The Whole Can Be Greater Than the Sum of its Parts

IMF Blog, September 28, 2016

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There are policy options to bring new life into anemic economic recoveries and to counteract renewed slowdowns.
The paper debunks widespread concerns that little can be done by policymakers facing a vicious cycle of (too) low growth, (too) low inflation, near-zero interest rates, and high debt levels.
The secret comprises three parts: comprehensive policies within countries; consistency of policies over time; and internationally coordinated policies.

First: policies within countries must be comprehensive—simultaneous use of monetary; fiscal; and structural policies.
Second: policies within countries must be consistent over time.
Third: there is a case for internationally coordinated policies.

Too often, monetary policy has been the only game in town; low interest rates since the global financial crisis have not brought growth back to acceptable levels.
Monetary policy alone is not enough—fiscal and structural policies need to do much more.
Targeted public investment can:
- raise domestic demand to close the output gap; and
- raise potential output on a sustainable basis.
Structural reforms of product and labor markets help unleash countries’ economic potential.
Financial sector policies that strengthen banks and private balance sheets:
- get credit flowing again;
- improve the impact and effectiveness of monetary policy; and
- build resilience of financial systems to shocks.
Complementarity example: a temporary increase in public investment will have a much greater impact on real and nominal GDP if accompanied by monetary policy accommodation.
Structural measures can be more effective with fiscal policy support.

Expansionary monetary and fiscal policies are not likely to succeed if people believe that monetary tightening cannot happen without unsettling markets or that high debt levels will increase risk to intolerable levels.
For accommodative macroeconomic policies to work, policymakers must commit to credible frameworks that adjust policy instruments consistently over time.
Monetary policy point: a temporary overshooting of the inflation target can help economies escape the deflationary trap much faster if a detailed, transparent, and well-communicated strategy shows the public that the monetary framework can safely allow for such deviations.
Fiscal policy point: a credible fiscal framework embeds a longer-term vision by indicating how short-term increases or changes in the composition of spending can actually help reduce government debt levels over time, and contain risks associated with public sector balance sheets.

It would be in each country’s interest to coordinate their policies with other countries.
By pulling in the same direction at the same time, countries can amplify their domestic efforts to lift growth at home and, by implication, around the world.
Such coordination between countries would be particularly valuable in the event of another shock like the one in 2008.
The benefits of global coordination are recognized in the [2014] G20 Brisbane Action Plan, where major countries committed themselves to stimulate growth at home, using the tools at their disposal and operating within their own political and economic constraints.

All countries should follow comprehensive and consistent national policies, even in the absence of international policy coordination.
To get the biggest bang for the buck and credibly escape the next significant negative shock, all three legs must stand together: within countries; over time; and across countries.

Vitor Gaspar, Maurice Obstfeld, Ratna Sahay; September 28, 2016.

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