Choongsoo Kim: Returning to sustainable growth - an EME's
perspective
Special speech by Mr Choongsoo Kim, Governor of the Bank of Korea, at the G20 High
Level Seminar on "Returning to sustainable growth - an EME's perspective", Mexico City,
24 February 2012.
* * *
Fellow governors and finance ministers, and ladies and gentlemen.
It is a great honor and pleasure to speak at this high-level seminar. I am grateful to Secretary
Meade, Governor Carstens, and Managing Director Dallara for inviting me to deliver this
special address.
The recent global crisis has cast a long shadow on financial and real activities worldwide.
The financial disruptions and severe recession following the crisis hit both sides of the
Atlantic, and at the same time triggered negative spillovers to EMEs, many of which were
mere innocent by-standers. The euro area debt crisis, and its threat to financial stability, was
the culmination not only of the structural imbalances within the euro area itself but also of a
complex web of real and financial linkages that had not been well understood. The global
crisis also revealed a number of shortcomings in our financial system, ranging from
inadequate regulatory frameworks for addressing systemic risk to under-regulated
crossborder capital flows.
Over the past three years or so, the international community has discussed possible
solutions to improve stability and resilience of the global financial system. And notable
progress has been achieved on multiple fronts, including formulating a strengthened
regulatory framework and laying the foundation for reform of the international monetary
system under G-20 leadership. No doubt more challenges remain in our search for durable
global financial stability. In this respect, the G-20 must continue to be the locus of
international cooperation and policy coordination.
As we enter our fourth year since the crisis, however, I would argue that the time is now ripe
for renewed attention to sustainable growth. Financial stability - or more broadly
macroeconomic stability - is of course a prerequisite for sustainable growth, but the
converse is also true. In other words, the real and financial linkages involve a two-way traffic.
And indeed, it is hard to imagine that the highly indebted countries in Europe will be able to
successfully put their public finances on sustainable footings if their growths remain stagnant.
From this perspective, global financial resources may have in recent years been directed
too much toward the financing of unsustainable fiscal deficits in debt-ridden countries, and
too little toward growth. I believe that the redirecting of financial resources more toward
growth - more specifically, toward countries with high productivity growth - could yield
substantial stability benefits to all in the long run.
Despite some irregular signs of economic recovery in the United States, the most recent
economic outlook by the IMF points toward slower economic growth this year in advanced
economies, particularly those in Europe. Emerging market economies are also projected to
face growth deceleration.
A challenging question at this juncture would therefore be what it would take to lift the global
economy out of growth recession and return it onto a path of sustainable growth.
Greater role of EMEs in reviving growth
I believe that active macroeconomic policies played an essential role in containing the global
crisis, and saved us from repeating the same mistakes our predecessors made some eighty
years ago. But I am suspicious that more macroeconomic stimulus by advanced economies
can be a solution to reviving growth going forward. The financial markets are already flooded
with liquidity, but in the midst of high uncertainty and financial deleveraging its effects in
boosting investment and consumption still fall short. In fact, the available policy space may
be quite limited in advanced economies, where interest rates are already near zero and fiscal
consolidation is necessary to keep sovereign debt sustainable.
In this respect, I see a greater role for EMEs. They weathered the global crisis relatively well,
with few scars in their real or financial sectors. Their public finances are generally stronger
than those of advanced economies, and their inflationary pressures are now adequately
contained. These features of EMEs grant them substantial policy space for stimulating
growth in the short run.
One may argue that EMEs where inflation is well under control should therefore not hesitate
to use the policy space available to them to address the downside risks to growth. But the
reality is far more complicated than it appears. There is substantial tail risk associated with
the euro area debt crisis, which if it materializes could wreak havoc on EMEs. This will make
EMEs more cautious in using their available policy space for growth right now. Rather, they
might wish to preserve it for a much worse scenario.
It is thus crucial, for reviving growth, to defuse the euro area debt crisis by putting in place
credible fiscal plans. I am hopeful that the recent positive developments related to the Greek
bailout program will translate into a sharp reduction in the financial uncertainties now facing
EMEs.
Reforms for sustainable growth
Let me turn to the issue of how to return to sustainable growth.
Reviving growth following recession and returning to sustainable growth are of course not
one and the same. The latter will require comprehensive reforms - in both advanced and
emerging countries.
And again I see greater scope here for EMEs, particularly emerging Asia, to lead the way
back to sustainable growth. To be specific, EMEs contributed about 40 percent to world GDP
growth during the globalization period of 1986-2007, compared to 27 percent for the
preglobalization period of 1973-1985. More recently, emerging Asia alone accounted for
50 percent of world GDP growth during 2006-11. And IMF projections suggest that the
growth contribution of emerging Asia will continue at around 50 percent for the next five
years. These are not surprising in that EMEs are well positioned to undertake high
investment for growth along their catch-up process which is not yet completed.
But this large contribution to global growth masks important risks to EMEs, in leading the
return to sustainable growth. Many EMEs rely heavily on external demand for growth, and
therefore will face challenges going forward if advanced economies do not grow fast enough.
Over a longer horizon, the export-led growth strategies of large EMEs will be unsustainable,
given their implications for the global imbalances. This suggests that EMEs need to
rebalance their growth, toward a greater share driven by domestic demand.
Another risk facing EMEs is financial vulnerability. Liberalization of their capital accounts has
exposed these countries to the vagaries of financial shocks of external origin, while their
underdeveloped domestic financial markets offer little scope for hedging. Indeed, financial
crises have often interrupted the otherwise steady growth trends of many EMEs.
Advanced countries of course also face significant risks to sustainable growth. Their high and
rising public debts undermine not only financial stability but also growth. Evidence suggests
that public debt above 85-90 percent of GDP tends to affect growth negatively. High
longterm unemployment will lead to permanent losses of productive human capital. More
recently, rising unemployment and income inequality have compromised social cohesion in
these countries. Last but not least, the euro area has and will remain vulnerable to growing
structural imbalances between its core members and its periphery.
Based upon these observations, I would like to touch briefly now on several reform agenda
that I believe could help us to return to sustainable growth.
First, fiscal and financial regulatory reforms
There is no question that fiscal reform should be the first priority, and mark the starting point
of any reform sequence in debt-ridden advanced economies. But EMEs also need to prepare
for approaching fiscal challenges associated with population aging and growing demand for
social welfare. As to financial regulatory reforms, they have been extensively discussed and
formulated into the Basel III policy framework. And for this reason, I will not discuss them
further here.
Second, more and better financial integration by EMEs
We all know that trade integration has enabled many EMEs to grow rapidly and accelerate
their catch-up processes. I believe that financial integration can do the same for EMEs, by
improving resource allocation within and across countries and offering greater liquidity and
risk hedging. The diverse development stages and demographics of EMEs offer very fertile
ground for efficiency gains from financial integration. These gains can of course be reaped
only if the attendant systemic risk is adequately controlled. But the strengthened Basel III
framework will render financial integration by EMEs more opportune going forward.
Third, structural reforms to promote domestic demand
Promotion of domestic demand helps to diversify the sources of growth, and thereby yields
stability gains for EMEs. Empirical evidence indicates that economic growth in EMEs is not
related to the size of the trade surplus, or even to the volume of exports, but rather to the
output of industrial products. And as long as domestic demand is sufficient to accommodate
it, EMEs can attain sustainable growth by expanding their industrial economic activities.
While the list of possible reforms to achieve this is long, I would like to highlight here the
effects of domestic financial development and social safety nets. A recent study finds that
their underdeveloped financial systems could be a cause of the high savings rates in Asian
EMEs. With limited access to financial markets or opportunities for diversification, firms tend
to retain their earnings for future investment and households to increase their precautionary
saving. These tendencies dampen private consumption. Incentives for precautionary saving
will be even stronger, I should add, if the social safety net remains relatively weak.
Finally, strengthening the global financial safety nets (GFSNs)
The large literature on economic development suggests that the quality and volume of
financial intermediation matters a great deal for long-run growth. Existing studies also show
that leveraged risk-taking enhances growth. It does of course also bring about undesirable
side effects, such as recurring financial crisis, but a review of the evidence indicates that the
growth-enhancing effects dominate.
In the context of EMEs, financial intermediation for growth has involved significant amounts
of cross-border transactions. And as a result, one of the most pressing issues facing them is
how to guard against the contingent risks of negative spillovers from advanced economies.
Improved oversight of capital inflows and macro-prudential regulations will help to address
the danger of global liquidity surges, and the attendant risk of asset price bubbles.
But emerging economies will still remain vulnerable to sudden reversals or disruptions of
global liquidity. Enhanced protection against such global liquidity disruption would facilitate
their promotion of financial integration as a new source of growth. The existence of
wellfunctioning global financial safety nets would also help to reduce EMEs' temptations to pile
up large volumes of foreign reserves for self-insurance, and thereby mitigate the problem of
the global imbalances.
Concluding remarks
Let me conclude.
The G-20 was pivotal in coordinating the macroeconomic policies adopted to address the
global crisis, and it has since made great contributions to framing the reform agenda for
financial stability and to formulating effective policy solutions as well.
Despite this great success, however, the G-20 now faces an even greater challenge - that of
finding solutions to lead our return to sustainable growth. This is particularly challenging
given our lack of sufficient knowledge to serve as a guide. Country experiences of
sustainable growth are too diverse to draw universally applicable and time-invariant lessons.
And the theoretical underpinnings of sustainable growth seem too abstract to offer practical
guidance for reforms.
I am confident, however, that collective wisdom and creative thinking will ultimately emerge. I
hope that the G-20 agenda under Mexico's Chairmanship will be a turning point in our search
for solutions to achieving sustainable growth and global prosperity in the years ahead.
Thank you for your attention.