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9 October 2017

Ex­it from the ex­traor­di­nary

Dr. Ludger Schuknecht, former Chief Economist at the German Finance Ministry
Ludger Schuknecht, former chief economist at the German Finance Ministry

By Ludger Schuknecht

Same procedure as every year: Mid-October, policy makers from all over the world will come together in Washington to deliberate on the right way forward in global macroeconomic policy. But is the current debate still in line with the goal of global financial stability, which depends on a resilient global economy?

On the one hand, there are voices that keep calling for a continuation of monetary stimulus to support an economic recovery that has long been underway already. On the other hand, the IMF’s global financial stability review rightly points to increasing risks to financial stability resulting from over-expansionary monetary policy. Search for yield by investors around the world, risk of fiscal dominance looming for central banks, misallocation in the real economy all put our common goal of strong, sustainable, balanced and inclusive growth at risk.

Many institutions do not quite as resolutely call for debt reduction, when public debt in advanced economies is at all-time highs and output gaps in most major economies are more or less closed. They still talk about using fiscal space even in economies at full capacity and with major aging-related challenges while emphasising more public, not private, investment.

Perhaps it is worth recalling the run-up to the crisis that hit the world after 2008. Many years of loose monetary and fiscal policies and a blind eye towards regulatory shortfalls had eroded stability in the financial system and the safety of public finances. In Europe, the resulting financial crisis quickly turned into a fiscal crisis.

Discussions in the G20 seem more advanced in this regard. Under the German presidency, Ministers have endorsed a comprehensive set of principles to increase the resilience of our economies. They have understood how important it is to have truly sustainable growth, to avoid excessive vulnerabilities, and to be in a position to absorb severe shocks. Much emphasis is being put on strengthening private investment, including in infrastructure.

We urgently need to regain credibility, especially in fiscal policy. How do we do that? Certainly not in the form of kicking the can further and further down the road, as the often granted advice of ‘medium-term fiscal anchors’ might be understood. It seems that it is never a convenient time for this medium term to start.

In this context the central message of this year’s Global Policy Agenda of the IMF’s Managing Director, to use the current window of opportunity of strong and broad-based growth to “repair the roof when the sun is shining” is most welcome and appropriate. To achieve this, to make use of the good times to reduce debt and undertake necessary structural reforms, we need a commitment device. Only rules-based fiscal policy can shield politicians from clientele claims and own temptations.

Needless to say, setting principles or paying lip service is not enough. Implementation is always the hardest thing. Politicians often have a commitment problem in this regard. In crisis mode, it is easy to throw all rules overboard. But at some point one has to get back to normality, otherwise side-effects from “drugs” of accommodation and deficits become too pronounced and addiction sets in: It is high time, especially given usual decision and implementation lags.

That has to go hand-in-hand with growth-friendly policies. After many years of demand stimulus around the globe, we need to strengthen the foundations of sustainable growth. Money alone cannot do the trick. Sound domestic institutions, functioning legal and judiciary systems, efficient administrations are needed. That’s what we should focus on to further promote growth in our economies.

It would be an excellent time this autumn to get a strong commitment from Washington to put an end on excessive debts and loose policies. If we want to press ahead with what is really needed, we need an exit from the extraordinary now.