Global economic crisis:

WB economist on how developing countries should act

Ramani KANGARAARACHCHI

The global economy is in crisis without any doubt, according to the latest data and to the question of what can developing countries do, depends on the initial situation, nature of vulnerability and implementation capacity said Senior Country Economist, World Bank Claus Astrup.

He was speaking at a seminar on “International Response to the Global Economic Crisis” at the Taj Samudra Hotel organized by the Institute of Policy Studies Sri Lanka on Wednesday.

He said that many countries have eased the monetary policy, and let their exchange rate depreciate, but since the crisis is global, developing countries cannot overcome it on their own. The monetary policy may be less effective at present because the financial nature of the crisis weakens the traditional monetary transmission mechanism.

In many countries, the monetary policy was already quite loose, so room for lower policy rates may be small and in open capital account countries, lower interest rates may further spur capital outflows, he said.

The exchange rate depreciation can help spur export-led recovery and protect reserves, but puts upward pressure on domestic prices, it can create expectations about future depreciations and is clearly not an option to the world as a whole.

Astrup said that no strong empirical evidence that one stimuli has a large multiplier effect and situation is one of extraordinary uncertainty.

Therefore, perhaps it is not surprising that emphasis of stimuli packages vary considerably among countries. India and Sri Lanka have given greater emphasis on supporting particular industries, including labour intensive and export oriented business, Thailand aimed at poor households and China and Malaysia mainly increased government spending on infrastructure.

According to Astrup, fiscal stimuli packages need to be carefully designed and executed in particular because it is critical to maintain medium term fiscal sustainability or stimuli can backfire. It should be based on measures that are reversible and have credible sunset clauses, including expanding scope of automatic stabilizers which by definition are country cyclical.

Also the related, watch for risk of capture by vested interests and perceptions of creating an uneven playing field.

It is important to keep an eye on the medium term financial sector regulation, efficiency of tax system, strengthening business environment, rationalize public spending and improve public enterprises, he said.