Speech

"Back to Rio- the Road to a Sustainable Economic Future" By Christine Lagarde, Managing Director, International Monetary Fund

June 12, 2012

As prepared for delivery

Good morning. It is a great pleasure to be here. I would like to thank the Center for Global Development for sponsoring this event. The Center does really great work under the inspiring leadership of Nancy Birdsall. Thank you, Nancy.

It has been twenty years since world leaders first went to Rio to commit to the noble goal of protecting the planet for future generations. And now, twenty years on, we will be journeying back to Rio to affirm our commitment to sustainable development—the idea that we should strive for economic growth, environmental protection and social progress at the same time. The idea that different economic, environmental, and social objectives can be seen as distinct aspects of a single vision, essential parts of a connected whole.

But while those bound for Rio might have the best of intentions, they do not face the best of circumstances.

Today, I believe that we are facing a triple crisis—an economic crisis, an environmental crisis, and, increasing, a social crisis. The global economy is still rocked by turmoil, with uncertain prospects for growth and jobs. The planet is warming rapidly, with unknown and possibly dire consequences down the line. Across too many societies, the gap between the haves and have-nots is getting wider and strains are getting fiercer.

Although distinct, these different threats feed off each other in an intricate interplay. We cannot address each in isolation. We need to generate a virtuous and avoid a vicious circle.

And here I would argue that we must start with the basics—from a platform of restored economic stability and growth. From that base, we can achieve green growth and inclusive growth—the building blocks of our sustainable and equitable economic future.

So let me talk about three things this morning:

• Getting the basics right.
• Getting the pricing for a green economy right.
• Getting growth right—making it more inclusive.

1. Getting the basics right

Sustainable development must spring from macroeconomic and financial stability, which in turn paves the way for robust growth and a productive economy. This is the first key step of the journey.

Of course, it is of overwhelming importance today. Over the past four years, we have been mired in the worst economic crisis since the Great Depression. Great uncertainty hangs over global prospects. Too many regions today are still stuck in a trap of low growth and high unemployment.

Right now, 200 million people worldwide cannot find work, including 75 million young people trying to take their first step on the ladder of success.

So we need a strategy that is good for stability and good for growth—where stability is conducive to growth and growth facilitates stability.

This must start with the advanced economies, especially in Europe. Policymakers need to take decisive steps to break free of the crisis. This has a number of aspects.

First, they need to rekindle demand today, to get the growth engine up and running again. This requires a combination of (i) very accommodating monetary policy, (ii) use of common resources to provide direct support to banks, and (iii) when fiscally available, growth-friendly policies.

In this context, fiscal stability is incredibly important. Policymakers must lay out a credible medium-term plan to lower public debt. Without such a plan, countries will be forced to make an even bigger adjustment sooner.

Second, they must make sure that any spark to demand today leads to sustained growth tomorrow, which means reforms on the supply side to boost the productive capacity of the economy: Product market reforms, especially in non-traded sectors and in regions lacking competitiveness. Labor market reforms, especially so that disenfranchised groups like younger and older workers can regain their footing.

The rest of the world also needs to invest in stability and growth. Most developing countries are doing relatively well right now, and are a source of strength and stability. But if conditions in the advanced economies continue to deteriorate, these countries will face a cold chill.

They must stand ready, to rebuild the policy buffers that served them so well during the crisis. Those with fiscal space should prepare to use it, especially if conditions continue to deteriorate.

Developing countries also need more economic diversification and trade integration, and greater investment in infrastructure. The infrastructure needs for sub-Saharan Africa, for example, amount to around 15 percent of the region’s GDP. A huge challenge, but not insurmountable.

The international community must continue to help these countries help themselves. For our part, the IMF will continue to stand by them. When the crisis first broke, we responded to the needs of our low-income members with quadrupled lending, doubled access limits on loans, and zero interest rates, which have been extended to the end of this year. We also use our resources to help countries cope with the economic consequences of natural disasters—I am thinking of places like Kenya and Burkina Faso.

Now the IMF needs more resources for concessional lending, to help vulnerable countries navigate an increasingly volatile world. This is one of my top priorities.

2. Getting the green economy right

So, first and foremost, we need to get growth going again—but on a different track than before the crisis. We are all aware that economic growth can potentially harm the environment and that environmental degradation can in turn hurt economic performance. We need to get the green economy right.

Climate change is clearly one of the great challenges of our time, one of the great tests of our generation.

For the world’s poorest and most vulnerable people, climate change is not some distant possibility. It is a present reality.

Look at Africa. This is the continent that contributes least to climate change, and yet suffers most from it. It is among the regions most at risk from natural disasters. It is the region with the highest rainfall volatility—and the region that desperately needs the rain for agriculture, growth, and employment.

The writing is on the wall for all to read. We already see warning signs of desertification, recurrent drought and flooding, low crop yields, disease, and population displacement.

And it could get much worse. For example, the United Nations estimates that the hit to agriculture in Southern Africa could lead to nearly a million more undernourished children.

Look at the threat to the global economy and peoples’ lives from rising water levels. Across the world, about $3 trillion in valuable assets lie at or below three feet above sea level—a precarious location in a warming world. Once again, it is the world’s poorest and most vulnerable people who will end up paying the steepest price.

Environmental problems, of course, do not end with climate change. In India, for example, pollution from coal generation plants causes about 70,000 premature deaths a year.

So what should we do? Let me start by noting that the IMF is not an environmental organization. But we cannot ignore the extensive human suffering and the misallocation of resources that leads us down the wrong path.

Perhaps we can help with a simple concept that everybody can understand—getting the prices right.

The late Nobel Prize winner Wangari Maathai put it succinctly: “The generation that destroys the environment is not the generation that pays the price. That is the problem”.

Getting the prices right means using fiscal policy to make sure that the harm we do is reflected in the prices we pay. I am thinking about environmental taxes or emissions trading systems under which governments issue—and preferably sell—pollution rights. It is basically a variation of the old mantra: “you break it, you buy it”.

You can read more about this in a new IMF e-book on carbon pricing, which we are launching today and which is intended as a practical guide for policymakers. You can find this on the IMF’s webpage, by following the link to Rio+20.

This kind of environmentally-sensitive fiscal policy has two distinct advantages.

First, it is the best and most comprehensive route to reducing environmental damage. It changes relative prices and provides a powerful incentive to change. It can also galvanize clean technology development and deployment by the private sector, such as investments in energy efficiency and renewables. This is confirmed by experience in many countries.

A push toward greener investment can be a great boon to developing countries. There is a lot of scope for filling infrastructure gaps in places like Africa with clean technology—this leads to higher growth and greener growth, the best of both worlds.

Second, in these difficult budgetary times, countries need revenue and these kinds of tax or tax-like instruments can deliver. In the United States, for example, a carbon tax of about $25 per ton of CO2—which would add 22 cents to a gallon of gasoline—could bring in about 1 percent of GDP, or over $1 trillion over a decade. Charges on international aviation and maritime emissions would raise about a quarter of the $100 billion needed for climate adaptation and mitigation in developing countries—resources that developed countries have committed to mobilize by 2020.

At present, however, we are only at base camp in terms of getting the prices right. Right now, less than 10 percent of worldwide greenhouse gas emissions are covered by formal pricing programs. Only a handful of cities charge for the use of gridlocked roads. Farmers in rich countries are undercharged—if charged at all—for increasingly scarce water resources.

Many countries continue to subsidize polluting energy systems. These subsidies are costly for the budget and costly for the planet. Countries should reduce them. But in doing so, they must protect vulnerable groups by tightly focusing subsidies on products used by poorer people, and by strengthening social safety nets.

As we move forward, there is much work to be done at the technical level, in terms of the appropriate design of taxes and tax-like instruments to get the prices right. The IMF will play an active role in this. We have an upcoming side event in Rio, plus another event with the United Nations Environment Program later this year. At both events, we will be talking about the use of fiscal policy, and reform of energy subsidies, to promote green growth.

I have asked my staff, in collaboration with others, to put principle into practice—by coming up with actionable guidance for both developed and developing countries on precisely how to get these prices right, or at least much better. I expect interim results by the end of this year, with a final report within twelve months.

Together with the United Nations and the World Bank, we are also working hard on the issue of natural resource accounting, to make sure we can properly measure the incomes and costs associated with natural resources and how extraction affects national wealth.

3. Getting inclusive growth right

This brings me to my third point today—the need to make growth more inclusive. This means making sure that all share in the fruits of prosperity and that all are given the opportunity to fulfill their potential.

Without this, the social threads that bind society together can rip apart, with devastating economic consequences. Indeed, recent research¹ shows that countries with more equitable distributions of income are associated with greater macroeconomic stability and more sustainable growth over the longer term. It is all bound together.

Clearly, jobs must be at the forefront of any strategy for inclusive growth. Decent and steady employment is the sure foundation of human dignity, the best avenue to rewarding and fulfilling lives.

So we are working on ways to spur both growth and jobs, and to make sure that the growth we get produces the jobs we need. This affects all dimensions of policies—labor market, fiscal, monetary, financial, trade, and macro-prudential.

We are not a labor institution, and we should not become one. So we are collaborating closely with the International Labor Organization on employment and labor market issues. We are also working with the International Trade Union Confederation, which represents the world’s unions during these difficult days.

We are also looking at other ways to help promote more inclusive growth—including better access to trade and finance, better transparency and governance, and better social protection. For example, we are looking at the role played by governance and the business environment in making growth more inclusive among the Arab transition countries.

On the fiscal side, we have new research showing that government spending and taxes play a vital role in reducing inequality, especially in advanced economies.² At a time of tightening budgets, it is imperative to keep distributional implications in mind. Options here

include reducing tax evasion and avoidance, making income taxes more progressive at high income levels, and protecting the kinds of social transfers that promote a more even income distribution.

As well as advanced economies, developing countries too need to allocate public spending on social safety nets. In these countries, social safety nets might be all that stands between survival and catastrophe.

To make these reforms possible, countries need to mobilize more revenue. We think an extra 2-4 percent of GDP is plausible³, based around reforms like streamlining tax codes and procedures, getting rid of exemptions, and strengthening revenue and customs administration.

They also need to target spending to the people who need it most—by moving away from universal price subsidies, especially on energy, and moving toward effective and targeted social programs such as conditional cash transfers. As a good example, Iran slashed its enormous energy subsidies and compensated the population with cash transfers. Mozambique is also phasing out poorly-targeted fuel subsidies and using the savings to improve social protection.

We take these issues seriously in the programs we support. For instance, spending on health and education rises faster in countries with IMF-supported programs than in developing countries as a whole⁴. Over an average five year program period, health spending rises by 1 percentage point of GDP, and education spending by ¾ percentage point. Obviously, it is the countries themselves that deserve credit for this—our job is simply to help them along the way.

We are also collaborating closely with the International Labor Organization, the World Bank, and other United Nations agencies on the social protection floor initiative, which helps poor countries set up basic levels of protection at an affordable cost. This is a crucial first step in the right direction. At the end of the day, social protection should not be seen as a cost but as an investment—an investment in sustainable development.

Conclusion

Let me conclude by saying that behind sustainable development lies a bold vision of the future. The future we want, as Ban Ki-Moon puts it.

It is about the vitality of our global economy, the harmony of our global society, the nurturing of our global inheritance.

It is about laying the foundation so that every single person can flourish and reach their true potential.

Once again, Wangari Maathai said it best: “We are called to assist the Earth to heal her wounds and in the process heal our own—indeed, to embrace the whole creation in all its diversity, beauty and wonder. This will happen if we see the need to revive our sense of belonging to a larger family of life.”

We all belong to this larger family of life. Rich nations and poor nations. Economists, environmentalists, and social policymakers. Public sector, private sector, civil society, and international organizations. We must all come together and work together.

For in the end, we all share the same goal—to make this small planet we call our home a better place for this generation and for generations to come.

Thank you.

¹ Berg, Andrew and Jonathan Ostry (2011), “Inequality and Sustainable Growth: Two Sides of the Same Coin,” IMF Staff Discussion Note No. 11/08; Kumhof, Michael and Roman Ranciere (2010), “Inequality, Leverage, and Crises,” IMF Working Paper No. 10/268.

² Bastagli, Francesco, David Coady, and Sanjeev Gupta (2012), “Income Inequality and Fiscal Policy,” IMF Staff Discussion Paper, forthcoming.

³ “Revenue Mobilization in Developing Economies,” IMF Fiscal Affairs Department, March 8, 2011.

⁴ Clements, Benedict J., Sanjeev Gupta, and Masahiro Nozaki (2011), “What Happens to Social Spending in IMF-Supported Programs?” IMF Staff Discussion Note No. 11/15.