Globalization, IMF and Bulgaria Presentation by Piritta Sorsa * *, Resident Representative of the IMF in Bulgaria, At the Conference on Globalization and Sustainable Development, Varna Free University, July 1, 2002 A. What is globalization? Globalization, like a summer wind, has many names and faces. It is most often described as increased integration of the world economy via flows of trade, capital, people and information -- perhaps one day towards a global village. In recent decades this age old phenomenon (the Romans or Marco Polo were early globalizers) has gathered pace as innovations in communications and transport have lowered barriers to exchange across borders. For example, the cost of a 3 minute phone call from New York to London has declined from 60 dollars to 40 cents since 1960, or that of air transport is now one sixth of what it was in 1930. But globalization has also been called as the Mcdonaldization or reimperialization of the world suggesting that not all agree on deeper integration. In Bulgaria, transition to a market economy and joining Europe have launched the country over the past decade firmly towards deeper integration with the world economy setting new challenges to economic policies. Is globalization then a threat or an opportunity? Participation in global goods or financial markets can bring rapid gains in living standards -- over the past century global world per capita GDP increased almost five-fold. However, markets do not necessarily * The views are those of staff and do not necessarily reflect those of the IMF s Executive Board.
- 2 - ensure that the benefits of the exchange are shared by all within or between the countries. In the richest quarter of the world s population the increase in incomes was six-fold, while the poorest saw only a three-fold increase widening the gap between the two worlds. Also globalization, or greater integration and openness, makes countries more vulnerable to changes in international market conditions such as demand, prices or financial flows, which can result in larger volatility in domestic activity. The world recession in the 1930s or the financial turmoil in the 1990 s made it quite evident that the opportunities of globalization do not come without risks. Instead of rejecting globalization as a threat, it is better to focus on the opportunities while developing policies to safeguard against the risks and distribute the gains more evenly. At the international level, organizations like the IMF and the Basel committee in finance, or the World Trade Organization (WTO) in trade, work towards creating conditions for a smoother functioning of international markets. At the country level, government s must be prepared to embrace measures that enable their economies to reap the benefits of globalization and mitigate its negative effects. This can mean policies that promote efficiency, human capital creation, flexibility and competition, but also social safety nets, environmental policies and training programs. B. The Role of the IMF in Smoothing the Risks and Costs of Globalization The very creation of the IMF, together with the World Bank or the General Agreement on Tariffs and Trade (later WTO), in the aftermath of World War II was aimed at facilitating economic integration in the world economy after the
- 3 - disastrous, closed policies of the 1930 s that led to the collapse of trade and financial flows and the great depression. The IMF was established to : Promote international monetary cooperation Facilitate the expansion of international trade Promote exchange rate stability Assist in the establishment of a multilateral system of payments Make its general resources temporarily available to its members experiencing balance of payments difficulties under adequate safeguards Over the years, the IMF has performed these tasks in three main areas: surveillance, financial and technical assistance. Surveillance includes reviews of both national and multilateral economies, for example, in the form of annual consultations on countries policies, semi-annual reviews of the world economic situation, or developing bestpractice standards for transparency of policies or information. Financial and technical assistance help countries to cope with turmoils in the world economy, or to reduce vulnerabilities to shocks. During the past five decades of intensified globalization the role of the Fund in general, and of these particular tasks, has evolved in response to changes in the world economy and in its member countries. The recent intensification of globalization has highlighted the importance of crisis prevention and preparing countries to face the risks of globalization also at the IMF. At the country level, this means more attention to various vulnerabilities to external shocks in the structures of economies, or adherence to international codes in transparency
- 4 - of various macroeconomic policies. At the international level, the IMF is actively participating in what is called strengthening the architecture of the international financial system or making markets operate with more transparency, equity and efficiency. This emerged after the crisis of the 1990s, which revealed that investors did not appraise risks adequately, and that regulators and supervisors in the major financial centers did not monitor developments sufficiently closely, or that not enough information was available about some international investors (offshore financial institutions). The main challenge for the IMF to strengthen the global financial system so that it becomes less prone to financial crisis and more able to cope with them when they occur. The institution has identified five major areas for cooperative global efforts on reform. Many of these initiatives have implications for further strengthening IMF surveillance or reforming of the IMF to better serve the challenges in the world economy. 1. Transparency The goal is to make timely, reliable data, plus information about economic and financial policies, practices, and decision-making, readily available to financial markets and the public. 47 countries now subscribe to the IMF s Special Data Dissemination Standard (SDDS), which encourages member countries to provide detailed and reliable national economic and financial data. Bulgaria is not yet a participant. In its surveillance of members economies, the Fund continues to actively encourage members to release Public Information Notices (PINs), which describe
- 5 - the IMF Executive Board s assessment of a country s economy and policies. Over 80 percent of countries now release PINs (including Bulgaria). Under a pilot project for the voluntary release of the staff reports that are the foundation of the surveillance process, almost one-third of member countries have published the reports (on Bulgaria these are posted on the web). In the use of IMF financial resources, the Fund similarly encourages members to release details of the policies the member will follow to restore economic stability under its IMF-supported program, and about 90 percent of members (including Bulgaria) now release this information. The Fund also releases the key points of Executive Board discussions of those programs. 2. Developing and Assessing Internationally Accepted Standards Adherence to international standards and codes of good practices helps ensure that economies function properly at the national level, which is a key prerequisite for a wellfunctioning international system. In consultation with others, the IMF has developed standards or codes of good practices in its main areas of responsibility: the Special Data Dissemination Standard; the Code of Good Practices on Fiscal Transparency; the Code of Good Practices on Transparency in Monetary and Financial Policies; and guidelines concerning financial sector soundness. For example, these guidelines recommend that government budgets and their implementation are published, or that monetary policy goals are clearly announced to the public.
- 6 - Other standard-setting bodies are working on developing, strengthening, and disseminating international standards in the areas of accounting and auditing, bankruptcy, corporate governance, securities market regulation, and social policy. To help foster countries implementation of these rules of the road, the IMF has prepared experimental country case studies known as ROSCs (Reports on the Observance of Standards and Codes) that assess a country s progress in observing internationally recognized standard and codes. Bulgaria has had these assessments since 2000. 3. Financial Sector Strengthening Banks and other financial institutions need to improve internal practices, including risk assessment and management, and the official sector needs to upgrade supervision and regulation of the financial sector to keep pace with the modern global economy. The IMF and the World Bank have intensified and enhanced their assessment of countries financial systems through joint Financial Sector Assessment Programs (FSAPs), which serve to identify potential vulnerabilities in countries financial systems. As of end-march 27 countries have participated in this program including Bulgaria last year. With IMF input, the Basle Committee on Banking Supervision is addressing gaps in regulatory standards. 4. Involving the Private Sector
- 7 - Better involvement of the private sector in crisis prevention and resolution can limit moral hazard, strengthen market discipline by fostering better risk assessment, and improve the prospects for both debtors and creditors. Efforts at prevention must be focused on the implementation of appropriate policies, strengthening of financial systems, and establishing a constructive dialogue with private creditors. The Fund is encouraging members during periods of relative calm to put in place mechanisms that could help facilitate the orderly resolution of crises, including collective action clauses in contracts and contingent lines of credit. When crises inevitably occur, it is important to maintain the involvement of private creditors. In some cases, it may be possible to rely on the catalytic impact of lending by the Fund or other official sources to persuade creditors to maintain exposure. In others, it will be necessary to use mechanisms such as debt restructuring to ensure that countries programs of economic adjustment are fully financed without excessive reliance on capital from official sources. 5. Modifying IMF Financial Facilities and Other Systemic Issues The IMF created a new instrument of crisis prevention in 1999, Contingent Credit Lines (CCL). The CCL is a precautionary line of defense readily available to member countries with strong economic policies designed to prevent future balance of payments problems that might arise from international financial contagion. The IMF has undertaken a fundamental review of all of its non-concessional financing facilities to ensure that they meet members needs in a changing world economy.
- 8 - C. Bulgaria, the IMF and Globalization Closer integration to the world economy can also help Bulgaria achieve higher living standards. Apart from dealing with the challenges of globalization, transition economies face the additional task of creating a market economy. Globalization may facilitate the process by offering opportunities for larger markets and access to external capital, but the transition-related changes in economic structures can also amplify the social cost of globalization. The policy challenges raised by both globalization, european integration and transition are similar. The main issue is the creation of conditions for sustainable growth, employment and increase in living standards. Apart from macroeconomic stability, this requires structural reforms towards an economy that functions on market principles, and can face the competition from more open markets. Attention also is needed to the creation of safety nets to protect incomes of the poorest in society or to the facilitation of labor movement by retraining. As you know Bulgaria, supported by the IMF, has made substantial progress in transition and creating the conditions for benefiting from globalization and for dealing with its costs. Under a three year program with the IMF, the economy has been stabilized successfully within a currency board, and structural reforms have progressed creating the basis for a sustainable growth. As a result, inflation declined to single digits, investments (both foreign and domestic) increased in terms of GDP from 13 to 19 percent
- 9 - of GDP in the past 5 years, and growth recovered to 4-5 percent per annum. A new 2-year IMF standby program signed in 2002 supports further policy reforms towards achieving higher growth, employment and incomes. Among remaining challenges are the maintenance of prudent fiscal policy to support the currency board, lowering of the debt burden and keeping the foreign trade imbalance sustainable. Also the completion of many remaining structural reforms (privatization, increasing energy efficiency in the economy, restructuring, education and health reforms, improving the business environment) will help Bulgaria better cease the opportunities of globalization. Progress has also been made in better targeting social programs to help vulnerable groups meet the costs of transition or globalization. Mitigating the risks of globalization requires particular attention to vulnerability factors. As many of the recent crises have been linked to unsustainable fixed parities of exchange rates, countries with these regimes need to ensure that their macroeconomic policies keep the system sustainable. The strength of the financial sector, its supervision and regulation, is of particular importance. Compliance with international transparency practices and codes to ensure that risks are properly assessed by investors can reduce financial sector vulnerabilities. Also making the economy more diversified and flexible should help in dealing with other volatilities in world markets. In Bulgaria, attention has also been paid to reducing vulnerabilities to external shocks and progress in these areas continues:
- 10 - The sustainability of the currency board calls for continued prudence in fiscal policies, progress with productivity enhancing structural reforms and restructuring of the economy to increase competitiveness. Progress in reducing vulnerabilities in Bulgaria in the financial sector has been good and the impact of globalization has been mainly positive. The IMF has developed a set of vulnerability indicators to help monitor vulnerabilities in member countries. The indicators show that the Bulgarian financial sector is sound (capital adequacy ratio is 29) and well supervised (performing loans are about 93 of total assets). The presence of foreign banks has increased competition lowering margins, increased the client base and introduced modern banking practices. Lower interest rates in international markets have also encouraged banks to shift funds from foreign deposits to lending to private sector to improve profitability. Strong supervision should ensure that the financial sector continues to remain healthy as credit grows. The IMF is helping this process by e.g. providing technical assistance in bank supervision, and with a financial sector assessment conducted in 2001 together with the World Bank to identify vulnerabilities. Vulnerability will also be reduced with prudent debt management policies to lower the overall debt burden and changing its composition. External debt is still about 70 percent of GDP, although it has a relatively long maturity (average 10 years) or low average interest rate making its service sustainable (debt service is about 25 percent of exports). However, lowering the high share of dollar debt
- 11 - when most exports go to the Euro zone, and floating interest rate debt can reduce vulnerabilities to changes in external market conditions. Lower debt and continued good policies to sustain growth should also Bulgaria eventually reach investment grade status making foreign financing of any temporary imbalances easier and cheaper. The IMF is supporting this process within the standby program and an expert dialogue on debt management issues. Structural change and participation in globalization should also reduce Bulgaria s vulnerability to changes in demand conditions in external markets. Currently, a large part of exports is still dominated by cyclically sensitive raw materials such as metals or chemicals making exports vulnerable to shifts in international prices or demand. At the same time, there are encouraging signs of export diversification into labor-intensive goods such as clothing or furniture. Continued structural reform is likely to further strengthen this trend and help reduce the current account deficit over time. Exporters have also diversified destination of exports by shifting to new markets. These reforms are supported by the IMF Standby program. Attracting foreign investment (FDI) is also important in reducing vulnerabilities to shocks. Bulgaria has a very low share of volatile short term capital flows (35 percent of reserves) and much of the current account deficit has been financed by generally more stable FDI, or official finance. Improving the business environment, and predictability of policies is likely to help attract further
- 12 - FDI to modernize the economy enabling it to participate better in the global division of labor. D. Concluding thoughts Globalization is likely to be here to stay offering countries, including Bulgaria, vast opportunities to increase living standards. To turn to process from threat to opportunity it is important to implement policies that both help countries reap the benefits of globalization and deal with its risks and costs including the uneven distribution of the benefits. The IMF is helping countries to cope with globalization both at the country level with policy advice, financial and technical assistance, but also at the international level to help reduce volatility in international markets, and improve assessment of risks with its surveillance activities. A particular initiative in this context is strengthening the architecture of the international financial system by promoting better information, good practices on transparency of policies, preventing of crises, and providing adequate finance if needed. Bulgaria stands to gain from participating in this process of which EU accession and transition are part of, and pose similar policy challenges. The process of globalization in Bulgaria will be facilitated by:
- 13 - Continued progress in creating a robust market economy by maintaining macroeconomic stability, speeding up structural reforms and restructuring of the economy Increased attention to social costs of transition and globalization Reduction in vulnerabilities to external shocks by maintaining a well supervised financial sector, sustainability of the exchange regime with prudent fiscal and incomes policies, supporting diversification of the economy with structural reform and restructuring, prudent debt management, and attracting longer term financial flows, in particular FDI.