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MPD
ly 2013
, Ju
No. 13
Developmental Macroeconomics
Recently launched ESCAP’s Economic and Social
Survey of Asia and the Pacific 2013 argues for a
shift in macroeconomic policy paradigm. Historically,
macroeconomic policies have both stabilization and
development roles.
and developmental roles. It notes: “The fiscal deficit
is a useful indicator for purposes of stabilization and
for controlling the growth of government liabilities,
but it offers little indication of longer term effects on
government assets or on economic growth.”3
Since the 1980s the focus of macroeconomic policies
shifted to stabilization alone. It is assumed that low
single digit inflation and low or no budget deficits are
both necessary and sufficient conditions for growth
and development.
Therefore, there is a need to identify and incorporate
the transmission channels through which fiscal
policy influences long-term growth. This requires that
“attention be focused on the likely growth effects of the
level, composition and efficiency of public spending
and taxation.” The Development Committee warns:
“Fiscal policy that neglects these effects runs the risk
of achieving stability while potentially undermining
long-term growth and poverty reduction.”
However, while reviewing the lessons of such policy
focus, the World Bank observed: “Macroeconomic
policies improved in a majority of developing
countries in the 1990s, but the expected growth
benefits failed to materialize, at least to the extent
that many observers had forecast.”1
For the purpose of development, attention should shift
to where the deficit is being spent; is it, for example,
for enhancing human, physical or social capital that
improves productivity and hence growth? If that is the
case then public debt, even though rises in the shortterm, would be sustainable.
In the Asia-Pacific region, such restrictive
macroeconomic policies aimed at stabilization in
a very narrow sense have seen drastic declines
in public infrastructure investment, especially in
agriculture, and a rise in economic insecurity. The
region was also hit by the worst financial crisis in
1997 despite reasonable macroeconomic stability.
Progressivity of taxation and enlarging the fiscal space
are also vital for fiscal policy to play its developmental
and stabilization roles. Without that fiscal policy
cannot, for example, address inequality. ESCAP’s
study finds that both tax-GDP ratio and social
security expenditure have negative associations with
inequality (Gini coefficient). Lower the tax-GDP ratio
and social security expenditure as a percentage of
GDP, larger is the Gini.
In light of the huge developmental challenges of Asia
and the Pacific associated with the region’s high
degree of economic insecurity, large development
gaps, significant infrastructure shortages and
unsustainable environmental impacts, there is clearly
a need to balance stabilization and developmental
roles of macroeconomic policies.
While higher inequality adversely affects domestic
effective demand, lower tax revenues constrain
government’s ability to pursue countercyclical policies
as well as development expenditure.
Such balance could entail changing the way fiscal
and monetary policies are designed and implemented
and how issues of public debt or inflation are viewed.2
This would also need supportive exchange rate and
capital account management policies.
Monetary policy
Fiscal policy
The preamble of the IMF’s Article of Agreement IV
states that “each member shall ... endeavor to direct
its economic and financial policies toward the objective
of fostering orderly economic growth with reasonable
price stability, with due regard to its circumstances”
(Article IV.1.i).
The joint Development Committee of the World
Bank and the IMF has laid down some guidelines
for designing fiscal policy that balances stabilization
1
World Bank, Economic Growth in the 1990s: Learning from a Decade of Reform
(Washington, D.C., 2005), p. 95.
3
2
World Bank, Fiscal Policy for Growth and Development: An Interim Report,
Washington, D.C., 6 April 2006 (DC2006-0003), p. i.
This issues is further analyzed in MPDD Policy Brief No. 14 on Forward-looking
macro­economic policies – re-examining inflation and debt limits.
UNITED NATIONS ECONOMIC AND SOCIAL COMMISSION FOR ASIA AND THE PACIFIC
1
The key here is “reasonable” price stability and due
regard for country specific circumstances. Therefore,
monetary authorities should not excessively focus on
a pre-determined inflation target without any regard for
growth or causes of inflation. This means due attention
to the supply side factors. For example, if inflation is
caused primarily by rising food prices due to crop
failure, monetary tightening may be counterproductive
as far as underlying causes of inflation are concerned.
Instead, the appropriate policy would be to expand
credit to agriculture to accelerate its revival.
noted: “there is a spectrum of possible exchange rate
arrangements, depending on various aspects such
as the size of the economy, trade and investment
structure, the sequencing of capital account
liberalization and the level of economic development.
No single arrangement is necessarily right for all
countries all the time.”6
Given the role of exports and FDI and the need to
stabilize the economy a developing country should
follow an exchange rate stability approach. An
important lesson of the Asian financial crisis is that
nominal stability must not end up in real appreciation.
Monetary authorities should try to keep real interest
rates low or moderate to support investment in light
of the fact that World Bank’s Enterprise Surveys
show access to finance is among the top-5 business
impediments for 93% of the countries in Asia and the
Pacific. Access to finance is critical for SMEs as well
as for agriculture, which depend solely on the banking
sector for external financing.
Managing capital flows
Capital flows management is a sovereign right of a
country under the IMF’s Article of Agreement (Article
VI). ESCAP’s 2010 Survey recommended capital flows
management in view of the risk of large capital inflows
and their sudden withdrawals to macroeconomic
management and financial sector fragility. Both the
IMF and the World Bank have now recognized capital
flow management as an essential macroeconomic
policy tool.7 The IMF has suggested a range of tools
for managing capital flows.8
This would mean accepting moderate inflation and the
use of instruments such as credit other than the policy
rate. Central banks should also promote financial
inclusion through changes to the regulatory framework.
A growing body of research shows that financial
inclusion can have significant beneficial effects for
individuals and the economy as a whole. For example
lack of access to finance can lead to poverty traps and
inequality whereas providing individuals with access
to savings instruments increases savings, productive
investment, consumption and female empowerment.4
Asia-Pacific countries have already introduced several
measures to manage excessive short-term capital
flows while still encouraging FDI. Therefore, capital
account openness should not be viewed as an allor-nothing proposition. Capital account can be open
to equity flows – both portfolio and FDI, even when
money and bond flows are managed.
The monetary authority should also ensure that credit
does not fuel speculative activities, especially in the
capital market and does not create property bubbles.
There is a considerable body of work showing that
financial sector deregulation that saw huge wave of
bank mergers motivated by the short-term criteria of
volatile stock markets led to exclusion of SMEs and
small borrowers from formal credit markets.5
In sum, the primary focus of macroeconomic policies
should be sustainable and inclusive development,
subject to the constraint that inflation remains
tolerable and that the balance of payments (current
account) remains sustainable. This fiscal policy
should accommodate large scale public investment in
both physical and social infrastructure needed for a
big push to break out from a vicious circle of poverty.
Monetary and financial policies should be calibrated to
promote agriculture and small scale enterprises and
other priority sectors. The exchange rate policy should
support structural change and promote exports so that
balance of payments does not become a constraint
on growth. Capital flows management policy should
prevent banking and financial crises and widen policy
space.
Exchange rate policy
Many observers have attributed the 1997-98 Asian
financial and currency crises to their pegged exchange
rates, and suggested a more flexible exchange rate
regime. But a greater flexible exchange rate is not
always an optimum policy for the developing world.
At the 2001 Kobe meeting of Asia-Europe Finance
Ministers, the Chairman’s concluding statement
6
Available from www.mof.go.jp
International Monetary Fund, The Liberalization and Management of Capital
Flows: An Institutional View (Washington, D.C., 2012); and World Bank, Global
Economic Prospects: Crisis, Finance, and Growth (Washington, D.C., 2010).
7
4
For global evidence and general discussion on financial inclusion, see F. Allen
and others, “The foundations of financial inclusion: understanding ownership and
use of formal accounts”, Policy Research Working Paper, No. 6290 (Washington,
D.C., World Bank, 2012).
8
J. D. Ostry and others, “Managing capital inflows: what tools to use?”, Staff Discussion Note, 11/06 (Washington, D.C., IMF, 2011). See a forthcoming MPDD Policy
Brief for a discussion of pros and cons of various techniques.
5
See, for instance, A. K. Bagchi and Gary Dymski, eds., Capture and Exclude:
Developing Economies and the Poor in Global Finance (New Delhi, Tulika, 2007).
The MPDD Policy Briefs Series aims at generating a forward-looking discussion among policy planners, researchers and other
stakeholders to help forge political will and build a regional consensus on the needed policy actions and pressing reforms.
Policy briefs are issued without formal editing. This issue has been prepared by Anis Chowdhury of the Macroeconomic Policy
and Development Division, ESCAP. It is based on the Economic and Social Survey of Asia and the Pacific 2013: ForwardLooking Macroeconomic Policies for Inclusive and Sustainable Development. For further information on the policy brief, please
contact Dr. Anis Chowdhury, Director, Macroeconomic Policy and Development Division, ESCAP ([email protected])
www.unescap.org/pdd
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