Speech

Opening Remarks by Naoyuki Shinohara
Deputy Managing Director, International Monetary Fund
Tokyo, February 18, 2015

As Prepared for Delivery

It is my honor and pleasure to welcome Ministers, Governors, and other participants to our Third Joint IMF-JICA Conference on Frontier and Developing Asia. These conferences have provided a useful forum to exchange experiences and discuss new challenges, and I am grateful to JICA for its active engagement from the beginning. In my remarks today I would like to offer some perspectives on key issues facing Frontier Asia—including the potential impact of recent developments in the global economy.

Your participation reflects our shared ambition to achieve sustained, rapid and inclusive growth. I look forward to hearing your perspectives on the policies that can help accelerate the development process that many other countries have already undertaken. The challenges you face as policymakers are quite varied, but there are many common themes. Moreover, Asia’s economic destiny is increasingly tied to regional cooperation, and I hope that our exchanges here will also help strengthen our ties and friendships.

Looking back over the past few decades, there is much reason for encouragement. Most Frontier and Developing economies in Asia have seen robust growth, higher than in other emerging market economies. Rapid growth has also been largely pro-poor, enabling the incidence of extreme poverty to be cut in half. This is an important achievement. Asia’s examples of success have typically been associated with policies that emphasize sound macroeconomic management, strengthening institutions, and improving economic resilience. And I can assure you that your success is regarded as a model for low-income and frontier economies in other regions.

Nonetheless, important challenges remain. One of these is the weaker-than-envisaged global economy, even as the prospects differ across countries and regions. We have just published an update of our World Economic Outlook, which shows that the global economy faces the prospect of subpar growth, notwithstanding a boost from the recent drop in oil prices. While growth is recovering from the Great Recession, it remains uneven and fragile. Global growth is projected at 3.5 percent in 2015 and 3.7 percent in 2016, each downgraded slightly from our earlier projections—a year ago we projected global growth for 2015 at about 3.9 percent, implying a downward adjustment of almost ½ a percentage point.

One of the key negative factors is weak investment, reflecting reduced expectations about medium-term growth in many advanced and emerging market economies. Diminished prospects in China, Russia, the euro area, and Japan contribute to this, along with weaker activity in some major oil exporters. There are also concerns about shifts in sentiment and volatility in global financial markets. Consequently, while our growth projections for Asia remain higher than for other regions, they have been trimmed to 5.4 percent in 2015, compared to the projection a year ago of 5.6 percent, and to 5.3 percent in 2016.

Another challenge is income inequality. The number of people living in extreme poverty in Frontier and Developing Asia remains high—nearly one-third of the population—even though the incidence has been halved. Inequality has also increased, with Gini coefficients rising by about 3 points on average. Even though some decline in the impact of growth on poverty is to be expected as poverty rates fall, it is worrisome that the rise in inequality in Frontier and Developing Asia has been larger than in some other emerging regions, leaving parts of Asia less equitable than the Middle East. The picture varies across countries, and it will be interesting to hear about your particular experiences.

These trends, along with the growing evidence that high income inequality can be detrimental to macroeconomic stability and growth, call for effective policy measures. Certain drivers of inequality, such as skill-biased technological change, are largely beyond governments’ reach. But policies also matter, and recent research has shown that fiscal redistribution can help support growth because it reduces inequality. Reforms can also support a more equitable distribution of the gains from growth. Examples of these are policies to minimize insider-outsider distortions in labor markets, institutional reforms to strengthen governance, or measures to promote financial inclusiveness. In advanced economies—where more empirical evidence is available—direct income taxes and transfers (including pensions and family benefits) have reduced the inequality by about a third, with about two-thirds of this coming from transfers.

At this time of diminished growth expectations, what should be the policy priorities for Frontier and Developing Asia?

A key area for discussion today will be fiscal policy. Research shows a close link between inclusive growth and public spending to improve infrastructure, education, healthcare, and social safety nets. These priority spending areas are also found to boost equality of opportunity, which can help reduce inequality over the long run. But spending measures need to be financed in a sustainable manner, and the overall fiscal approach should be consistent with macroeconomic stability. It should also preserve economic efficiency.

Indeed, the experience of our host country, Japan, provides some interesting insights on these issues. Japan today faces three interrelated problems: low growth, low inflation, and high public debt. This requires a multi-faceted approach combining a concrete fiscal plan to reduce public debt, monetary stimulus, and major structural reforms. Higher revenues from the consumption tax will be an important component of such a package. To offset the near-term effects on the economy and promote growth and inclusiveness, targeted cash transfers have been introduced to assist low-income households and those with children. Reducing pension benefits to wealthy retirees instead of across-the-board cuts in benefits would also help fiscal consolidation while supporting efficiency and equality.

At the same time, the recent decline in oil prices is adversely affecting oil exporters such as Timor-Leste. In the short term, these countries may drawdown some of their accumulated financial reserves, and over the next few years gradually adjust their spending plans and advance energy subsidy reforms. The decline in oil prices has been favorable for oil importers, providing some relief to consumers and boosting overall demand, and an opportunity for fuel subsidy reforms.

What measures can be taken in Frontier and Developing Asia, where social and infrastructure spending needs are large, and average tax revenue-to-GDP ratios are relatively low? On the revenue side, more efforts could be made to broaden income and consumption tax bases by reducing exemptions and improving compliance. Tax systems could also be made more progressive. On the spending side, public resources should be directed to priority social and infrastructure areas, and away from untargeted subsidies. Here, conditional cash transfers could be considered, similar to those introduced in Japan. If well targeted, they can reach a large segment of the vulnerable population at relatively low cost to the budget.

Another important area is financial market development and access to finance. Financial sector deepening and financial inclusion can help support SME development, satisfy infrastructure needs, and help address longer-term demographic challenges. In this regard, international experience provides lessons. A premium should be placed on well-managed financial market liberalization and reforms that are underpinned by macroeconomic stability and capable supervisory and regulatory oversight.

As you know, many Frontier and Developing Asian economies are also highly dollarized. In some cases, high dollarization can facilitate trade. But there are drawbacks, such as limiting exchange rate flexibility to mitigate against external shocks, and constraining the central bank’s ability to be the lender of last resort. Under such circumstances, consideration could be given to actively promote de-dollarization. But de-dollarization is a long process and requires a commitment to strengthen policies and institutions.

Let me finish with a few words about the role of the IMF, and how we can support the agenda for inclusive growth. The IMF’s policy advice across the globe and especially for low-income countries has been very mindful of the social impact of economic policies. For example, social spending floors were present in 29 of 30 recent programs supported under our Extended Credit Facility for LICs. The IMF’s lending instruments have also become better-tailored to the diverse needs of its members.

We have also stepped up our engagement with Frontier and Developing Asia. We have increased significantly our technical assistance delivery, including through the office in Bangkok for technical assistance for Lao P.D.R. and Myanmar, and at our regional training facility in Singapore. We also recently reopened our resident representative offices in Lao P.D.R. and Mongolia. Our research on the drivers of inclusive growth is being translated into practical policy advice—a collection of that work will be published as a book entitled “Frontier and Developing Asia: The Next Generation of Emerging Markets,” with an excerpt from the book included in your conference packages. Today’s conference is another step in this direction.

Once again, I would like to thank you for joining us in this important conference. I look forward to learning from your insights, and working with you in the future.