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Global Economic Crisis: What Can
Small Open Economies Do?
Asad Alam
Regional Director
South Caucasus
Europe and Central Asia Region
The World Bank
July 7, 2009
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What does history teach us?

Economic contractions that follow financial crises are longer and
deeper than contractions that do not (Reinhart, Rogoff)
 Such contractions tend to have significant adverse consequences
on government finances (deficit and debt)
 Unemployment consequences of such contractions are also
usually larger than for downturns without major financial stress
 Swift policy responses are critical – additional financing is helpful
but adjustment is almost always needed.
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Recovery is likely to be slow and hesitant
 Large fiscal stimulus of big economies, especially US and China,
will help; but recovery will be slow
 Return to pre-crisis status-quo is not a sustainable solution for
global economy: the long-term solution is in addressing global
imbalances, i.e. increase in US saving rates
 The past drivers of growth in emerging markets will likely be
weaker as private capital will be scarcer and more discriminating,
and export growth slower
 A second wave of financial turbulence is possible if quality of
banking sector loans deteriorate substantially: this will further
suppress global capital flows and delay their recovery
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Small open economies gained heavily from
global growth and integration but are
exposed to global shocks
 Small open economies gained from key transmission
channels:
 Trade
 FDI
 Remittances
 Rising ToT
 Foreign credit
 But the same channels are now transmitting global shocks to
their shores
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All economies are hit but impact is
differentiated according to fundamentals
 External balance , role of external financing, rollover needs
 Fiscal balance, whether sufficient fiscal space exists
 Health of the financial sector (quality of loan books, open
exchange rate positions)
 How narrow is production and export base
 Structural rigidities (in goods and factor markets)
 Size of domestic market
 Exposure to different transmission channels
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Policy responses
 Fiscal stimulus through own resources (fiscal space permitting)
and/or leveraging donors inflows
 Protect the poor and the vulnerable through scaling up targeted
Social Safety Networks, within limits of affordability
 External (exchange rate) adjustment as a response to changed
external environment
 Fiscal adjustments (lower expenditures or higher taxes) as
revenues collapse and countercyclical expenditure needs rise
 Enhanced financial sector support and regulatory strengthening
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7 lessons for small open economies
1. Initial conditions matter  MAINTAIN STRONG MACRO FUNDAMENTALS
2. Global volatility is going to be normal in an integrated world  DEVELOP
MACRO RISK MANAGEMENT SYSTEMS
3. Smart countercyclical policies can help create jobs in the short term and
strengthen competitiveness in the medium term  BE PROACTIVE
4. Recovery will be slow and more prolonged than in larger markets  PLAN
FOR THE MEDIUM-TERM
5. Balance between financing and adjustment has to be found  EXTERNAL
ADJUSTMENT AND MEDIUM-TERM FISCAL CONSOLIDATION IS INEVITABLE
6. Even with properly manager public finances, the fight against poverty will
be set back  SCALE UP EFFECTIVE ANTI-POVERTY PROGRAMS
7. External resources will continue to be scarce specially in the post-crisis
world  STRENGTHENING COMPETITIVENESS AND ECONOMIC
DIVERSIFICATION IS KEY
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