The underlying conditions in the world economy are still broadly quite favorable. The IMF’s staff is maintaining its forecast that world output growth will increase from last year’s 3¼ percent increase to over 4 percent this year, and will continue at about the same pace in 2001. These projections reflect buoyant activity in most advanced economies, which has underpinned the worldwide recovery from the financial crisis that began three years ago. The rebound of the emerging market economies has been particularly noteworthy. Their commitment to structural reforms and sound financial policies has been the basis for this recovery—and the IMF has had a significant part to play in promoting this. But there is no room for complacency. The current situation contains some risks, uncertainties, and challenges, which call for vigilance and policy action.
• First, our current forecast for the world economy assumes that a rebalancing of global growth across the major advanced economies takes place in a gradual manner. But a disorderly correction in U.S. asset prices or any other development that leads to a hard landing of the U.S. economy could have pronounced effects on world demand and the international financial markets.
• Second, external financing flows to emerging markets have shown large fluctuations over the past five years and are likely to remain volatile in the period ahead, particularly since they appear sensitive to U.S. interest rates. With emerging markets vulnerable to such volatility, it is essential that they maintain the momentum of structural reforms and also keep their macroeconomic situation as strong as possible.
• Third, reform is not a one-way street; it is not just a responsibility of the emerging market and developing countries. A revolution in technology and communications is under way, but not all advanced economies are yet realizing its full potential. The advanced economies should accelerate their own efforts to remove the rigidities that may impede the structural transformation that is taking place. A credible reform agenda for the mature economies—in particular, an accelerated opening of their markets—is indispensable for global growth and will reassure markets that the correction currently under way in world equity markets need not become disorderly.
But there is an even broader, longer-term issue: where is globalization heading? Undeniably, it has proven potential for promoting growth, investment flows, and technology transfers in a growing number of countries. But we should also be quite honest in facing up to the reservations that are often expressed.
A vocal constituency questions whether the world economy and globally integrated financial markets can work in the interests of all. We have to acknowledge that there is a problem of global inequality and poverty. And, in the medium to long term, such inequity could easily become a source of political and social instability and, ultimately, of economic instability also. Therefore, poverty reduction should be a vitally important issue for all of us.
Strengthening financial architecture
The question, then, is how best to tackle this problem. It needs, of course, a comprehensive approach, including, not least, education and training, good governance, and a well-functioning social safety net. But key to the solution is strong world economic growth and the opportunity for developing countries to participate in this growth. We know, in this context, that global financial markets are a vital source for global growth and investment. But the experience of the past decade has shown that these markets are also prone to considerable volatility, thus making them a source of turbulence and crisis themselves. Therefore, it is right and important that the international community is now concentrating its discussion on the strengthening of the international financial architecture.
The international community has undertaken numerous initiatives, many of which are being implemented by the IMF. Much of the work is still experimental or in its pilot stages, but clear direction and tangible progress are evident in key areas. These include
• promotion of transparency and accountability;
• development of internationally recognized standards and codes;
• strengthening domestic financial systems and to assess financial sector stability in many countries;
• work by the Bretton Woods institutions and others to assess external vulnerability; and
• continuing debate over appropriate exchange rate regimes, which brings attention to bear on the paramount importance of supporting that choice with appropriate macroeconomic policies.
Two-track IMF work program
This is “work in progress,” and the IMF has a strong commitment to carrying it forward through its surveillance and, where needed, through technical assistance. But I want to go a step further and find a credible answer to the question of where the IMF itself has to change. Therefore, we have established a two-track work program for the IMF in the coming months. One track responds to the guidance of the International Monetary and Financial Committee, which, at its meeting last month, set us a very full program—so full and so sophisticated, for example in the area of standards and codes, that I worry a bit about the practicality of implementation in many developing countries.
The second track of our work program will seek to outline a vision for the future role of the IMF. We want the IMF to be as effective as possible in contributing to prosperity in all parts of the world. The IMF has a long history of continuous reform and adaptation, and clearly it has not been standing still in the past few years since the emerging markets crisis. I see no need to turn the IMF upside down or to devise some new, grand design for it. But the crucial question for me is whether the IMF has sufficiently adapted to a world where financial markets have seen such phenomenal growth in size and sophistication. In this context, I see the many recent reports on IMF reform as clearly helpful. The bulk of these reports recommend that the IMF should be more focused in its activities. I share this view. The authority of the IMF derives strongly from its expertise. No institution can have expertise everywhere. The IMF’ s concentration on macroeconomic stability should lead to a focus in its advice on monetary, fiscal, and exchange rate and financial sector policies. The IMF should have a clear position about the key elements of a global growth strategy, and this should be discussed and agreed upon with the other multilateral institutions. But based on this and with good cooperation among these institutions, there should also be a clear division of labor, not least between the World Bank and the IMF.
No one can rule out the possibility of more financial crises in the future. The difficulty is that we do not know where or when they will occur or how severe they will be. Therefore, clearly, there is a need for an official international lending agency to be able to mount a credible response. The recent establishment of the Supplemental Reserve Facility and the Contingent Credit Lines is certainly a conceptually promising further development of the IMF’s facilities. But we have to review the entire range of the IMF’s instruments to streamline and sharpen them. And we must also be realistic. We have to ask ourselves whether it is possible or even desirable that the IMF, as official lender, should try to match the extraordinary growth of private capital markets. It seems to me that we have to think about limits to the scale of crisis lending that the IMF can be expected to undertake.
It becomes imperative that the IMF, and the international community, pay the utmost attention to crisis prevention, especially through sound macroeconomic policy, the promotion of transparency, and the implementation of practical standards and codes. If the IMF is effective in this task through its surveillance, then I see a good chance that there may not be a need for the ever-growing rescue packages we saw during the 1990s.
Private sector—constructive engagement
Undeniably, the private capital markets play the major role in promoting investment and growth around the world. In particular, we should not jeopardize this role in the emerging markets and developing countries. So how can the private sector be engaged to the mutual benefit of all and with less volatility? Three broad considerations should help to find answers to this question:
• First, there should be no presumption about automatic bailouts either of countries or of lenders. The first line of defense against crises is the sound policies implemented by countries and good risk appraisal by investors.
• Second, the framework for the “involvement of the private sector” should shift toward “constructive engagement”—cooperation among borrowing countries, the private sector, and the official sector, especially during noncrisis times. This means a focus on crisis prevention and a shift of emphasis away from the coercive or punitive approach that some market participants seem to perceive as the meaning of “private sector involvement.”
• Third, in crisis situations, solutions should not be seen as arbitrary. Although it may not be possible to devise a comprehensive set of rules guiding all such cases, there will need to be broad principles that can be applied to avoid the perception of uneven treatment of creditors and countries.
These considerations, especially the search for “constructive engagement,” make it essential that the IMF and the private sector engage in a dialogue that is well informed and wide ranging. This should become a permanent feature of the IMF’ s work. Personally, I intend to meet with private sector groups in these early weeks on the job, which is why I value so highly today’s encounter. And we are establishing at the IMF a point of contact, the Capital Markets Consultative Group, to provide a forum for regular dialogue between market participants and the IMF’ s management and staff.