December 3, 2009
Good morning and welcome to this high-level discussion on the preconditions and practical considerations for exit from interventions in the financial sector.
As the crisis abates, we are being confronted with new challenges. One of the most important will be to balance the withdrawal of fiscal and monetary support for the financial sector with the reestablishment of sustainable growth, price stability and sound public finances, while creating a more stable and resilient financial system.
Our goal in organizing this conference is to provide a forum for discussion of some of the key issues regarding the unwinding of public interventions in the financial sector; and on managing public finance aspects of unwinding. Topics to be covered will include strategies governments could follow to normalize their involvement in the financial sector, key principles for timing and sequencing these strategies, and areas for domestic and cross-border coordination.
Recognizing the importance of the impending challenges, the IMFC and the Fund’s Executive Board asked Fund staff to provide concrete views on unwinding the crisis-related intervention measures. This request was one of the motivations for holding this conference.
I would like to take this opportunity to make some brief remarks regarding the implications of the crisis for sovereign balance sheets, and to outline some broad considerations for unwinding the unprecedented public interventions. These interventions greatly increased the size of sovereign balance sheets, through the acquisition of financial system assets and through the debt build up, including the accumulation of contingent claims.
As a result, central bank balance sheets in 6 advanced countries, together with that of the ECB, increased by an average of more than 8 percentage points of GDP between June 2007 and June 2009. At the same time, the government balance sheets of 16 advanced countries increased on average by about 5.5 percentage points of GDP. As we all know, this ballooning of balance sheets poses substantial management challenges, as the downsizing of these balance sheets will require substantial and sustained policy efforts.
In particular, the unwinding of monetary and fiscal policies will need to place government debt on a sustainable path while accommodating growing private credit demand and supporting the economic recovery. Low interest rates so far have muted the impact of the dramatic growth in government debt, but a significant increase in interest rates would bring the underlying vulnerabilities more clearly into focus. Unconventional monetary policy measures eventually will be unwound, and private sector credit demand will pick up. At that time, the growing government debt burden and financing needs will raise the possibility of crowding out.
Moreover, adverse implications for sovereign balance sheet risks—arising from the accumulation of weak sovereign assets, greater contingent liabilities, and still-increasing government debt -- will need to be managed. So will strategies for asset disposal and the withdrawal of public guarantees. Government refinancing risk has been manifested in increasing sovereign debt issuance and a drift towards shorter debt maturities, signaling a worrisome trend in debt management strategies, and sovereign liability management more generally.
In light of these broad concerns, I would like to highlight a few considerations regarding unwinding public interventions.
Of course, the evolution of financial market conditions –including trends in sovereign credit spreads -- will influence the prospects for a systematic unwinding of public sector support, and the balance of risks to financial stability goals during unwinding.
At the same time, clarifying fiscal accounts could help to manage fiscal policy during the unwinding process. For example, quasi-fiscal activities, that were a prominent feature of the response to the crisis, would be more transparent if they were transferred to the budget. Likewise, guarantees and other contingent liabilities require appropriate management.
Unwinding public sector interventions in the form of capital injections, as well as the purchase of assets and the assumption of liabilities, also will give rise to sequencing issues. A key consideration in disengaging from these types of interventions should be their impact on asset prices. In some cases, this task may be carried out more successfully if assigned to a specialized asset management company. In others cases, a decentralized approach may work best to take advantage of market incentives.
Ideally, the most distortion-inducing and redundant measures will be discontinued first. Careful evaluation of the implications of the intervention measures for financial sector competition, along with the role of the financial regulatory structure at the time of the unwinding, therefore will provide important guides to policy action.
Another important general consideration is the need to maintain the coherence of unwinding strategies across countries, as coordination issues could influence capital flows and financial intermediation, and could give rise to regulatory arbitrage.
Although it is not the subject of the sessions today, you probably are aware that the Fund has been asked by the G20 Leaders to provide an options study regarding possible financial sector taxation to compensate for the costs of risk mitigation for financial sector crises.
Rather, the four sessions today will focus on (1) the prospects for unwinding public interventions in the financial sector; (2) Public Finance aspects of unwinding; (3) Indicators for guiding liquidity support and financial sector guarantees; and (4) restoring private control of crisis-related assets. I hope that you find the presentations and exchange of views challenging and helpful.
Speaking on behalf my Fund colleagues, we thank you for joining us today, and we will be counting on your ideas and insights to help guide our work in developing exit strategies.
I look forward to rejoining you later, and hearing about your discussions.
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