IMF

Moving public debt onto a sustainable path

*Debt problems began before crisis, will take years to fix

*Detailed long-term plans to reduce debt would help protect fragile recovery

*Credible action by countries essential to manage risks

The global economic crisis has eroded the government coffers of advanced economies and countries will need to return debt levels to a sustainable path to manage fiscal risks, foster long-term growth, and create jobs in the coming years.

The IMF said governments need to develop credible fiscal plans that focus on longer-term solutions, rather than on quick fixes, to protect the fragile recovery and reassure financial markets.

In some cases, a marked departure from the normal historical pattern of adjustment to rising public debt is needed to manage fiscal risks.

The research is part of the IMF’s ongoing analysis to help countries emerge out of the crisis and return to economic growth and more sustainable debt levels.

Long-Term Trends in Public Finances in the G-7 Economies, Fiscal Space, and Default in Today’s Advanced Economies: Unnecessary, Undesirable and Unlikely provide a comprehensive analysis of the fiscal challenges faced by different countries in the coming years.

Debt surges

“Public debt levels among advanced economies have reached levels not seen before in the absence of a major war,” IMF’s Fiscal Affairs Department Deputy Director and one of the authors of two of the reports Carlo Cottarelli said.

“The most indebted economies are approaching debt limits beyond which their fiscal positions may become unsustainable,” IMF’s Research Department Director and author of one of the reports Jonathan D. Ostry said.

General government debt in the G-20 advanced economies surged from 78 percent of GDP in 2007 to 97 percent of GDP in 2009 and is projected to rise to 115 percent of GDP in 2015.

The fiscal stimulus packages put in place to combat the worst effects of the crisis account for only one-tenth of the increase in public debt projected during 2008-15.

While debt is high, the IMF said default on sovereign debt would make little sense for advanced economies because the central problem in these countries is high primary deficits, not high debt service.

At the same time, the IMF cautioned that governments need to avoid complacency when their debt is close to its maximum sustainable level because there may be little warning from markets ahead of a very sharp spike in borrowing costs.

Legacy of issues

According to the global lender, the mismanagement of fiscal policy prior to the crisis lead to insufficient reduction of government deficits particularly during periods of strong growth and to debt accumulation, and left a legacy of debt issues for policymakers to address. As a result, countries will need to modify their past behaviour and clearly define their fiscal plans for the long-term, including pension and healthcare reforms.

A credible future course for policy that differs fundamentally from normal historical patterns is needed when fiscal space the difference between current and maximum sustainable public debt is limited.

While countries need to adjust their expenditures and revenues over the coming years, how they adjust will depend on each country’s individual economic circumstances, the IMF said.

New policies needed when fiscal space is sparse

Countries’ policy options depend in large part on how much fiscal space they have. History is not destiny, and limits to public debt are neither etched in stone nor a prediction that default is inevitable in cases of limited fiscal space.

They are nevertheless a wakeup call that policy cannot proceed on a ‘business as usual’ basis.

Credible action plans are also critical because financial markets may react with little warning in the case of countries whose fiscal space is limited. This implies the need to target debt levels that are well below the estimated debt limits, especially given the inevitable uncertainty surrounding such estimates.

Without a change to rein in large primary deficits public debt will spiral out of control, and governments could even risk their ability to tap the capital markets for sovereign borrowing.

Higher debt levels also could create negative feedback effects through higher interest rates and lower economic growth, putting at risk the recovery.

The IMF’s analysis should help identify both the extent of fiscal space remaining in advanced and the nature of fiscal strategies including cutbacks in spending, and for some countries, raising revenues needed to return public debt to a sustainable path and manage the risks associated with very high public debt.

IMF

IMF orders financial stability exams for 25 top economies

The International Monetary Fund (IMF) said Monday it would require 25 major economies to undergo financial stability exams every five years in a bid to avert global financial crises.

The IMF’s Executive board approved the move to switch from voluntary assessments to mandatory in-depth reviews for the world’s top 25 financial sectors, the IMF said in a statement.

The 25 economies were chosen based on the size of their financial sectors and their links with financial sectors in other countries, said the 187-nation institution.

In addition to the developed powerhouses such as the United States, Japan, Canada, Germany and other western European countries, the new mandatory review affects developing and emerging economies such as China, Hong Kong, Brazil, India, Mexico and Russia.

The group represents almost 90 percent of the global financial system and 80 percent of global economic activity, the IMF noted.

The stability assessments are a component of the IMF’s Financial Sector Assessment Program, which the Washington-based agency had offered on a voluntary basis to member countries.

The executive board decision makes the stability review mandatory for the 25 economies with “systemically important financial sectors” in an effort to contain financial risks as the global economy recovers from a severe financial crisis, the IMF said.

“The board’s decision represents an important part of the international community’s response to the recent crisis and will buttress our ability to exercise surveillance over a key aspect of the global economic machinery the financial system,” John Lipsky, first Deputy Managing Director of the IMF, said in the statement.

The IMF’s Financial Sector Assessment Program, created after the Asian financial crisis in the late 1990s, aims at detecting risks to a healthy financial sector in a particular country. The first programs were done in 2001.

The results are published by countries on a voluntary basis. The United States, at the center of the global financial crisis that erupted in 2007, faced criticism for its unwillingness to undergo an assessment until late 2009.

AFP