, Japan’s Economy Minister Motohisa Furukawa, George Osborne, Chancellor of the Exchequer of the United Kingdom, Donald Tsang, Chief Executive of Hong Kong Special Administrative Region, and World Bank President Robert B. Zoellick.

Decisive action a must for confidence

Osborne said the world should give the euro zone credit for all that it has achieved in the past two years, in terms of reducing budget deficits, creating the European Financial Stability Facility and introducing structural reforms. But there was much more to do. "The fact that we're still, at the start of 2012, talking about Greece again is a sign that this problem has not been dealt with," Osborne said.

"The danger here is that the tail wags the dog throughout this crisis … the inability to deal with the specific problems in the periphery causes shockwaves across the whole European economy and the world economy," he told the crowded audience.

All panelists agreed that restoring confidence was critical for shoring up the system. "You need decisive action. You need overkill,” said Tsang, the chief executive of Hong Kong. “Confidence must come from decisive actions from governments."

Worrying outlook

In his introduction, Wolf said that the mood in Davos was akin to the relief of a condemned man reprieved from hanging. “Instead of feeling the imminent prospect of catastrophe, there is a sense that things have been done that have eliminated very substantially the immediate risk of disaster, particularly in Europe.”

But Tsang said much more needed to be done. In 40 years as a public servant, Tsang said he had “never been as scared as now about the world, what is happening in Europe.” The world was much more interconnected than ever and contagion spreads very fast. Swift action must be taken to restore confidence and economic growth. Governments must also act to help the poor through the crisis and to reinforce social safety nets.

Concerned about high unemployment around the world, Lagarde stressed that growth will be critical in large part to generate jobs. Four year’s into the crisis, Zoellick said that “people are scared, there’s anxiety, there’s joblessness.”

Concern about unemployment “is part of the bigger issue that some of us have been trying to draw out, which is that it’s not enough to muddle through,” he added. There should be concerted efforts to undertake structural reforms that reduce impediments to growth, and specific measures to support skills and employment.

Tsang left the audience with an impassioned reminder of the importance of people inadvertently caught up in the crisis. “While we’re dealing with all these macro issues,” Tsang said, “remember you have to deal with the people. This is where we serve. This is what public service is all about.”


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