OREANDA-NEWS. December 25, 2015.

With Vivek Arora, Deputy Director of the Strategy and Policy Review Department (SPR)
Peter Allum, Assistant Director in SPR
?ngela Gaviria, Communications Department

MS. GAVIRIA: Hello everyone. I’m Angela Gaviria with the Communication’s Department of the IMF. Welcome to this conference call on the Crisis Program Review Paper. The speakers here with me are Vivek Arora, Deputy Director in the Strategy and Policy Review Department, and Peter Allum, Assistant Director in the same department. Vivek will start with some remarks and then they’ll be happy to take your questions. Vivek?

MR. ARORA: Thank you. Let me briefly outline what the Crisis Program Review tries to do, how it will be used, and what it says, before we turn to the questions. In terms of what the paper does, the review tries to take stock of the design and effectiveness of Fund programs undertaken during the period of the global financial crisis. Specifically, programs that were approved between 2008 and 2013. The main questions are what role did they play in the response to the global crisis and what can be learned.

The review is part of the Fund’s overall effort to learn from experience in order to remain agile and member-focused. We have two broad conclusions. One, that Fund-supported programs helped to chart a path through the financial crisis and prevented much worse outcomes from occurring. Outcomes, I should add, that many feared at the outset. Two, that we can draw lessons with regard to program design in several areas, which I will outline in a minute.

On the approach that we followed, the review tries to draw lessons by taking a cross-country perspective. In that sense it is somewhat different from the ex-post evaluations of programs that you have seen, which look in much more detail at individual country cases. It focused on 32 programs or 27 countries that received Fund financial support during the global financial crisis under the so-called General Resources Account. That does not cover the low-income countries.

So I would just stress that it’s about programs across the whole membership, not just a specific region. It covers several emerging market economies and small states, the euro area cases, and countries in the Middle East and North Africa, or MENA, as we say.

In terms of how the paper will be used, it complements other exercises that also serve to inform and improve the Fund’s policies. Exercises like the ex-post evaluations, which I mentioned, Independent Evaluation Office or IEO assessments, previous crisis program reviews, and the periodic reviews of conditionality, just to name a few of the exercises that we do. The conclusions of these exercises inform our work on an ongoing basis and from time to time are distilled into operational lessons.

In terms of what the paper says, as I mentioned, there are two broad pillars of the analysis. One, that Fund programs helped play a role in ensuring that a counterfactual was avoided, which many feared at the time. I think we point out that back in 2008 or at the start of the crisis there was a real fear among many about a second great depression, about a cascading of crises from country to country, about a meltdown of the global financial system. This set of outcomes was avoided.

The second point we want to make is that the experience is useful for drawing lessons for program design. In fact, programs adapted during the crisis period in response to experience during the earlier years, and we are hopeful that the lessons that we draw over the longer period, 2008 to now, are helpful for programs going forward.

In terms of the specific issues that we cover on which we try to draw some conclusions, let me just recount them very briefly for you. There are five broad areas. The first one is the external adjustment strategy or internal devaluation. That is adjusting domestic wages and prices to achieve external adjustment. Here, essentially, what we find is that the strategy of internal devaluation is very challenging. It needs large macro adjustment and sustained structural reforms, and it can take quite long. Exchange rate adjustment is useful, but if exchange rate adjustment is not feasible then the implication is the need for probably a longer program which, in turn, requires more financing.

On fiscal policy, which is the second area, I think the review notes, first of all, the importance of fiscal consolidation, which is necessary to reduce public debt over time. Indeed, many countries had high public debt at the outset. But we also note that the pace of consolidation is important. In particular, a too large consolidation that happens too quickly can drive down output a lot, and by doing so it can raise the debt to GDP ratio more than is considered desirable or more than was envisaged at the outset of the program. The rise in the debt ratio is basically something that happens in the near term.

The reductions in output that can accompany large fiscal consolidations are also costly because they usually come with lower employment. So in such cases, we argue that it is desirable to have a smoother pace of adjustment, and that, in turn, needs more financing.

We find that programs did adapt to the early experience where fiscal consolidations were particularly large and were particularly costly in terms of output. Therefore, in terms of the debt ratio, program conditionality subsequently moved towards more gradual paces of fiscal adjustment. Programs that occurred later in the period absorbed those lessons.

We also note that programs paid special attention to protecting the most vulnerable and to strengthening social safety nets. Finally, on fiscal policy with respect to debt, we conclude that if public debt is very high then it’s desirable to restructure it substantively and early. Countries that did restructure generally performed better than countries that did not in terms of their debt outcomes and growth outcomes. Third, with respect to structural reforms, I think the general point we make is well known, which is that structural reforms are important for raising competitiveness and for long term growth. They were especially important in the program experience because many countries relied on internal devaluation.

But we make two specific points. One, that programs or program design should be mindful not to assume a large growth payoff from structural reforms in the short term. Despite the payoff that structural reforms have in the long term, in the short term the payoff may be quite modest, so that should be reflected in program design. Second, that while a larger number of structural reforms may be warranted in many cases, such as the ones we’ve seen recently, program design should be careful not to overburden authorities’ implementation capacity. So those are the main points with respect to structural reforms. Just two more areas I want to touch on.

First, private balance sheets. Private balance sheets were a central issue in many programs and they were dealt with. Their fiscal cost and the drag on activity that they imposed were larger than was envisaged in the beginning. Some of the conclusions we draw are that it’s important to build strong resolution frameworks and supervisory and regulatory capacity, which are necessary for mitigating risks and for handling crises. When private debt restructuring is warranted it should be done substantially and quickly rather than delayed and left lingering.

The final issue I want to touch on is the interaction with Regional Financing Arrangements. The interaction was new for the Fund in many respects. The Fund had interacted with RFAs in the past in the context of RFAs helping to expand the financing envelope. But in this recent round of programs we also interacted with RFAs in a collaborative way with respect to program design. Going forward, as the Fund’s interaction with RFAs expands, we suggest that it may be helpful to develop further operational guidance to guide this interaction. The G-20, as you may know, endorsed some principles in 2011 to help enhance IMF/RFA cooperation. Things such as emphasizing ongoing collaboration, early engagement, and other ways of working together. That would be a useful basis on which to build.

So these, I think, are the main conclusions of the review. Maybe I can stop at this point and ask for your questions.

QUESTIONER: I was wondering whether you can elaborate a little bit more on the case of Greece. What is your assessment about the way the two previous programs have been implemented, and if this assessment can help the Fund and the Europeans so that the future mistakes can be avoided in the case of Greece?

MR. ARORA: I will just say that the assessment that we have is a cross-country one. That we try to look at the experience, obviously of Greece, it’s an important case, but also at the experience of the 30 or so other cases to try and draw some general lessons. So we don’t, as such, make a judgment about whether certain things in Greece were right or wrong.

I think the ex-post evaluation of the Greek program, which you may have seen a couple of years ago, does that in some more detail. Our sense is that many of the lessons that we try to emphasize, you know, are relevant for Greece as they are for other countries. For example, I think we make the point that structural reforms are very important for improving competitiveness when the strategy is one of internal devaluation. We make the point that for structural reforms to succeed it’s very important for them to have strong ownership, for them to be parsimonious, and for them to be macro-critical. So that, we think, is a lesson that is helpful for the whole membership and hopefully for Greece as well.

With respect to fiscal policy I think we make a point of saying that if fiscal consolidation needs are very large or that public debt is very high, and therefore, a big fiscal adjustment is necessary, then it’s helpful to pay attention to two aspects. One, that if the consolidation is very large it can lead to a decline in GDP that is very large and a rise in the debt ratio that is very large. In those cases, a more gradual pace of fiscal adjustment may be desirable, but it’s necessary to arrange high official financing to finance that more gradual adjustment. I think that is one point that is probably relevant.

The second one is that where the public debt is very high then an upfront restructuring is generally useful. Of course, an upfront restructuring is not always feasible because, as you know, in the case of Greece it was argued early on in the crisis that firewalls didn’t exist, and in the absence of firewalls there could have been substantial contagion. But I think the point we make is that strengthening those aspects of the architecture can create conditions where early and substantial debt restructuring is feasible, and then early and substantial debt restructuring is also desirable from the point of view of countries that have high public debt.

QUESTIONER: I was wondering what the implications are of your findings for the Fund’s future lending to countries within the euro zone? I mean, sounds like if you’re part of a currency union, an internal devaluation is really challenging, as you mentioned. So what’s the solution here? Is the Fund going to have to pursue longer programs, programs of longer duration for countries in the euro zone or are euro zone countries going to have to step up themselves and provide further financing? I mean, how do you deal with that conundrum?

MR. ARORA: I think that’s one of the central problems that we tackled in the paper. I think the point is not to say that internal devaluation is not possible or ruled out, but rather that it is hard. I think I’d just make two points. One is that internal devaluation as a strategy was developed because among the range of options that was available it was the only feasible one at the time. Many countries were either members of currency unions or had fixed exchange rate regimes, and countries that did not have fixed exchange rate regimes had significant concerns about the effects of currency depreciation on their balance sheets. So it was a strategy that was adopted in that context.

Now, the lesson that we draw is that it should be recognized upfront that when internal devaluation is undertaken it needs a protracted effort. It involves substantial adjustment, which can have short-term costs and therefore may need to be calibrated or moderated. This, in turn, means more financing. And it needs very strong program ownership over a sustained period.

So we make a point in the paper in Paragraph 32 that says that it’s possible that sustained internal devaluation over a long period can deliver higher growth provided that financing is available to accommodate slower adjustment. That’s the crux of my answer to your question about what is the solution. It’s very challenging. What’s the solution?

I would say it’s not just for euro zone programs, but for all countries that have relatively or completely fixed exchange rates. When a program is undertaken it should recognize upfront that it’s going to require a large adjustment. It’s going to probably take a period of time that is longer than the traditional three to four year period of Fund programs, and it’s going to come with lots of reforms that will require strong ownership.

A question that you also raised was where does the financing come from? What does it imply for the design of Fund facilities? I think those are things that we will basically have to consider more. I think here we just point out the implications of an internal devaluation strategy. That it comes with some implications or consequences attached, and then we need to deal with those going forward. It may well entail successive programs. It may well entail a longer Fund program. Although that’s something that remains to be seen. In terms of financing, I think the question is often asked as to whether it comes from the Fund or whether it comes with even more burden sharing than before.

QUESTIONER: Thank you for doing this. I would like to follow up on the previous question. I read some very helpful documents that accompany the report. Correct me if I’m wrong, but I sense a disagreement among the various members of the Executive Board about how to raise this report, and I was wondering, did you present the report to the Board? Was it endorsed fully? What’s the process there, and what can we expect going forward to happen with this report? Thank you.

MR. ARORA: If I understood your question correctly I think you asked whether it was discussed at the Board and how the discussion went. It was discussed at the Board. For papers like this we usually have a Board discussion and members have their views. Those views are summarized in the press release. I don’t actually have anything more to add in terms of which director said what and so forth, but the press release essentially captures the balance of views, as well as the issues on which directors had strong views in one direction or the other.

QUESTIONER: I was just wondering what’s the way forward from here? You cannot say more about who said what at the Board level, but what’s the next phase? Was the report endorsed by the Board and what does this mean?

MR. ARORA: There are two things. One is that Executive Directors expressed views on different aspects. This is a review paper, so there’s no policy proposal in this paper for them to provide an overall thumbs up or thumbs down. It’s more a question of presenting some conclusions and getting Board reactions to them, which is what we did. So the summing up therefore captured -- sorry, the press release captured their views on specific issues accurately.

In terms of what we usually do with this kind of review, there are two types of follow-up that occur. The first one is an ongoing type of follow-up. As I said before, we try to learn from experience in real time. Even in the course of the crisis, as programs unfolded, we drew lessons for program design from what had happened before. So some of the points that we make in this review will be reflected in our communications, in our review of programs, and in the discussions that we have with authorities. They will inform staff of what broad conclusions can be drawn on a cross-country basis. Obviously, we would need to pay close attention to what does and doesn’t have the support of membership. But basically it would inform staff of cross-country lessons. I think that’s one.

The second is, as I said before, that there is a very large body of assessments that draw specific lessons for program design. There’s the Independent Evaluation Office, which has done a couple of reviews in the last two years and will do more going forward. There’s the ex-post evaluation. There’s this crisis program paper. There’s the ongoing reviews of individual programs. As we go forward, I think we’ll make an effort to combine all of these conclusions periodically into concrete operational lessons. Does that answer your question?

QUESTIONER: Yes. Thank you.

QUESTIONER: Good afternoon. I would like to know if it is fair to assume that in a country with high debt levels, as in Portugal, it would be better in the future to start with an upfront restructuring of the debt? Because I can see from the report that in Portugal you say that it was difficult to state categorically that there was a high probability that debt was sustainable over the medium term. So given this, I would like you to confirm if Portugal would be a case of restructuring?

MR. ARORA: We don’t have a specific view on Portugal per se, but we say in the review that if the debt is high or cannot be deemed sustainable with high probability then, in general, an upfront debt restructuring is a desirable approach to take. Because not taking it creates problems in terms of having a fiscal consolidation -- or shifting the burden from debt restructuring to fiscal consolidation in a way that implies a very large fiscal consolidation or leaving a kind of lingering uncertainty about the status of the debt sustainability.

MR. ABBAS: I just want to add that it is important to make sure that we don’t end up in the situation where a large amount of private creditors get paid out because that can undermine the program. One of the proposals that staff has been working on, as you know, is a proposal that would allow for reprofiling, which would not be a very deep reduction up front, but would ensure that private sector exposure to the country is maintained over the rest of the medium term or the duration of the program. This provides safeguards on debt sustainability for the debtor, and also provides safeguards for the Fund.

The idea of a reprofiling is that it would reduce the need for more financing and for more drastic fiscal consolidation, while it would leave the option of doing a deeper debt reduction later on if necessary.

There are also political advantages of this approach because if private sector claims remain, and there is bail-in, it can improve the ownership of the program. Where there is a perception that the private creditors are being paid out, that can reduce the taxpayers' ownership of the policies that the government is trying to implement.

MS. GAVIRIA: Okay. Thank you. That was another colleague from the Strategy and Policy Review Department speaking, Ali Abbas. Next question, please.

QUESTIONER: It seems what I have heard is that internal devaluation needs time in order to create a positive impact on the economy, especially the Greek economy. Do you believe the aggressive fiscal consolidation imposed in Greece was not necessary or was like a mistake?

The second question is do you think the internal devaluation right now in Greece -- how many years do you expect that the Greek economy will see positive impact from this process of internal devaluation? Thank you.

MR. ARORA: I think the second question goes a little bit beyond the scope of this review. As I said before, the review did not assess country by country programs, and it tried to draw more cross-country lessons, but the ex-post evaluation for Greece may speak more pointedly to the questions you raised.

I would just say in terms of fiscal adjustment that the points we make in the Crisis Program Review for high debt cases are echoing in some respects the lessons from the evaluation. That basically in some countries, including Greece, rapid fiscal adjustment was unavoidable given that countries don't have market access and official financing was as large as was politically feasible.

Obviously, an upfront debt restructuring would have been better for cases where the debt was very high, along the lines that my colleague just explained, but the question is whether that was feasible or acceptable at the time.

In this paper, we don't rewind, go back and see if this or that decision was a mistake. What we do is say that if a country has a very large public debt, then a large fiscal adjustment is unavoidable, but the decisions that need to be made are ones about the pace of that fiscal adjustment, moderating the pace, subject to financing constraints. If you argue for a more gradual adjustment, then it requires finding sufficient official financing to support that more gradual space.

Second, as I said before, I think if the debt is not sustainable with a sufficiently high probability, then the debt restructuring is really a better option than not, unless of course, it is not feasible.

MR. ALLUM: On the point of the internal devaluation, improving the competitiveness of the export industry can effectively take place in two ways through an internal devaluation. One is by slowing the rate of wage growth in the export sector, to give you a competitive edge.

The other is to boost productivity in the export sector, so that you are producing far more with either the same or a lower level of employment.

Looking at countries that have made quick gains in internal devaluations, it typically occurs through competitiveness rather than through wage reduction.

For any country going forward, the rate at which it can regain its competitiveness will be closely related to how quickly it can implement competitiveness boosting or productivity boosting reforms. For Greece and any other country, that depends very much on the ability to implement reforms across the economy and the response of the private sector to those reforms.

An important factor there is that the export sector needs to generate new investment, new production, new jobs. One of the challenges is to obtain financing for those investments. You need not only to improve productivity in the export sector but also to make sure the financial sector is able to transfer resources to allow expansion.

Another point I'd like to add on to Vivek's earlier comments is that the protracted process of internal devaluation doesn't require a program. If you look at the countries that had large deficits at the time of the crisis, you see that Spain was one of those countries. It has been going through an internal devaluation process over the last decade or less than a decade, and it hasn't had a Fund program and is not expected to have one. So, there is no one for one relationship between undertaking internal devaluation and requiring Fund support.

QUESTIONER: Hello. Given this analogy, would you say that raising minimum wages in countries that are still dealing with the need to gain more (inaudible) and still have high debt levels, would be a bad idea?

MR. ALLUM: This is also something that we cover in detail in the report. In principle, a minimum wage can be an important safety net, if wages are viewed as inadequate in the first instance. It has to be financed, of course, and that has fiscal implications. It would need to be affordable within the program for fiscal prudence and debt sustainability.

From the perspective of competitiveness, you would need to take into account the extent to which a higher minimum wage is consistent with regaining market share, export performance. It is not necessarily the case that a higher minimum wage would be counterproductive while you are also seeing gains in productivity that can pay for those minimum wages.

MR. ARORA: I just wanted to add that I think the point we want to make in the paper beyond minimum wage, just on a social safety net, is that program design was generally mindful about protecting social safety nets, so many of the programs had either an explicit objective of poverty reduction, or some form of social protection.

The form of social protection differed across programs. Some programs paid attention to just the level of social expenditure. Some had structural benchmarks on strengthening social safety nets, some tried to increase the coverage of social assistance. Some had targeted transfers to protect the poor from high electricity prices. In some, we had program recommendations to address a larger social benefit scheme, but it was accompanied by conditionality to strengthen social safety nets. Program design did pay close attention to strengthening social safety nets.

And the second point is that programs were generally effective in protecting social benefit spending, both in relation to total expenditures and benefits to social spending before the program.

Overall, programs paid attention to social spending and program design, and they were generally effective in meeting those objectives.

MS. GAVIRIA: Okay. Thank you. Vivek, Peter, would you like to add something at this point to conclude?

MR. ARORA: No, I would not. Thank you.

MS. GAVIRIA: Thank you all for participating.