Speech

Reflections on Globalization, Spain, and the IMF -- Speech by Eduardo Aninat

June 29, 2001

Español

Thank you for inviting me to join your conference. Spain is a most fitting location to reflect on international economic developments, given its spectacular embrace of the global economy over the past few decades, and its remarkable political transformation—allowing it to assume its rightful place among the leading democratic nations. In my remarks today, I would like to look at the opportunities and risks of globalization; what globalization has meant for Spain and others; recent world economic trends; and how the international community can help spread the benefits so that far more can enjoy the unparalleled prosperity of the past 50 years.

What exactly is globalization? It could be defined as the increasing integration of activities—especially economic activities—among nations around the world. The driving forces have been improvements in technology (especially in transportation and communication); a desire by people to take advantage of the opportunities provided (whether through trade, migration, investment, and acquisition of knowledge); and in recent decades, the lowering of barriers to international trade and capital flows.

Globalization, of course, is not new. But what is different about the current episode is the enormous impact that new information technologies are having on market integration, efficiency, and industrial organization—along with its implications for human capital development. What is also different is the rapid pace. Since World War II, trade has been a major driving force in economic growth, with global trade expansion proceeding at twice the pace of global output growth. This has gone hand-in-hand with greater internationalization of production, an expansion in the trade of services, the emergence of developing countries as producers and exporters of manufactures, and the explosive growth of international capital flows.

The world as a whole has benefited greatly from this openness. Globally, real per capita incomes have roughly doubled since the mid-1960s, with those in developing countries growing, on average, just as fast as those in industrial countries. The strong consensus among policymakers and economists today is that outward-oriented strategies are essential for achieving the sustained economic growth needed to raise living standards. Indeed, it is difficult to find evidence of a single country that has significantly raised living standards for its people, on a sustained basis, without sharply improving its trade and investment performance. Conversely, despite the skepticism of some, we think the evidence supports the view that more open economies grow faster than closed ones, and that faster growth is essential, although not sufficient, to reduce poverty.

But all this is not to question in any sense that there are very real risks associated with globalization. Let me mention a few.

• There is the risk of overstretching the abilities of societies and political structures to adapt.

• There is the risk that excessively volatile capital markets will trigger financial crises that can much more easily ricochet from one country to another.

• There is the risk that the benefits of globalization will be concentrated among the few, not the many. At the start of the 21^st century, 1.2 billion people worldwide still live on less than $1 per day, a number that shows no sign of falling. In Africa alone, one in seven children will die before his or her fifth birthday. This is unacceptable!

• There is the risk that diseases, like AIDS, will spread globally at frightening speeds.

• There is the risk that crime will become internationalized, as we are already seeing with controlled substances, leading in turn to problems such as money laundering.

• And there is the risk that expectations will not be met. A recent U.S. study on Peru, for example, found that a large proportion of respondents who enjoyed income gains—some on the order of 100 percent—over the last 15 years still felt that they were no better off.¹ Similar findings were made for Russia in the second half of the 1990s. This raises complex questions surrounding the "frustrated middle-class."

Thus, our principle challenge, as put so nicely by Nobel Laureate economist Amartya Sen in a recent lecture, is "how to make good use of the remarkable benefits of economic intercourse and technological progress in a way that pays adequate attention to the interests of the deprived and the underdog."² In the case of Latin America, I might add, this challenge centers on taking advantage of technological changes to overcome economic and social torpor, revitalize forces of modernization and change, and enhance social mobility.

During the 1990s, many Latin American countries took far-reaching steps to better integrate and quickly began enjoying the fruits. Look at Mexico, which joined the North American Free Trade Agreement (NAFTA) in 1994. Since the 1994-95 economic crisis, it has enjoyed an impressive rebound in capital flows—chiefly FDI—with growth up markedly, averaging around 5 percent a year. Besides boosting growth and competitiveness, NAFTA has helped anchor Mexico's commitment to its political, economic, and social reforms.

Take Chile. In the 1990s, tariffs fell from 15 percent to 9 percent, and are set to drop to 6 percent by 2003. This was on top of bilateral free trade pacts with Mercosur, Mexico, Canada, and others. What was the payoff? It allowed the agriculture sector to import the technology needed to become export-oriented and profitable. A side benefit was that working with better technology built up human capital. How did Chile maintain political support? One way was making trade reform part of a comprehensive program—including compensation mechanisms for those hurt by trade liberalization, and the rebuilding of social institutions (such as pension reform). Another way was careful political consensus building.

The case of Spain

But Spain no doubt is the star performer in the Spanish-speaking world when it comes to making a dramatic leap into the economic "big leagues"! Let me cite a few examples.

• Spain is catching up with its European peers. Its per capita GDP has jumped from about 75 percent of the EU average in the mid-1970s to nearly 87 percent now, with most of the increase taking place just in the last five years. The economy has been growing at an average 4 percent annual rate over the last four years, and should grow at around 3 percent this year.

• This progression up the development curve has gone hand-in-hand with a dramatic change in which goods Spain exports. While the export of foodstuffs fell from 53 percent of total goods exports in 1964 to 13 percent by 2000, the share of nonfood consumer goods in exports more than doubled [12% to nearly 28%], and the export of intermediate goods (other than food and energy) doubled [21% to 42%].

• Trade plays a far more important role in Spain's economy, with exports (of goods and services) plus imports shooting up from 27 percent of GDP in 1970 to 62 percent in 2000. This increase is most impressive!

• We also see major changes on the services front. Spanish banks³ are increasingly playing a prominent role in Latin America, with these banks now controlling nearly 20 percent of Latin America's banking sector. Indeed, subsidiaries of these banks are among the largest banks in Argentina, Chile, Mexico, and Venezuela. In addition, major Spanish firms like Repsol-YPF (energy) and Telefonica (communications) are investing heavily in Latin America.

• Facilitating this flow of capital from Europe to Latin America, a stock exchange recently opened in Madrid (the Latibex) to enable Latin American firms to be listed in Europe with prices quoted in euros.

• Moreover, Spain's foreign direct investment has shot up in the last decade from less than 1 percent of GDP to nearly 10 percent, and inward FDI has risen from just under 3 percent of GDP to nearly 7 percent. Spain has gone from being a net importer of investment on the order of 2 percent of GDP annually to being a net exporter on the order of 3 percent. Indeed, Spain is now the sixth largest investor in the world, trailing only the United Kingdom, the United States, France, Germany, and the Netherlands. It is also the twelfth largest donor of official development aid and the eighth largest contributor to the UN.

Why did Spain arrive with a splash? No doubt globalization and a desire to integrate with the rest of the world—after a long period of protectionism and political and economic isolation—was a driving factor. Of course, this didn't happen overnight but rather reflected a carefully calculated act of faith spread over many decades that has paid off. What are the landmarks? Let me mention four.

First, trade liberalization. This began with the 1959 stabilization plan and the return of European tourists after the upheavals of civil and world wars. As our colleague Mr. de la Dehesa reminds us, Spain was more open in 1913 than in 1960, with Turkey the only OECD country less open than Spain at the time. The process of liberalization was gradual and moved in stages, as Spain set its sights on integrating with the rest of Europe and partook in the global trade rounds.

Second, Spain's integration into the European Union (EU). This resulted in a very intense period of trade reform, with administered trade regimes being abandoned and tariff structures being brought into line with EU requirements. Earlier, Spain had joined the IMF, World Bank, and OECD (1958-1959), had signed a preferential accord with the European Community (1970), and had also entered into an accord with EFTA (1979).

Third, changes in the legal system. These were substantial in the early 1990s as Spain brought its laws into line with EC standards, and updated and reformed its laws to make them as complete, functional, and modern as those of its peers. Key changes included the liberalization of its exchange control system, the liberalization of foreign investment in Spain and Spanish investment abroad, and the overhaul of its securities law.

Fourth, changes in monetary policy and status of the central bank. Spain's monetary policy underwent numerous transformations over the years as the economy gradually opened up. From 1973-83, the government followed a monetary policy that was characteristic of a relatively closed economy, concentrating on the control of broad monetary aggregates. Between 1984 and 1989—when growing financial innovation made ensuring the stability of the financial system an increasingly important goal—monetary policy gradually began to focus more on interest rates and exchange rates. This process culminated with Spain entering the European Monetary System in 1989, putting the emphasis of monetary policy largely on the exchange rate. In 1994, parliament recognized the principle of central bank independence, switching the focus of monetary policy to price stability, but keeping Spain within the framework of the EMS. In 1995, Spain successfully implemented an inflation-targeting regime. Finally, in 1999, Spain became a founding member of the euro.

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This careful planning has paid off with Spain significantly outperforming its euro-area colleagues in most respects. Even a casual glance at the data makes clear that Spain stands close to the head of the class. Over the last four years, real output has grown at an annual rate of 4 percent, and over the last six years, it has grown faster than for the euro area as a whole for each and every single year. Over the same period, real exports have grown by an average of 10 percent annually, about one-third better than for the euro area as a whole. Indeed, it was the strong growth of real exports in the mid-1990s that led off the current economic expansion.

Spain also deserves high marks for putting its fiscal house in order. Over the last five years, the budget deficit has declined from 6.6 percent of GDP to just 0.3 percent of GDP—a major achievement by any standard—with the government hoping to achieve fiscal balance this year. In addition, the ratio of debt to GDP, which in the mid-1990s stood at 68 percent of GDP, has now declined by eight percentage points, and further declines are in the offing. Of course, other countries in the euro area have also made great strides on the fiscal front in recent years. But Spain has managed to do so by relying relatively more on expenditure cuts than revenue increases.

To be sure, significant challenges still remain. On the job front, although employment has shot up in recent years (averaging 3½ percent annually since 1995, an astounding three times the euro-area average), the unemployment rate stands at a very high 13.4 percent, with significant human and social costs. But keep in mind that as recently as 1996, the rate of unemployment averaged more than 22 percent. Spain was able to turn this around thanks to wage moderation on the part of workers, better labor relations, and substantial labor market reforms that reduced dismissal costs and social security contributions for certain classes of workers. Further reforms are now needed to continue to reduce dismissal costs, enhance labor mobility, and decentralize the collective bargaining process. And Spain must continue to tackle regional disparities.

Spain should also move quickly to dampen inflationary pressures, as its persistent inflation differential relative to the monetary union average could lead to an erosion of exporters' competitive position in the medium term. Although this higher rate could be a natural outgrowth of the process of income convergence between Spain and the rest of the euro area, it is difficult to find support for this contention in the data. Thus, continued fiscal discipline and product market reforms to enhance competition and efficiency are in order.

As Spain now charts it way forward, it must do so with a world economy undergoing a critical period of adjustment. The engine of global growth over the past 10 years—the U.S. economy—is sputtering, with no other region taking its place. The IMF is forecasting world growth of around 3 percent this year, significantly lower than was generally foreseen last year. This is down from its 12-year high in 2000 of 4 ¾ percent, but still roughly in line with the average growth rate over the past two decades. On the plus side, the timely U.S. interest rate cuts and tax relief should help facilitate a pick up in the second half of this year, gaining momentum in 2002. Moreover, global inflationary pressures remain manageable, allowing room for maneuver in monetary policies. But on the negative side, oil prices still remain high, substantial current account imbalances remain among the major industrial countries, Japan's situation appears increasingly difficult, and stock markets remain volatile.

Against this background, can the euro area manage growth around its underlying potential of 2.5 percent this year? The recent slowdown of industrial production, particularly in Germany, combined with rising headline inflation gives rise to concern. While the recent increase in headline inflation may limit the scope for aggressive monetary easing by the European Central Bank, a further weakening of activity, or signs that underlying inflation is abating, would allow scope for additional rate cuts. The main policy priority, however, remains that far more is needed in terms of ambitious reforms to get rid of structural rigidities, especially in labor markets, pension systems, and product markets. Moreover, Europe should be aiming at boosting potential growth to well over 3 percent—an increase that would significantly lower unemployment, strengthen the euro, and help strengthen the global economy.

What the international community needs to do

So how can the international community help spread the benefits of globalization? Industrial countries should practice what they preach, and open up their own economies, especially in areas where developing countries have a clear and demonstrated comparative advantage—agriculture, processed foods, textiles and clothing, and light manufactures. A reduction in trade barriers by 50 percent globally would yield welfare gains in the order of an estimated $400 billion annually for the global economy—with developing countries capturing one-third of these gains! That is why developing countries should push for a new global trade round, a so-called "development round." Meanwhile, the IMF supports calls for the poorest countries to have duty- and quota-free access to industrial country markets. Here we welcome the EU's recent initiative. It is also political and economic madness for OECD countries to spend around $360 billion a year on agricultural subsidies—roughly equivalent to the entire GDP of sub-Saharan Africa.

Industrial countries should also deliver on their long-promised increase in official development aid to the targeted level of 0.7 percent of GDP. And they should follow through on their pledges for debt relief to the poorest countries—here, we welcome the decisions by a number of G-7 countries to forgive 100 percent of bilateral debts. Of course, debt relief is no panacea, but it will give these countries a leg up in their fight against poverty. Ultimately, poverty reduction will hinge on countries helping themselves ("self-help") and the international community supporting those that help themselves ("help for self-help").

Of course, the IMF has a vital role to play in the team effort to spread global prosperity. The spotlight is now on crisis prevention in the wake of the financial turbulence of the 1990s. Let me flag a few initiatives.

• First, the IMF has been beefing up its monitoring of national economies. One particularly innovative effort—jointly with the World Bank—is "health checks" of a country's financial system, or Financial Stability Assessments. We want to know how well the financial system would handle adversity, and get a reading on indicators that have signaled crises in the past. Where needed, the IMF and World Bank stand ready to support the national authorities with follow-up technical assistance to help overcome the identified weaknesses. Already, we have done health checks on 20 countries, with about 30 currently under way. More broadly, we are looking carefully at all indicators of viability and refining early warning systems, with the aim of identifying crisis symptoms at the earliest possible stage.

• Second, the IMF has been working to dramatically increase the transparency of economic and financial data in recent years. We firmly believe that timely and detailed information can prevent the building up of problems by forcing governments to take appropriate actions at the right time. It also enhances accountability. Of course, the need for greater transparency applies to the IMF as well. ⁴

• Third, we are also looking afresh at the policy conditions we attach to loans, in the interest of greater effectiveness of our assistance and stronger ownership of reforms by the countries involved. The emphasis is on narrowing the range of required policy measures to focus on those measures that are essential for achieving the macroeconomic goals of the program. This streamlining effort shall in no way mean that incentives for structural reform and sound programs are being diminished.

• Fourth, the IMF, along with other international agencies, has been crafting better international standards and codes of good practice. We now have standards for data dissemination, fiscal transparency, monetary and financial policy transparency, and banking supervision. The hope is to provide guideposts for "health checks" of financial systems and economies in general. Better information and standards should also benefit—and help integrate—the poor countries as well as the rich ones.

• Fifth, the IMF has begun an informal but regular dialogue with high-level representatives of private financial institutions. This includes the creation last year of a Capital Markets Consultative Group. We are also on the verge of setting up an International Capital Markets Department at the Fund. These efforts reflect the new economic landscape, which features private capital flows that are far greater than official flows in both volume and sophistication.

• Sixth, the IMF is working with the poorest countries, especially the most heavily indebted ones, to dramatically reduce poverty. A new approach that asks countries to take more ownership of their economic reforms—by drawing up Poverty Reduction Strategy Papers—shows some early promise. At least, and at last, poverty reduction is now moving to the top of the development agenda, and more segments of civil society are being consulted in the process. We are encouraged by "the spirit of Libreville" when African leaders met in January last year in Gabon and committed themselves to confront poverty head-on, with the active participation of their development partners. In fact, I must lend testimony-having attended the African summit—that I had not seen before that date such a strong and deeply felt commitment of African leaders to embrace change. That spirit continued and flourished with IMF Managing Director Horst Köhler's visit to Africa in February of this year, jointly with World Bank President Jim Wolfensohn.

But inevitably there will still be crises, even in the best of worlds, so the IMF is streamlining and updating its armory of lending facilities to better resolve crises. We want to discourage the extended use of IMF credit, and position ourselves to be able to respond to a sudden loss of market confidence and the threat of crises spilling over from one country to another. One of our weapons is the Contingent Credit Line, a new IMF loan facility set up in 1999 and overhauled earlier this year. Unlike other IMF facilities, which are aimed at countries already in trouble, this new facility is aimed at keeping countries out of trouble. It offers countries with strong policies an additional, preventive line of defense against potential episodes of financial contagion and of excessive volatility. There is a reasonable probability that Mexico will choose to sign up for this facility by year-end.

We are also searching for new ways to keep the private sector engaged in crisis situations—not running for the exits. On this front, substantial progress has been made in recent months, but the discussion continues.

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In closing, I would just like to underscore how inextricably woven together our lives are in this world of increasing globalization. This puts the burden on the "haves" to reach out to the "have-nots." Or as the famous economist Amartya Sen recently put it: " ...there are critically important issues that need to be addressed in the mixed world of massive comfort and extreme misery in which we live—often far too peacefully and complacently. There is a need to reduce the contrast between our universe of remarkable possibilities and the stubborn prevalence of relentless deprivation. The world needs more interaction—not less."⁵

The IMF seconds that notion and stands ready to help render globalization as beneficial and benign as possible, for more and more people around the world. Of course, this will take a team effort, drawing on international institutions that continually evolve to reflect the realities of the 21^st Century. On this point, who better to quote than Michel Camdessus, the former Managing Director of the IMF and a personal friend of us all. In 1999, he said in a speech to the Palacio de Congresos in Madrid: "We are the first generation in history to be called upon to organize and manage the world, not from a position of power such as Alexander's or Cesar's or the Allies' at the end of World War II, but through a recognition of the universal responsibilities of all peoples, of the equal right to sustainable development, and of a universal duty of solidarity."⁶