Three IMF economists have signed an article in which they argue that neoliberal policies, in particular the free movement of capital and austerity, have been “oversold”. EURACTIV’s partner La Tribune reports.
The International Monetary Fund (IMF) was at the forefront of the liberal revolution in the 1980s, building on the foundations laid down by the monetarist school in the previous decade. Wherever it went, the institution promoted the same policies: the small state, budget surpluses, the deconstruction of social policies, massive privatisation and the opening up of markets.
With the IMF headquartered in the US capital, these policies became known as the “Washington Consensus.”
But cracks are beginning to show in this tradition. Currently engaged in a struggle with the Eurogroup to end the notion of the “sustainability of Greek debt” – based on enormous and infinite primary budget surpluses – the Fund last Thursday (26 May) published an article in its magazine “Finance & Development”, which questions the wisdom of neoliberalism.
In this article, entitled Neoliberalism: Oversold?, the three authors, Jonathan Ostry, Prakash Loungani and Davide Furceri, all economists in the IMF’s research department, highlighted the negative effects of two types of policy long supported by the institution: the free movement of capital and policies of austerity and privatisation.
The authors pointed to a number of areas where, in their opinion, the neoliberal agenda has been a success. These include the development of emerging economies, removing millions of people from poverty and improving the efficiency of public services.
But they also clearly intended to bury the illusion of a miracle solution by stressing the harmful effects of neoliberalism.
The free movement of capital
The article emphasised the complexity of the link between economic growth and the phenomenon of free-flowing capital. While direct foreign investment is clearly a driver of economic development, the same is not true of other financial flows. Banking flows, short-term speculation and capital flight often destroy more wealth than they create. They inflate the bubbles that lead to volatility and crises.
“Since 1980, there have been about 150 episodes of surges in capital inflows in more than 50 emerging market economies; […] about 20% of the time, these episodes end in a financial crisis, and many of these crises are associated with large output declines,” the economists wrote.
For the IMF, “increased capital account openness consistently figures as a risk factor in these cycles”. They also stressed the problem of the distributive bias of these capital flows, which tend to increase inequality and hold back economic growth, particularly after a crash.
The authors even conceded that capital controls based on exchange rates and financial regulation can be a “viable option when the source of an unsustainable credit boom is direct borrowing from abroad”.
Cutting the debt at any cost?
Next in the firing line was austerity politics. While defending the idea that budgetary consolidation is necessary while a country is in danger of losing market access, a nod to the policies carried out in Southern Europe since 2010, the three economists also stressed the fact that a large debt is not necessarily a barrier to economic growth.
This holds particularly true for countries with a good credit rating and for whom there is no danger of losing market access. For them, the benefit of debt reduction at any cost “turns out to be remarkably small”.
Cutting national debt from 120% to 100% of GDP brings very little tangible benefit, according to the economists. Perhaps most interestingly, the IMF economists wrote that “caution about ‘one size fits all’ [approaches] seems completely warranted”.
Yet this is just the kind of policy that was forced upon Southern Europe from 2010 to 2013.
Discovering the negative effects of austerity
The authors went on to remark that any policy of austerity must also take into account its inevitable cost. This, they insist, is very high. The article even contests the notion that budgetary consolidation can lead to stronger economic growth.
“In practice, episodes of fiscal consolidation have been followed, on average, by drops rather than by expansions in output,” the authors wrote.
“On average, a consolidation of 1% of GDP increases the long-term unemployment rate by 0.6% and raises by 1.5% within five years the Gini measure of income inequality,” they added.
Despite the economists’ calls for caution, this article appears to prove that the IMF is beginning to question its theoretical basis. The institution’s changing attitude towards the Greek crisis seems to support this view. But radical change will not happen over night.