September 18, 2011How the IMF Could Try to Bolster Economy
The International Monetary Fund's new chief, Christine Lagarde, has a chance to make a splash this week as finance ministers and central bankers from around the world gather in Washington for the IMF's annual meeting. The overriding question: How to stop the global economy from sliding back into recession?
IMF managing directors are usually a cautious lot, who take their cues from the leaders of the fund's 187 member nations, especially its most powerful ones.
But Ms. Lagarde seems to be willing to take greater risks—for instance, calling for Europe to recapitalize its banks even though French and German government officials, worried about the reaction at home to another bailout, rebuffed her.
Among the steps she could take:
• Make the world safe for stimulus again.
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That would entail an about-face for the IMF, which has spent the last year or two arguing that nations needed to make deficit-reduction goal No. 1. Its exhortations gave a strong boost to the austerity crowd. Then worries about credit ratings led some nations, such as the U.K., to slash budgets quickly.
Now austerity is weighing on growth prospects. The British economy contracted late last year, raising doubts about its recovery from the recession. Some forecasters warn that the U.S. in the coming year will run perilously close to a contraction, too, if it allows existing tax cuts and other stimulus to end this year. While escalating debt loads are a long-term problem, Ms. Lagarde has already started to argue that nations desperately need to revive growth while dealing with longer-term deficits.
"In many corners" of the world austerity was instituted "in too harsh a way" without letting growth take hold, she said last week. But she's been wary of directly criticizing the U.K.'s approach, diluting her message in the usual IMF fashion of not offending big shareholders.
"The problem is the Europeans are very split and there's a big split in the U.S." on stimulus, said Massachusetts Institute of Technology economist Simon Johnson, a former IMF chief economist. "Both those things make the IMF uncomfortable."
• Press Europe to stop dithering.
Markets are starting to bet that European lawmakers won't be able to muster the will to take decisive action by boosting the scope of their bailout fund or at least demonstrating that governments have the firepower to keep their banks from failing.
"The core of the issue is political and institutional," said Nicolas Véron, a senior fellow at Bruegel, a Brussels-based think tank. "This is the really challenging aspect of the current situation."
Europe needs to create a tightly coordinated fiscal policy among nations, even though European voters are wary that would mean something akin to a United States of Europe. Ms. Lagarde, a former French finance minister who is in the honeymoon phase of her IMF presidency, has credibility in Europe. Her task: come up with a specific plan for a tighter union, which she could argue benefits ordinary Europeans.
The IMF has been analyzing proposals to package European debt into a financial vehicle to be backed by the governments together through a European rescue fund, instead of forcing the troubled nations to stand alone with their existing debt. That could be a start.
• Convince the BRICs to take a bigger role.
The big emerging-market nations—Brazil, Russia, India, China—have a treasure chest of money and growing political clout. Naturally, some European governments look to them for financial support when others are hesitant.
It's unrealistic to think these countries will bail out Europe and take risks with their citizens' money that others in the market won't. But it's hardly naïve to think they could become part of a European solution.
That could involve buying some bonds—thus making concrete their support—and, in the case of China, picking up the pace of its currency revaluation.
Chinese Premier Wen Jiabao knows a deal when he sees one and has hinted that China might boost purchases if Europe gave it some trade preferences. That particular deal may be a lousy one for Europe, but it suggests Beijing's willingness to get involved. China and Brazil worry that a global slowdown could hurt its exports and put even more pressure on its currency to appreciate.
With its $3.2 trillion in reserves, China "has much deeper pockets than the IMF," said Harvard economist Kenneth Rogoff, also a former IMF chief economist. "But it's very tricky politically [for it] to get intertwined" in Europe's affairs. That's, in part, because ordinary Chinese earn a fraction of the salaries of Europeans and wonder whether impoverished China should bail out wealthy Europe.
Still, it's up to Ms. Lagarde to convince emerging markets that it's their interest and responsibility to help Europe in some fashion.
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