Statement by the Hon. Peter Costello
The World Economy
Since the IMFC met in Prague last year, there has been a significant change in the economic performance of a number of economies, in particular the United States, which in turn has resulted in a sizeable downward revision to the global economic outlook. While we should remain balanced in our assessment of these events, it is important that policy makers remain vigilant and take where necessary steps to ensure a resumption of sustainable, non-inflationary economic growth
The key questions for policy makers are how long, and how deep, the slowdown is likely to be, and what policy actions are needed. On these questions there is some reason, however, for optimism. Countries which have implemented a sound macroeconomic policy framework and pursued significant economic reform programs over the past few years now have considerable policy flexibility to respond to the slowdown in economic activity. In particular, we welcome the monetary policy action taken in the US and in a number of other countries which should support economic growth.
In addition, in many economies where there has been a substantial strengthening in budgetary positions in recent years, fiscal policy now has the capacity to play a supportive role. That said, policy makers will need to remain vigilant in applying fiscal policy. Lower growth can often expose the fragility of policy-making processes with good policy often dropping by the wayside during a downturn, and proving difficult to reinvigorate thereafter.
Importantly, now is not the time to abandon sound policies or economic reform programs. On the contrary, the maintenance of sound economic policies will be essential to restoring sustainable, non-inflationary growth. Many economies may well regret that they did not take full advantage of the rather benign international environment of the past few years to undertake more ambitious economic reforms. One of the main challenges during this period of slower growth will be to maintain sound economic policies.
We should also remember the role that trade policy can play in enhancing the growth prospects of developing countries. One of the most important steps to enhancing growth would be decisive steps to liberalise world trade as part of the next multilateral trade round. Developed economies can also make a substantial contribution to lifting the growth prospects of developing countries by lowering trade barriers, such as New Zealand's initiative to provide duty-free access to least developed countries. Australia has for many years provided generous preferential market access for developing countries.
Japan continues to face substantial policy challenges of both a cyclical and structural nature. We are encouraged by the initiatives announced by the Japanese government. However, ongoing reform efforts, in particular decisive steps to restore the health of the Japanese banking system, are essential to underpin recovery in the near term and also to allow Japan to address its medium-term economic challenges, including the ageing of its population. The fundamental medium-term challenge for Japan is to lift its potential growth rate. We also encourage countries in Europe to continue to pursue structural reform policies to increase potential growth.
The slowdown in world economic growth may well expose weaknesses and vulnerabilities in a number of regions. In the case of Asia, however, with improved macroeconomic fundamentals since the 1997-98 crisis, along with more flexible exchange rates, the countries in the region are better placed to manage external shocks than in the past. Nevertheless, many countries in Asia will be significantly affected by a protracted slowdown in the US and the inability of Japan to restore growth given their trade and investment links.
Turning to some of the countries in this constituency, with the weaker world outlook, growth in the Australian economy has slowed in 2001 following a sustained period of very strong economic growth. In recognition of weaker external conditions, and with continued low inflation, monetary policy has moved to an easier stance as is the case in many other countries. Looking ahead, the Australian economy is well placed to resume strong growth, underpinned by an ongoing structural reform agenda and a sound macroeconomic framework.
After registering remarkable growth over the past two years, the Korean economy began to slow in late 2000 due to sluggish international and domestic demand. However, beginning in the second half of 2001, the economy is expected to recover in line with its potential growth rate through supportive macroeconomic policy settings, as well as the strong implementation of corporate and financial sector reform.
With the peaceful transition in government, the Philippine economy has normalised and its outlook improved. While growth is likely to continue and inflationary pressures are expected to remain subdued over the coming year, the authorities are aware that it is important to fully restore policy credibility in order to bolster consumer and investor confidence. In this connection, the implementation of necessary reforms to achieve fiscal consolidation and to address governance problems is a high priority of the authorities. A benign inflation outlook has also allowed an easing in monetary policy.
The New Zealand economy ended 2000 with solid GDP growth, a strong labor market, a rebound in business and consumer confidence and a fall in the current account deficit. These positive factors have continued into 2001, despite the slowdown evident in a number of major trading partners. The economy is well placed to display continued steady growth in the year ahead, but economic conditions will be significantly influenced by the state of the international economy. The fiscal position is strong, with the operating balance projected to remain in surplus.
Developments in the world economy have highlighted the importance of proceeding as quickly as possible in enhancing the Fund's efforts to strengthen the international financial system and to improve its capacity to respond to crises if and when they occur. While a great deal has been achieved over the past few years, we fully endorse the Managing Director's view that the best contribution the Fund can make in this regard is through focusing its activities on the pursuit of its core mandate. We also see as a continuing priority the need for the Fund to advance its contribution towards reducing poverty and strengthening the growth outlook for low-income countries. We will elaborate on this in our statement for the Joint Meeting of the IMFC and Development Committee on Fighting Poverty and Strengthening Growth.
This constituency strongly endorses the initiative launched by the Managing Director to better focus and streamline conditionality and we welcome the progress that has been made to date.
Conditionality is essential, not solely to protect Fund resources, but to help ensure that program objectives are achieved and that a country restores external balance. In this regard, we believe that the objective should not simply be short-term stabilisation of an economy but the achievement of a sustainable growth path that will ensure the viability of a country's balance of payments position in the medium term. With this as the objective, there is a clear role for structural conditionality, including conditions that will address governance issues where these have a significant macroeconomic impact. However, the conditions attached to a Fund program should not attempt to "fix" every aspect of a country's economy. Excessive and unnecessary conditionality has the potential to distract policy makers from key issues, spreads limited capacity too thinly and weakens political resolve and public support for reform efforts.
Equally, however, streamlining conditionality should not be equated with weakening conditionality, as is sometimes implicit in discussions that concentrate on the number of conditions. Nor should streamlining be seen as an end in itself. The objective should always be to ensure that conditions are better focused on the policy outcomes that are required to achieve program objectives. Indeed, in developing programs it should be asked how each proposed condition serves to achieve program objectives. Important issues in this regard are the appropriate pace and sequencing of structural reforms necessary to deliver sustainable economic growth.
In terms of progressing the review of conditionality, the task is to provide greater operational guidance on the implementation of the Managing Director's Interim Guidance Note. In doing so, we face the difficult task of striking the right balance between discretion and rules. Discretion is needed in order to respond flexibly to a country's particular circumstances, including social and political factors, but there must be rules to help guide staff and to ensure uniformity of treatment between countries. There is also a need to ensure sufficient clarity as to the boundaries of conditionality, and Letters of Intent should clearly distinguish which aspects of a country's policies are being monitored as part of conditionality.
The steps taken in seeking comments from those outside the Fund on the papers produced to date, and conducting seminars on conditionality, are welcome initiatives. We also support the concept that the burden of proof for the inclusion of conditions should be placed on those proposing them. This places a particular responsibility on the staff, the management and the Executive Board to ensure that this is followed in practice.
We will gain greater experience in better targeting conditionality as we apply the principles in the Guidance Note to existing and forthcoming cases, although we see considerable merit in reviewing a number of past programs to examine where conditions have gone too far and where they have not gone far enough. In this vein, the Executive Board has an important role to play in deriving lessons on the application of conditionality for future practice. We look forward to the results of further work along those lines, including the examination of modalities of conditionality. We also place high priority on establishing the framework for effective collaboration with the World Bank and other organisations in cases where there is a need to include conditionality outside the IMF's core areas of responsibility.
Crisis Prevention and Strengthening the International Financial System
This constituency has been generally supportive of the Fund's work on standards and codes, believing it provides a valuable input into the process of assisting countries to identify and address vulnerabilities in their economies and establish sound policy frameworks. We encourage all countries to participate in the Reports on the Observance of Standards and Codes (ROSC) process. Efforts in this area can make a particularly important contribution towards strengthening financial systems and reducing the risk of future crises.
Nevertheless, it is important that we advance our work on standards and codes in a pragmatic fashion, that we have due regard to the circumstances facing individual economies and that we recognise that there are, legitimately, alternative policy approaches capable of delivering sound economic outcomes. It is important, therefore, for the assessment of countries' policy frameworks to be conducted in ways that avoid a simplistic "ticks and crosses" approach, and that such assessments look to the substance of policies, having regard to each country's particular circumstances. In addition, we should be assessing the standards relevant to each particular economy with a focus on those standards which will contribute most to reducing vulnerability to macroeconomic and financial shocks. It is also vital that countries receive sufficient technical assistance to support the implementation of standards.
We recognise, however, the need to maintain a balance between acknowledging different structural features of economies and financial systems in our assessments, while still maintaining the benefit of a broadly consistent approach via a common benchmark standard in each area. We also believe that it is important: (i) for participation in ROSCs to remain voluntary; (ii) that a "pass-fail" approach to assessments is avoided; and (iii) that appropriate recognition is given to a country's achievements as well as to the areas where further work is required. Such an approach is vital to ensuring that the initiative continues to be supported by all members and that the Fund's limited resources are used effectively.
Standards and codes assessments provide valuable signals to policy makers and market participants, and so we welcome the move to formalise the dissemination of this work. Once a critical mass of assessments is available we would suggest a more proactive effort on the part of the Fund to make them more widely used.
While we support work under way on assessing the mechanisms available for encouraging countries to implement standards and codes, we counsel against a rigid approach to creating incentives in these areas. The emphasis should be on encouraging countries to take "ownership" of, and responsibility for, implementing sound economic and financial policies, using standards and codes as reference points where appropriate, rather than on designing incentives for the implementation of standards and codes for their own sake.
We are pleased that the arrangements agreed during the review of the Fund's financing facilities have been formalised and implemented. We also welcome the steps taken on increasing transparency which build on the progress already made.
Progress has been made in strengthening and systemising the Fund's approach to assessing external vulnerability. But, as the Managing Director reports, much still remains to be done.
The development of the Guidelines for Public Debt Management in collaboration with the World Bank represents another important element in the Fund's work in reducing financial vulnerability. The Guidelines strike the correct balance between being broad enough to apply to a wide range of situations and detailed enough to provide useful guidance on improving public debt management practice. We also endorse the highly consultative fashion in which they were prepared.
Technical assistance has a vital role to play in supporting all aspects of the Fund's efforts in crisis prevention and management, in capacity building for heavily indebted poor countries (HIPCs) and Poverty Reduction and Growth Facility (PRGF) eligible countries, and in restoring macroeconomic stability in post-crisis situations. We believe the necessary resources should be devoted to the provision of technical assistance and we strongly endorse the efforts being taken to closely align technical assistance with the Fund's key policy priorities. Policy needs are, of course, dynamic and priorities will change. It is therefore important to have a permanent institutional arrangement for the ongoing assessment of the effectiveness of technical assistance and to ensure that it remains aligned to priority areas. We also consider it is vital that there be greater cooperation between the Fund, the World Bank and other donors in the provision of technical assistance.
In providing technical assistance, we believe that special recognition should be given to the circumstances confronting some of the Fund's smallest members, such as a number of the Pacific Island economies in this constituency. It is in small countries such as these that technical assistance can have the greatest impact. They have a pressing need to build capacity, and access to technical assistance is often the main tangible benefit they receive from IMF membership. Regional initiatives, such as the Pacific Financial Technical Assistance Centre, have been successful in delivering technical assistance and are well regarded by the countries involved.
A year ago, we endorsed a framework for the private sector's involvement in forestalling and resolving financial crises, which was built upon in Prague. Since then progress, albeit slow, has been made in considering recent experience with the restructuring of sovereign bonds, including the role of collective action clauses and exit consents, and deepening the dialogue with the private sector, primarily through the Capital Markets Consultative Group.
We look forward to further progress on specific issues that will contribute to the effective application of the framework, including work already under way on the relative treatment of official and private sector debt and the analytical basis for judging the return of a country's ability to access capital markets. More generally, we encourage the Fund to undertake further work in exploring ways to strengthen the effectiveness of market disciplines in financial systems as an important part of strengthening the incentives for sound risk management by banks and other financial institutions.
Strengthening the IMF's Focus on Financial Markets
Financial sector soundness is clearly necessary to reduce an economy's vulnerability and is a precondition for achieving sustained growth. As such, we fully endorse the intensification of financial sector surveillance, particularly through the Financial Sector Assessment Program (FSAP). FSAPs are, however, highly resource intensive and in order to enhance the effectiveness of our efforts in this regard it will be necessary to target FSAPs on those countries with external sector weakness or financial sector vulnerability. It is also important that FSAP assessments are tailored to the particular needs and structural features of each country, rather than being applied as a standardised template.
We welcome the organisational changes and initiatives that have been taken in order to enhance the Fund's understanding of capital market developments, including the establishment of the Capital Markets Consultative Group and the creation of the International Capital Markets Department (ICM). Enhancing the Fund's capacity in this regard will significantly strengthen both its multilateral and bilateral surveillance activities. On this point we would stress that work on enhancing the Fund's understanding of capital markets cannot be limited to the newly established ICM. Rather, this new department must be the catalyst for enhancing knowledge and understanding of capital market developments throughout the Fund, particularly area departments.
Enhancing Contributions to Combating Financial Abuse
Money laundering and financial abuse more generally are matters of increasing global concern. Members of this constituency are committed to combating money laundering through their domestic policies and financial supervisory arrangements, and are actively involved in international cooperation aimed at reducing money laundering, including the Financial Action Taskforce (FATF), the Asia Pacific Group on Money Laundering, and APEC.
We believe that the Fund can make an important contribution to combating money laundering. However, this should stem directly from the pursuit of its core responsibilities. The Fund can make a major contribution towards combating all forms of financial abuse through its efforts in assisting countries to strengthen financial institutions and develop appropriate supervisory and regulatory frameworks.
The Fund currently assesses supervisory principles relevant to anti-money laundering via assessments of the Basel Core Principles and the IOSCO and IAIS Principles under the Financial Sector Assessment Program. It also has an obligation to address issues of financial abuse in surveillance or program design on a case-by-case basis when they are clearly relevant to macroeconomic performance and stability. We endorse the Fund's involvement in these instances, and support efforts to publicise its activities in this area.
The Board recently agreed to intensify the Fund's assessment of the relevant anti-money laundering elements in the current supervisory principles. We maintain that in doing so it should continue to take into account the following principles: (i) the process should be both objective and consultative; (ii) the initiative should be risk based, focusing on assessing where money laundering and financial abuse meet the macro-relevance test; (iii) it should be even-handed between countries; (iv) the Fund should develop the capability to ensure that all assessments meet high standards of objectivity and quality; and (v) technical assistance should play an important role for some countries in responding to assessment and addressing policy settings. It is also important that assessments relating to Offshore Financial Centres (OFCs) and financial abuse take into account the structure and needs of the jurisdiction being assessed, and that compliance burdens for small countries be carefully managed.
We also support the concept of the Fund working more closely with other international anti-money laundering groups, particularly FATF, and to coordinate surveillance and assessment initiatives so as to minimise unnecessary duplication of effort. However, while we agree that the Fund should work with FATF on the ongoing review of the forty recommendations, we believe it is premature to contemplate inviting FATF to prepare a ROSC module on money laundering given the substantial differences between the approach by FATF and the principles underlying the ROSC procedures.
Director of the Independent Evaluation Office
We welcome the appointment of Mr. Ahluwalia as the Director of the Independent Evaluation Office. The operation of this office will be important for the ongoing effectiveness of the Fund's activities. We look forward to working constructively with the new Director in enhancing the effectiveness, credibility and transparency of the Fund's operations.
1 On behalf of the constituency comprising Australia, Kiribati, Korea (Republic of), Marshall Islands (Republic of), Micronesia (Federated States of), Mongolia, New Zealand, Palau (Republic of), Papua New Guinea, the Philippines, Samoa, Seychelles, Solomon Islands and Vanuatu.