Speech

Lecture by the Managing Director at the Brussels Economic Forum - "United Against a Fragmented World"

May 4, 2023

Good morning to those in Brussels and watching online.

I thank the European Commission for inviting me to deliver the Tommaso Padoa-Schioppa lecture at the Brussels Economic Forum this year. And I’m sorry I can’t do it in person.

It’s fitting that the lecture is in Tommaso’s name, as my message today is very much in the spirit of his vision. He was not only one of the Euro’s founding fathers and a firm supporter of global cooperation and leadership, and international institutions. But above all else, he was a rigorous thinker who wasn’t afraid to speak the truth—even if that meant going against the status quo.  He has done it in his views on the role of the IMF and we are grateful for it.

That is exactly the courage and ambition we need today to confront this dangerous moment in our history. After decades of increasing global integration, there is a growing risk that the world may split into rival economic blocs. And that’s a scenario that would be bad for everyone, including for people in Europe.

This risk is rising at a time global growth is weak by historical standards—both in the near and medium term. We project global growth will remain around 3 percent over the next five years—our lowest medium-term forecast since 1990.  And yet, central bankers cannot take their eyes off the ball until stubborn inflation is firmly under control. The required monetary tightening is weighing on growth and exposing some financial vulnerabilities. On top of it geoeconomic fragmentation risks throwing cold water on already weakened global growth.

Turning to the European Union, like most advanced economies it is faced with the same dual challenge of slowing growth and still high inflation.  We project EU growth would fall from 3.7 percent last year to 0.7 percent this year before modestly recovering afterwards.  At the same time we expect inflation to decline from over 9 percent last year to over 6 percent this year and, in most countries, not to return to targets until 2025.

Fortunately, Europe has proven to be resilient.  Not too long ago, the clouds over Europe were much darker. Russia’s invasion of Ukraine caused energy prices to spike, exacerbating a cost-of-living crisis across the continent and hurting low-income households the most.

The nimble response of policymakers secured alternative supplies of gas and supported households and businesses. And the EU banking system has entered monetary policy tightening with solid buffers.

But we can’t afford to be complacent just because the worst case hasn’t materialized. In terms of short term growth forecast Europe is in a slightly better place, but here, too, subdued productivity growth has weakened even more. Simply put, without addressing long-term challenges — demography, productivity, inclusion — we will not be able to raise incomes and create opportunities as we hoped.

How do we avoid this scenario? In line with the general focus of this year’s Forum, let me highlight three policy priorities we believe could help.

First, improving productivity and opportunities for all.

This requires structural reforms and investing in people, technology, and innovation.

• In Europe, for example, governments must create an enabling environment for innovation and investment. This means streamlining regulations, improving education, spending more on research and development, and expanding digital and green infrastructure.
• It is equally critical to ensure that everyone is equipped to take advantage of new technologies and find work as economies evolve. This goes with improving equality of opportunity and inter-generational equity by:
• Making labor markets agile enough to match workers with firms and ensure people willing to work hard can find good jobs.
• Investing more in education and skills, reducing labor market duality—where young workers, for instance, get stuck with only temporary contracts.
• Modernizing social safety nets as labor markets change—such as with the rise of self-employment—so people don’t fall behind.
• Provide the right incentives for more female labor market participation and for older workers to stay in employment longer.
• Similarly essential is addressing the demographic challenge for growth and the public purse, as the labor force declines. In recent years, we have seen positive trends with older workers returning or staying longer in the work force. With the right child care and flexible work arrangements more women will work, and the right pension and labor market reforms can incentivize more senior workers to keep working.
• Crucially, fast-growing firms in the EU must have access to enough capital, which is often not the case as existing capital pools are fragmented along national lines. Accelerating the European Commission’s Capital Markets Union plan would help address these barriers.
  
  Second, step up climate action to ensure sustainable recovery.

  Accelerating the green transition is not only critical in its own right but is also key to boosting energy security and investment opportunities.

  Europe has made impressive progress on this. Last year, as Russian gas imports plummeted, the EU ramped up renewables at a record pace and increased energy efficiency, causing carbon emissions to fall 2.5 percent.

  But achieving the EU’s emission reduction goals will be difficult if it takes seven years to build a wind or solar farm.

• To change it, the EU’s proposed Net Zero Industry Act aims to streamline regulatory and permitting processes for clean-tech projects. Making it a reality requires countries to build “one-stop shops” and coordinate different regulatory and permitting bodies on new digital platforms. And it is possible. Look at Germany’s experience building new LNG terminals in record time. The same approach can apply to renewables.
• It will also be important for the EU to press ahead with plans to extend carbon pricing to buildings and road transport to incentivize decreasing emissions and improving efficiency in these sectors. I’m happy to see a provisional agreement on this, as well as the plan to create a Social Climate Fund to soften the impact on poorer households and smaller firms.
• An EU Climate Investment Fund can complement these measures, helping centrally finance the public investment needed to decarbonize the economy.

  However, one of the most urgent steps toward a robust recovery involves avoiding the temptation of a new form of protectionism

  This brings my third point: reviving multilateral cooperation is essential for long-term growth everywhere

  Supply chain disruptions during the pandemic understandably prompted countries to try to reduce vulnerabilities by reshoring or “friend-shoring” production. Then, Russia’s invasion of Ukraine added national security concerns to countries’ investment decisions. But taken together, these trends are creating a more fragmented world with real economic costs.

  Our research shows that trade fragmentation could cost up to 7 percent of global GDP in the long term—roughly equivalent to the combined annual output of Germany and Japan. If technological decoupling is added, some countries could see up to 12 percent of GDP losses.  

  We cannot ignore these costs.

  Take the subsidies in the EU’s Green Deal Industrial Plan, for instance. To play their intended role and accelerate the green transition, they must be well-designed and carefully applied.

• If the incentives are too generous, they could have sizable fiscal costs, distort trade and investment decisions, and make the green transition more expensive for everyone.
• Particularly worrisome would be a scenario where emerging market and developing economies fall behind on adopting green technologies—to the detriment of global climate goals— because they lack the investments that facilitate the diffusion of those technologies.

While the domestic gains can be alluring, in the long term, everybody loses from global fragmentation.

I would like to close by returning to the vision of Tommaso Padoa-Schioppa about the EU’s global leadership role in working with others to defend and improve the multilateral approach to global economic governance. The leadership vision I fully share, including in the fight against climate change.

The novelist Toni Morrison once said,“If there’s a book you really want to read, but it hasn’t been written yet, then you must write it.” Coming out of the Second World War Europe has demonstrated remarkable intellectual and political will to shape a better future, to write the book Europeans  wanted to read.  Today we need the same determination, write the book we want our children to read.

Thank you.