Olli Rehn: On the road to a new global equilibrium
Remarks by Mr Olli Rehn, Governor of the Bank of Finland, at the Panel Discussion on "Monetary
Policy Frameworks", Reinventing the Bretton Woods Committee, in the context of the IMF Annual
Meetings, Bali, Indonesia, 11 October 2018.
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Accompanying charts of this speech.
The prospects of sustained growth in the world economy are currently clouded by several risks
and vulnerabilities. Some have to do with the imbalances that stem from the legacy of the Global
Financial Crisis, such as the high level of private and public debt globally. Meanwhile, others
originate from contemporary political uncertainties, which threaten to seriously weaken the
structures of global economic governance.
Hence, I would coin the main challenges for monetary policy frameworks, and economic policy
coordination in general, into three: growth, resilience, prudence. More precisely: growth by
free trade; resilience in finance; prudence in monetary policy. Let me elaborate these in turn.
1. Protectionism is the present danger to sustained growth, as shown by the IMF reports
recently. If the protectionist measures were to reduce global growth e.g. by 1 percentage point, it
may sound small - but it would in fact amount to a loss of 800 billion euros, which is roughly
equivalent to 4 times Finnish GDP. Finland may be a small country, but not insignificant, and
losses of that magnitude would mean continued poverty and unemployment to millions of people,
especially in the developing world.
The IMF was founded as a building block for a multilateral, rules-based system of trade and
payments. Eroding the multilateral system of free exchange is a major threat to global prosperity,
and to successful monetary policy of individual countries and currency areas. Hence, I would
expect a clear, unequivocal message from the IMFC against protectionism, and in favour of
multilateralism and free trade.
2. The key lesson from the euro crisis, from which I have first-hand experience, is how vital
financial resilience is for the whole macro-economy, and for the real economy. The scale
and severity of the impact of the financial disruptions, not only on banks, but also on employment
and the public finances, came as a surprise to economists and policy makers alike. Hence, the
emphasis must be on resilience.
What are the policy implications of that? Globally, developing financial regulation should be
This is so despite the - perhaps understandable - regulation fatigue that
pursued consistently.
may be gaining ground.
The tasks are different depending on the situation in each country or region. In the euro area, the
key priority now is completing the banking union with common deposit insurance and by
strengthening the European Stability Mechanism. Meanwhile, the US and the UK should protect
their regulatory achievements. It would be a big mistake to roll back what was achieved in the
post-crisis years.
This links to which is
the management of monetary policy normalization, a balancing act,
where the right course should depend on the particular circumstances of each currency area.
This is the logic of the international system of floating exchange rates. However, monetary
policy has international repercussions, the severity of which depends on the existing
vulnerabilities of the countries that face these spillovers.
As a consequence, many emerging market economies need to pay more attention to
developing macroprudential policies which could limit their particular vulnerabilities. Having a
large share of foreign currency denominated lending in the domestic market is an obvious
example of such vulnerability, which has repeatedly caused serious problems in the past. Weak
balance sheets in the business sector are a vulnerability even in countries with no current
account deficits.
3. A critical issue related to financial resilience is the question how to ensure that the
monetary policy toolbox is sufficient when the next recession hits. Having sufficient room
of manoeuvre for active monetary policy is part of the resilience of the new equilibrium that we
strive for.
The problem is quite relevant because there are indications that the so-called natural rate of
interest (the medium-term equilibrium real rate of interest) may have declined in the recent
years, and may be clearly below what was thought to be normal in the past.
This has several implications. Where the convergence to sustainable price stability still
requires significant monetary stimulus, as is the case in the euro area, this calls for
prudence and for a gradual approach to monetary policy normalisation.
In my view it is reasonable to assume that the unconventional monetary policy measures
and instruments which were used during the crisis years (and the ECB, for one, is still using)
will stay permanently in the toolbox, at least in reserve.
4. Finally, I think that the word 'normalization' as a description of the monetary policy
outlook in the advanced economies is actually misleading, as it suggests a return to some
pre-crisis 'old normal'. I would prefer to talk about a journey towards a new equilibrium, which
should be more sustainable, resilient and inclusive than the old one.
On that journey, a key worry at the global level is the now apparent dependence of growth on
the accumulation of even more debt. This makes all parts of the global economy
increasingly vulnerable to any future shock. This suggests that the rebalancing of the
world economy is far from complete, but also necessary for sustainable growth and high
employment, the ultimate goals of economic policy.