Q&A Seven Questions about Policy Options for Emerging Market Countries

• Author: Marcos Chamon, Chris Crowe, and Jun Il Kim
• Pages: 8-10

Page 8

There has been a vibrant discussion about the policy options for emerging market countries to cope with the global financial crisis. What kind of counter-cyclical policies might be feasible? How can harmful balance sheet effects be avoided? What is the role for the International Monetary Fund? Based on the results of recently-issued IMF Staff Position Note by the authors along with Rex Ghosh and Jonathan Ostry,¹ this article provides brief answers to seven commonly asked questions about how emerging market economies can best respond to the current global crisis.

Question 1: Are the policy options available to emerging market economies trying to cope with the current crisis different from those in previous crises?

There is an important distinction between emerging market economies that were ripe for a home-grown crisis associated with the end of unsustainable credit booms or fiscal policies, and those that were just bystanders caught up in the storm. For the first group, the options are fairly limited, and, as with previous emerging market economy crisis episodes, may entail painful adjustment measures. But a number of emerging market economies have taken advantage of the benign external environment prior to the crisis to make their economies more resilient by pursuing sound macroeconomic policies. Thus, unlike in previous crises episodes, many emerging market economies now have room to pursue countercyclical policies, and we encourage them to explore their options.

On more specific points of departure, the Staff Position Note raises questions on the effectiveness of an interest rate defense of an exchange rate peg, which was once a common feature in IMF-supported programs (although tight monetary policy is still likely to be necessary in the aftermath of a devaluation in order to prevent an inflation-depreciation spiral; see Ghosh and others, 2002). On fiscal policy, the note makes the case for a countercyclical policy provided there is enough fiscal space to pursue it (which is often not the case for countries in the midst of a crisis).

Question 2: Does the Staff Position Note reflect a real change with respect to previous IMF advice and thinking on these issues?

IMF advice has evolved in response to changing conditions in the global economy. The IMF's policy advice has evolved not because it was wrong, although a few mistakes were made in the past (see IMF Independent Evaluation Office, 2003), but rather because the current crisis has many unique features, and conditions globally and among emerging market economies have evolved since the previous round of emerging market crises. As mentioned above, the pursuit of...