Chapter

Comment

Editor(s):
Mohsin Khan, Morris Goldstein, and Vittorio Corbo
Published Date:
September 1987
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Author(s)
Salvatore Zecchini

Since the papers presented in this session have already been discussed in detail, I can approach the subject under examination in a broader perspective. The subject basically concerns the role that macroeconomic policies should play in reconciling external adjustment with a satisfactory rate of economic growth. The starting point is the experience of many indebted developing countries since the beginning of the 1980s together with the approach followed by the Fund so far in supporting these countries.

To understand the terms of this issue, it is essential to reflect on both the macroeconomic policies and their objectives. The policies under consideration aim at affecting macroeconomic aggregates related to the demand or expenditure side of the economy, a realm in which the Fund has exercised its competence and addressed its recommendations. The supply side, the productive sectors, the factors of production, and the structure of the markets have traditionally been at the margins of Fund conditionality and have been drawn into adjustment programs only when the expected results of macroeconomic policies failed to materialize. Several of these policies are, however, at the core of the World Bank’s approach and recommendations, and where both institutions have intervened, the economies of these countries have been influenced by both macroeconomic policies and structural measures.

The objective of external adjustment lends itself to different interpretations. Adjustment may refer to the correction of a transitory excess of domestic investment over the total saving made available at home and from abroad. Adjustment may equally refer to the correction of the level of domestic demand, and particularly of imports, in the face of a prolonged worsening of the terms of trade or of the structural capacity to generate foreign exchange earnings.

In the 1980s both notions of adjustment apply to the economic and balance of payments conditions of most developing countries. As shown in the paper by Mr. Bianchi and others, in 1982–84 adjustment was pursued on the understanding that the causes of the imbalances were transitory and amendable over a short period. It should be recognized that now most of these causes appear permanent and consequently the adjustment has to be structural in nature. These causes are basically adverse shifts in the external terms of trade and the excess of real interest rates over the growth rate of real output. Today, both these factors, coupled with inadequate prospects of expansion of external demand, have made exorbitant a level of external debt, which was already high at the beginning of the 1980s. This is the result if the debt level is compared with the actual capacity of these economies to service their debt by transferring resources abroad on a net basis in the second half of the 1980s and perhaps in the 1990s. Current debt levels include a part of debt which is not in line with the present fundamentals of these economies. This part did not exist, but to a minor extent, in the light of the fundamentals of the 1970s.

The realization of this basic truth has, in turn, given rise to the discontinuation of spontaneous lending by the banking community and to the banks’ insistence that the debtor enter into Fund-supported adjustment programs in the hope of rapid adjustment. This hope is unwarranted, however, as the Fund’s standard approach to adjustment seems unsuitable to deal with structural adjustment. Today it is unrealistic to expect that developing economies, after the adjustments in 1982–84, can continue to transfer resources abroad on a net basis in an effort to balance their current accounts by reducing their standards of living. If the present capacity of indebted developing countries to service debt persists, their adjustment efforts can aim only at a more restricted servicing of debt that excludes the part that represents a structural excess of debt. Such structural excess over debt capacity has to be spread over many years and serviced on concessional terms, as long as the fundamental determinants of the capacity to service debt do not improve. To estimate the structural part of the debt overhang, rational indicators can be used that take into account prolonged shifts in the terms of trade, the new relationship between real rates of interest and growth, the disappointing prospects for expansion of world trade, and the degree of adjustment that can be achieved without cutting into per capita income levels.

As far as growth is concerned, Professor Fischer’s paper recalls the wide variety of growth strategies ranging from laissez-faire to intervention. There is also a wide range of growth processes, most of which rely on capital accumulation, technical progress, productivity rises, and expansion of overall demand and markets. No optimal strategy for growth exists that can be applied to any country. The best approach to growth has to be predicated on the initial conditions and structural constraints of the individual country. Moreover, growth does not imply a transitory flare-up of economic activity which will soon die down, but involves raising the output level in the long term and, if possible, establishing a sustainable rate of output expansion.

Having defined the extent of the adjustment, the possibilities for growth and the appropriate macroeconomic instruments, we must look to some highly controversial basic issues. First, are macroeconomic policies appropriate for growth identical to policies appropriate for adjustment? So far the Fund has tended to consider the two sets of macro-policies as roughly identical. The Fund’s philosophy, as confirmed by the paper by Mr. Guitián, holds that there is no real trade-off between adjustment and growth, defined as a sustainable increase in output and pace of economic activity. Adjustment has to take priority over growth since, once adjustment has been completed, growth will ensue more or less automatically because adjustment policies “typically promote efficiency in resource use.”

This line of approach is very close to international monetarism which, as Professor Fischer has pointed out, is not concerned with growth policies. Specifically, a combination of macroeconomic stabilization with liberalization measures is thought to be adequate to restore growth. Hence, we often find in the Fund the simple attitude of recommending that liberalization be accelerated and the economy be opened to foreign competition. Undoubtedly these measures have the advantage of quickly pointing out shortcomings in domestic policies. Such an approach fails, however, to recognize that the avenues to growth are multiple and the choice among them has to be based on the structural features and constraints of an economy and on its need to grow. In many developing countries, thin and imperfect markets cannot perform the role that many advocate for them. Moreover, the successful strategies pursued by Japan, Korea, the Taiwan Province of China, and other newly industrialized countries in recent decades have been centered on export promotion and import substitution through protection of domestic markets, and this casts doubt about the extent to which liberalism has been applied in these economies and has been the engine for their success.

More generally, I am of the opinion that despite some overlap the two sets of macroeconomic policies for adjustment and growth do not coincide. Consequently, a general case for assigning absolute priority to adjustment policies over growth policies is not warranted. Neither does a specific case seem warranted today to give priority to adjustment in those countries that have already adjusted the cyclical part of their deficit but not the part attributable to the structural debt overhang.

The challenge that developing countries and the Fund have to face is how to combine macroeconomic policies for adjustment with those for growth. Any measure for adjustment necessarily involves reducing absorption while most growth strategies imply switching production and expenditure as well as expanding demand. To reconcile the two objectives, the country has to select the policies which are best suited to reduce absorption while increasing output, so as to leave some resources for upgrading income standards. Evidently, this implies an adequate expansion of aggregate demand since without it adjustment and expenditure switching become extremely costly and consequently impracticable. Success in these efforts also depends on the macroeconomic and trade policies pursued in the major world economies, and ample room is still left for a better coordination in these fields on a worldwide scale.

In reconciling adjustment with growth, a second basic issue comes to the fore. What relative importance has to be attached to macroeconomic and to microeconomic measures? In my opinion macroeconomic adjustment can create only the general conditions appropriate to promote fixed investment, to maximize sources of domestic savings, to preserve price stability, and to enhance external competitiveness. These measures, however, are not sufficient to generate economic growth if they are not complemented by corrections and improvements at the microeconomic level. Microeconomic intervention must focus particularly on the functioning of markets, both for production and for production factors, on the price structure and price formation, on the system of subsidies, and on the development of financial markets.

The third basic issue is whether to reduce government’s intervention to a minimum or to rationalize this intervention. As Professor Fischer’s contribution has shown, the issue is not of liberalization versus interventionism, but to decide the appropriate degree of liberalization or of its reciprocal, intervention. Every economy, even the most successful, has shown a measure of intervention that has been justified in principle with the need to correct market imperfections. In fact, in some countries intervention has become so pervasive as to distort the economic processes, as Mr. Bianchi’s paper seems to indicate for Latin America. The optimal degree of intervention must be decided in the light of the structural and institutional characteristics of the country. Nevertheless, Mr. Bianchi’s suggestion of limiting intervention to a few simple rules can be accepted as long as excessive emphasis on sectoral over general measures is avoided. In this respect, balancing macroeconomic aggregates is an inescapable condition of any economic process, whether it is directed to external adjustment or to growth.

Another basic issue a developing country has to face is whether to use a shock treatment or gradualism. Professor Fischer correctly states that the choice between the two alternatives “turns on economic and political economy considerations.” (The availability of external financing is to be recalled, however.) In the adjustment programs supported by the Fund, gradualism is almost a blasphemous word. In the Fund’s philosophy adjustment has to be accomplished in a limited number of years: by the time of the first repurchase, that is, years, the balance of payments position has to be such as to allow an easy servicing of all external debt. If this is not considered achievable on the basis of the authorities’ intended policies, the Fund cannot support the country and, because of the Fund’s catalytic role, the support of the entire financing community might be withheld. Nevertheless, in several cases it is evident that the causes of external imbalances are such as to require longer periods for their corrections. The Fund recognized this problem by introducing the Structural Adjustment Facility in 1986, but its scope is relatively limited compared with the size of the problem. A strengthening and a widening of the facility seems necessary.

There is no room for embarking on a taxonomy of macroeconomic policies that are optimal for ensuring that adjustment is compatible with economic growth. Two examples related to fiscal and exchange rate policy must suffice. On fiscal policy, it is evident that any stabilization effort has to involve a reduction of the net claims of the public sector on the resources provided by the other sectors. But not every deficit reduction measure has the same impact on output growth both in the short and long run. Hence the country has to search for expenditure or revenue measures that can encourage the growth durably. For instance, a restructuring of public expenditure or of the tax system might be required. Unfortunately, these corrections are often disregarded by the authorities, if not clearly resisted because of their political implications.

On exchange policy, exchange rate adjustment is a powerful and necessary incentive to switching output toward tradables. It has been shown, however, that for developing countries whose exports are heavily concentrated in few primary products collective depreciation of their currencies may fail to produce the expected boost to exports inasmuch as higher export volumes will be offset by lower unit values.

In conclusion, the challenge that lies ahead for the developing countries as well as for the Fund is to select among the various combinations of macroeconomic policies for external adjustment the one that is most beneficial for a continuing expansion of the economy. The result of this policy choice will not contradict the basic macroeconomic identities of the Fund stabilization philosophy but will add to it the new dimension of a higher social welfare.

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