"Global Risks Are Rising, But There Is a Path to Recovery": Remarks at Jackson Hole, By Christine Lagarde, Managing Director, International Monetary Fund

IMF News, August 27, 2011

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Canonical URL: "Global Risks Are Rising, But There Is a Path to Recovery": Remarks at Jackson Hole, By Christine Lagarde, Managing Director, International Monetary Fund

Event: Jackson Hole conference; speaker: Christine Lagarde, Managing Director, International Monetary Fund.
Date: August 27, 2011.
Core framing:
- Global economy continues to grow, yet not enough.
- Some causes of the 2008 crisis have been addressed, yet not adequately.
- There remains a path to recovery, yet time is limited.
Two-year retrospective: "Two years ago, it became clear that resolving the crisis would require two key rebalancing acts—a domestic demand switch from the public to the private sector, and a global demand switch from external deficit to external surplus counties."

Balance-sheet linkages: Weak growth and weak balance sheets of governments, financial institutions, and households are feeding negatively on each other.
Deterioration in confidence: Policymaker hesitation has aggravated risks and increased the likelihood the fragile recovery could be derailed.
New dangerous phase: Recent developments (summer 2011) indicate increased downside risks and urgency for action.
Rebalancing insufficient: Progress on both domestic and global rebalancing has been "timid at best."
Global interdependence: "Decoupling is a myth"—advanced country recession would affect emerging markets; low-income countries remain vulnerable.

Root cause: Too much debt and leverage in key advanced economies; financial practices magnified, disguised, and fragmented risk; households over-borrowed.
Long adjustment: Housing and financial crises take a long time to work off and require decisive action.
Current headline problems: sovereigns in most advanced economies, banks in Europe, and households in the United States.
Policy instruments at risk: Continued growth loss would worsen balance sheet problems, threaten fiscal sustainability, and reduce policy effectiveness.

Fiscal policy:
- Fiscal consolidation remains an imperative.
- Macroeconomic policies must support growth; countries must navigate between losing credibility and undercutting recovery.
- Each country needs a dual focus: durable measures that deliver savings tomorrow to create space to support growth today (examples: measures that change the rate of growth of entitlements, health or retirement).
Monetary policy:
- Should remain highly accommodative because "the risk of recession outweighs the risk of inflation."
- Rationale: (i) in most advanced economies inflation expectations are well anchored; and (ii) pressures from energy and food prices are abating.
- Policymakers should be ready to return to unconventional tools as needed.
Micro-level measures:
- Relieve balance sheet pressures for households, banks, and governments.
- Address root problems to avoid a painful, drawn-out adjustment.
- Structural reforms to boost productivity and growth over time, while taking care not to weaken short-term demand.
Coordination:
- A new approach is required—bold political action with a comprehensive plan across all policy levers, implemented in a coordinated global way.

Diagnosis: Urgent need to remove uncertainty around banks and sovereigns; financial exposures are transmitting weakness and spreading fear across markets and countries.
Three key steps Europe should take:
- First: Ensure sovereign finances are sustainable.
- More fiscal action and more financing.
- Not necessarily drastic upfront belt-tightening if long-term fiscal risks (rising pension costs or healthcare spending) are addressed to create short-run space for growth and jobs.
- Sufficient financing can come from private or official sector—including continued support from the ECB, with full backup of the euro area members.
- Second: Urgent recapitalization of banks.
- Banks must be strong enough to withstand sovereign risks and weak growth.
- Most efficient solution: mandatory substantial recapitalization—seek private resources first, but use public funds if necessary.
- Option: mobilize EFSF or other European-wide funding to recapitalize banks directly to avoid additional burdens on vulnerable sovereigns.
- Third: Adopt a common vision for the eurozone’s future.
- Recommit credibly to a common vision built on solid foundations, including fiscal rules that actually work.
- Avoid ambivalence or unclear messaging that magnifies uncertainty.

Key tensions: Need to balance reducing public debt and sustaining the recovery, with special emphasis on making a serious dent in long-term unemployment.
Two specific fronts:
- First: Nexus of fiscal consolidation and growth.
- Credible decisions on future consolidation (revenues and expenditures) create space for growth and jobs today.
- Growth is necessary for fiscal credibility.
- Second: Halt the downward spiral of foreclosures, falling house prices, and deteriorating household spending.
- Possible measures: more aggressive principal reduction programs for homeowners, stronger intervention by government housing finance agencies, or steps to help homeowners take advantage of low interest rates.

Emerging markets:
- Some key emerging economies keep domestic demand growth too slow and block currency appreciation, which is not in their or the global interest.
- Other emerging markets that allowed appreciations face threats from capital inflows.
Low-income countries:
- Need to protect themselves from external shocks by rebuilding policy buffers and investing in social safety nets.
- International community must stand ready to help.

Summary judgment: "Risks to the global economy are rising, but there remains a path to recovery."
Imperatives:
- Act now, act boldly, and act together.
- Coordinated action by all countries will have far greater effect than isolated actions.
IMF commitment: The IMF will continue to advocate for these outcomes and lend material support where requested and relevant.

Remarks prepared for delivery, Jackson Hole, August 27, 2011 — Christine Lagarde, Managing Director, International Monetary Fund