By John Lipsky
Every year at this time, senior Federal Reserve officials and central bank heads from around the world gather in Jackson Hole, Wyoming—together with leading economists from universities and the private sector—to hear presentations on key policy topics and to discuss the challenges facing the global economy. The spectacularly beautiful setting at the foot of the Grand Teton mountains provides calm and perspective.
Last year’s gathering took place on the eve of historic financial turmoil and subsequent economic downturn. One year later, it is clear that progress is being made to overcome the crisis, but also that many fundamental changes will flow from the past year’s challenges, even though the exact nature and course of these changes remain far from certain. The mountains’ grandeur remains unaltered, of course, providing inspiration while insinuating an appropriate sense of humility.
The story of the past year is well known: Faced with the very real possibility of a global financial meltdown, and the reality of the sharpest global economic downturn of the post-World War II period, policymakers around the world responded with a series of unprecedented actions—including massive monetary and fiscal stimulus, plus new governance initiatives. One year later, the signs are clear—if still tentative—of renewed growth, although opinions are divided regarding how effective specific policy actions have been, or about how soon the global economy will regain the pre-crisis level of output, or reestablish pre-crisis trend growth rates.
This year’s gathering naturally provided a welcome opportunity to review what has been done, to take stock of where things stand and to assess upcoming challenges. The timing is especially fortuitous, coming just weeks ahead of the Pittsburgh Leaders Summit, and of the IMF-World Bank Annual Meetings in Istanbul.
In my blogs this week, drawing among other things on my discussions with colleagues during the Jackson Hole Symposium, I’ll be covering three main topics:
- The near term challenges: While the worst has been avoided, the healing process is far from complete. Positive growth prospects for the coming year rest on the assumed implementation of a set of substantial policy actions and on private sector follow-through. Are those assumptions realistic?
- Restoring the financial sector: The recovery will remain inhibited until financial markets return to more normal functionality. While there are positive signs—such as the rapid improvement in some emerging market debt and equity markets—many key securitization markets are still impaired. Moreover, public sector aid to financial markets and institutions remains very large, but it is intended that this support will be temporary. What needs to be done to restore markets, and how soon can that occur?
- Addressing structural issues: Most important, structural changes in public policies and private markets will be needed in order to resume the unprecedented global growth of the past two decades—the so-called Great Moderation—and to protect against future turmoil. Among other things, this will require an assessment of the anti-crisis actions undertaken during the past year or so. At the same time, the fiscal policy challenges that will face all the advanced economies in the coming years will have to be dealt with, one way or another. What needs to be done in order to address these structural issues?
The past year has been notable for both the scale and breadth of the challenges, but also for the speed and scope of the response. As Fed Chairman Ben Bernanke pointed out in his Jackson Hole address, “the world has been through the most severe financial crisis since the Great Depression…. Unlike the 1930s...during the past year monetary, fiscal, and financial policies around the world have been aggressive and complementary.”
This aspect has been powerfully reflected in the G-20 Leaders process: Financial turmoil became acute in mid-September, and only two months later, the unprecedented Washington Leaders Summit laid out a detailed action plan. The London Leaders Summit in April underscored the G-20 authorities’ determination to act decisively and cooperatively to reverse the global downturn.
Without any doubt, the mood in Jackson Hole was more upbeat than it would have been even a few months ago. Policymakers and central bankers can see that global growth prospects are reviving, and they sense that their actions are bearing fruit. Second quarter data for the largest advanced and emerging economies show either positive GDP growth or moderating rates of decline. Financial markets reflect a sharply improved assessment of overall risks. At this point, the global economy appears to be on a track consistent with the Fund’s World Economic Outlook (WEO). The WEO forecast anticipates a return to moderate global growth of around 2.5% in 2010, following a contraction of about 1.5% this year. Considering the risks faced a year ago, this is not a small achievement.
However, even this moderate outcome can’t be taken for granted. As the IMF’s recent Fiscal Monitor, “The State of Public Finances: A Cross-Country Fiscal Monitor,” points out, a substantial proportion of the discretionary spending measures pledged as part of the G20 support efforts—and assumed in the WEO forecast—are still to come. At the same time, a revival of private sector spending—including both consumption and business investment—will be essential for the recovery to take hold. That will require the normal cyclical incentives of profitable prospects and attractive financing.
With inflation threats distant, there is little doubt that central bankers intend to keep policy interest rates very low for some time to come: one takeaway from Jackson Hole this year was policymakers’ consensus to sustaining the current monetary stimulus, and to stand ready to act further, if needed. This is true regardless of the uncertainty about the potency of accommodative monetary policy under current circumstances. Moreover, opinions diverge about the efficacy of so-called unconventional measures.
Over the past thirty years, the Jackson Hole Symposium played a notable role in forging a consensus among monetary authorities on the conduct of monetary policy, as the Taylor Rule and inflation targeting approaches supplanted an earlier focus on monetary aggregates. The current crisis has raised questions about whether a classic Taylor Rule or inflation targeting regimes are sufficient (if augmented by reformed financial regulation) to avoid future financial instability. For sure, there is virtually unanimous support for an overhaul of financial regulation. As always in these matters, however, the devil is in the details, and much work remains to be done. In my next post, I’ll discuss the efforts under way to restore the banking sector and financial markets, particularly securitization markets, without which any rebuilding effort will be incomplete.
Looking ahead, additional hurdles will have to be faced. As the Fund’s Economic Counselor Oliver Blanchard has discussed recently in the IMF’s Finance & Development magazine, the crisis may leave a painful legacy of reduced potential growth. At the same time, the inevitable renormalization of the U.S. household saving rate implies that domestic demand gains elsewhere—particularly in emerging Asia—likely will be required in order to reestablish and sustain a strong global expansion. Moreover, the past year’s events has brought into higher relief the fiscal policy challenges facing the advanced economies in the coming years as a result of the prospective buildup of public indebtedness.
I’ll address these issues in a subsequent post.