Adjusting for growth

• Pages: 340

Page 340

Sound, sustainable government finances can play a crucial role in promoting macroeconomic stability and growth, but good fiscal policy is hardly static. Particularly in an age of intensifying globalization, it requires frequent adaptation in the form of policy adjustments and strengthened institutions. Intensifying globalization has sped up this process, and Fiscal Adjustment for Stability and Growth-a new IMF pamphlet-examines the major changes of the past 15 years and counsels a pragmatic approach. The pamphlet, which updates a 1995 publication, explores when adjustment is needed, how the fiscal position should be assessed, what makes adjustment successful, how adjustment should be carried out, and what types of institutions can help.

New challenges

What has changed? For starters, globalization has become a defining issue, says James Daniel, one of the pamphlet's coauthors. On the revenue side, for example, it is now much more difficult for countries to tax mobile factors of production (such as international businesses) at the high rates they once could. Globalization has also proved a double-edged sword for emerging market economies-providing far greater access to international capital markets but also punishing overly lax fiscal performance swiftly and severely.

For many poor countries that no longer have to service heavy foreign debts and can look forward to much more aid, the period ahead could be a golden opportunity. Fiscal policy can and should help countries meet their development goals. But, Daniel cautions, policymakers must be mindful of the checkered history of aid and the numerous possible pitfalls, including real exchange rate overvaluations that can undercut exports and productivity growth ("Dutch disease"), crowding out of the private sector, limited government capacity to spend money well, ramifications for governance and domestic revenue generation, and unpredictable and volatile flows, especially when aid gives rise to ongoing spending needs.

Lessons of experience

Following apparently successful efforts to subject...