International Finance and Financial Policy

By Hans R. Stoll | Go to book overview

8
International Economic
Policy Issues

JACOB A. FRENKEL

The year 1988 was indeed a successful one if you look at the global macro variables. Economic growth was an extraordinary 4.1 percent in the industrial world, and in the developing world also it was over 4 percent. Inflation was relatively mild. Investment growth was extremely high. Growth of world output was generated to an unusually large extent by investment; it was not merely consumption-led. Of course, interest rates went up significantly, putting some clouds on the horizon.

What are the largest clouds we see in the spring of 1989? The first is external imbalances. During 1988 we saw significant progress in reducing the external imbalances of the major countries. In Japan the surplus declined from 3.6 percent to about 2.8 percent of GNP, and in the United States the deficit declined from 3-4 percent to about 2.8 percent of GNP, while in Germany the surplus remained at about 4.8 percent of GNP. So far, so good, except that as we look down the road to the medium term, with existing policies and existing patterns of real exchange rates, one does not see further shrinking of these imbalances. The notion of sustainability is a little bit problematic, especially in a medium- term context. We are really not sure if the imbalances are sustainable or not, but the costs of a mistake are not symmetrical. Prudence from the perspective of policy making requires one to ask what should be done if it is not sustainable and then follow up with policy action.

But one real issue that did come up during the past year and that poses challenges both to our understanding and for policy making is whether we should always be concerned about external imbalances, irrespective of where they come from. In the United Kingdom, for example, the external deficit does not arise from the public sector. As a matter of fact the public sector is in surplus. Should we have the same degree of concern with an external imbal-

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