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Making Goldilocks Happy

 April 20, 2012 10:41 AM


By Carlo Cottarelli

When it comes to adjusting public spending, getting the balance right is important. Fiscal adjustment is taking place in economies around the world, but risks remain high. Bringing debt and deficits down to more moderate levels is important to easing risks.

From one perspective, the sooner this happens, the better.

But, slashing budgets too abruptly can impede the overall economic recovery. And if the recovery stalls, debt and deficits will rise, and so will unemployment.

[Related -Crude Rebound]

According to our analysis, what is needed is a steady but gradual adjustment. So, as we've been saying at the IMF for a while now, the pace of adjustment needs to be appropriate—not too fast, not too slow, but just right, for countries where financing conditions allow.

Improving picture

Compared to six months ago, there has been some decline in risks. This is primarily because of progress in policy implementation, with progress being made particularly in Europe.

 

However, the risks remain very high, as underscored by continued market volatility, and by the fact that public debt is still on the rise. The chart below shows the public debt-to-GDP ratio over the last 130 years, on average, for the advanced economies.It shows advanced economies currently at a very high level— reached only once in the last 130 years, at the time of the Second World War.

[Related -The Fed Remains Optimistic On The US Economy For 2015]

So, the risks are still elevated in advanced economies. As the Fiscal Monitor underscores, the outlook is better in emerging economies, although they are still exposed to spillovers from advanced economies.

Altogether, fiscal adjustment is proceeding on average this year more or less at a pace that we regard as appropriate, taking into account the need to balance the different risks that countries are facing. In a few countries there would be room to reduce the pace of deficit reduction if the authorities wanted some extra insurance against downside risks to growth, but overall we think the pace of adjustment is broadly appropriate.


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