U.S. Department of the Treasury

(Archived Content)

FROM THE OFFICE OF PUBLIC AFFAIRS

LS-336

I would like to take the opportunity today to reflect on the global economy in these first months of a new century as the financial crises of 1997 and 1998 abate, as growth in Europe and Japan begin to turn upwards, and we prepare for the upcoming G7 meetings in Tokyo.

A welcome consequence of the recent upturn in conditions outside the United States is that it is moving us away from a time when we found ourselves to be the main engine of global growth. As the period of repair continues, achieving sustained and stable growth with increasing balance in the pattern of expansion across economies - while preserving a broad framework of financial stability - will and must be the first item on the G7 agenda in Tokyo and beyond.

Success will depend on what we do here in the United States. It will also depend importantly on what others do. Let me turn first to the challenges here at home.

I. The United States

Americans can take satisfaction from the progress that the United States economy has made during the past ten years:

• At the start of the decade, the debate was about how high unemployment would remain and how long the productivity slowdown would last. Today, forecasters debate how low unemployment can go with inflation still subdued, and how to extrapolate the productivity improvements that have recently been achieved.

• At the start of the decade, debate focused on preventing the federal deficit spiraling further out of control. Today the question is how best to manage the prospect of rising surpluses.

• At the start of the decade, there was the concern that social problems would prove intractable. That continues to concern us today. But with welfare rolls at half their previous level; crime rates lower than they have been in a generation; education measures rising; poverty declining; and real wages growing at every level of income, it is fair to say that we are seeing real progress.

I believe this progress reflects a number of factors.

First, competitive finance and market flexibility. These made it possible for large-volume finance to flow into the industries of tomorrow. It has been estimated that in the 1950s and 1960s it took 20 years for one-third of the companies in the Fortune 500 to be replaced by new entrants. In the 1970s, it took a decade. In more recent times - just five years.

. These made it possible for large-volume finance to flow into the industries of tomorrow. It has been estimated that in the 1950s and 1960s it took 20 years for one-third of the companies in the Fortune 500 to be replaced by new entrants. In the 1970s, it took a decade. In more recent times - just five years.

Second, the restoration of fiscal discipline. By balancing the budget, we have helped double our rate national savings and built a highly supportive environment for private investment. Nearly $2 trillion dollars that would, according to the deficit projections made in 1993, have been absorbed in public borrowing has instead been invested in private sector investment and employment. Real investment as a share of GNP is now higher than it has been at any time in the past 50 years, in turn helping the recovery to be more long-lived.

By balancing the budget, we have helped double our rate national savings and built a highly supportive environment for private investment. Nearly $2 trillion dollars that would, according to the deficit projections made in 1993, have been absorbed in public borrowing has instead been invested in private sector investment and employment. Real investment as a share of GNP is now higher than it has been at any time in the past 50 years, in turn helping the recovery to be more long-lived.

Third, the maintenance of an open economy. Exports have created millions of new jobs - jobs that on average pay 13 to 16 percent above the average wage. And our openness to imports has fueled competition; encouraged innovation; and helped sustain growth with low inflation such that even now, nearly 9 years into an expansion, long-term interest rates are significantly lower than they were when the recovery began.

Exports have created millions of new jobs - jobs that on average pay 13 to 16 percent above the average wage. And our openness to imports has fueled competition; encouraged innovation; and helped sustain growth with low inflation such that even now, nearly 9 years into an expansion, long-term interest rates are significantly lower than they were when the recovery began.

Fourth, strengthened support and incentives for low-income workers. Thanks to successive expansions of the Earned Income Tax Credit, federal spending on support for low-income working families is now ten times what it was in the mid-1980s. This increase in the return to lower-paid work is not unrelated to the fact that a higher percentage of our population is in the active labor force than at any time in peacetime history, and it provides another reason why inflation has remained so subdued.

Thanks to successive expansions of the Earned Income Tax Credit, federal spending on support for low-income working families is now ten times what it was in the mid-1980s. This increase in the return to lower-paid work is not unrelated to the fact that a higher percentage of our population is in the active labor force than at any time in peacetime history, and it provides another reason why inflation has remained so subdued.

However - as strong as the fundamentals of our economy are, and as strong as investment has continued to be - it is important for all of us to remember that just as the world in 1999 looks very different from the world of 1989, so too did things look very different in 1989 than in 1979 - and so will 2009 surely look very different from today.

None of us can afford to be complacent or to take these good times for granted. Indeed, complacency can itself be a threat to good times, if it leads to excessive borrowing or lending, unsustainable spending plans, or a failure on the part of consumers, businesses or government to recognize the uncertainties that are inevitable in economic life.

We cannot know what our economy will look like a decade hence. What we do know is that we are now enjoying a very prosperous moment. We need to take advantage of this moment of prosperity to build the conditions for a more durable expansion with a reduction in the imbalances that have emerged in our economy and the global economy.

Any current account deficit is a reflection of the amount of domestic expenditure relative to the amount of goods produced or, equivalently, the amount invested domestically relative to the amount that is saved. When, as it does now in the US, the imbalance reflects a period of strong growth relative to the rest of the world, accelerating productivity gains and relatively high investment in our productive potential, and takes places in a context of rising public sector savings, it is unlikely to pose an immediate risk to the well being of the economy. Indeed, quite the reverse.

At the same time, it is obviously important, for our own economy and for the global economy as a whole that the United States move over time to a more balanced external situation because a more balanced expansion is likely to be a more durable one. As Secretary Rubin used to say: the world cannot indefinitely sustain the present level of imbalances that have emerged in the growth and openness of the United States and the rest of the world.

The key contributions that we can make to a smooth domestic and global adjustment in the pattern of growth are:

• Preserving our hard-won fiscal discipline and the increased room for domestically funded investment that such discipline creates. That means continuing to pay down debt and avoiding excessive tax cuts that could put future surpluses in doubt.

• Doing all that we can to raise private saving. Some of the significant fall in household saving appears to be due to the temporary impact of large wealth gains on consumption, so this should pass in due course. But national saving remains uncomfortably low - both relative to other industrial economies and to our own experience in the 1950s and 1960s.

• Doing all that we can to include every American in the productive enterprise of the nation, through further expansion of our support for the working poor and stronger efforts to combat social exclusion. This is a moral imperative. It is also an economic imperative at a time when increasing our productive capacity means a reduction in future inflationary threats.

These steps will promote the prospects for a healthy, savings-driven adjustment process in the United States. And the best way of supporting that kind of healthy adjustment - the best for the United States, for the G7 economies and for the global economy as a whole - will be for higher national savings in the United States to be accompanied by a more open and rapidly growing global economy. This, in turn, will depend critically on what happens in Europe and Japan.

II. The G7 Challenge

Americans must guard against the complacency that can come from strong past performance. But our experience reminds us that poor performance can lead to complacency of a different kind. In the United States of a decade ago it was common place to suggest that we needed to accommodate ourselves to diminished expectations about what our economy could achieve. Fortunately, we did not. Governments, workers and businesses in Europe and Japan are increasingly recognizing that they, too, do not have to limit themselves to the hope that growth will return to traditional estimates of potential - and that gradually, more of their economy's substantial wasted or unused capacity will be absorbed.

As Europe and Japan put the 1990s behind them, the right aspiration for policy is much higher than that: achieving a sustained period of growth above what has recently been considered their potential, and encouraging the kind of investments that are necessary to raise the rate at which the economy can expand. This will also help bring about a more balanced pattern of growth in the global economy as a whole.

As policy makers in both regions recognize, this has two dimensions:

• Developing a dynamic micro-economic environment that supports growth in investment and employment.

• Maintaining a supportive and flexible macro-economic stance, at a time when economies are still fragile; global competition is more intense; and there is the prospect that, as in the US, rising investment-led demand will in turn create room for higher effective supply.

Europe

In recent years important foundations of a more dynamic European economy have started falling into place: notably, with the development of the single market and introduction of the Euro. But the region's policy makers and businesses see clearly that the micro- and macro-conditions for realizing the full potential of these developments are not yet fully established:

• A truly European financial market is being born, with some private sector estimates suggesting bond issuance around five times higher in 1999 than in 1998 - and innovations such as the German Neuer Markt now making their mark. Yet fixed investment in the euro-area has risen by only 10 percent in real terms, since 1991. In the United States it has nearly doubled. And last year, only 2.5 percent of EU pension fund assets were invested in venture capital, compared with nearly three times that in the US.

• In large part as a result of Europe-wide moves toward deregulation, Europe is considered by private sector analysts to have the most dynamic and well-developed mobile phone markets in the world. But as we are seeing, cross-border takeovers can raise unexpected difficulties in even this more liberalized market. And on average, the OECD has estimated that it takes 12 times longer to set up a new business in Europe than in the US, and four times the cost.

• Several countries have taken steps to improve flexibility in the labor market and thereby boost potential growth in employment. Those who have gone furthest in this direction, such as the UK, Netherlands, Ireland and Denmark, have enjoyed significant declines in structural unemployment and above-average growth. But for the Euro area as a whole, high unemployment has persisted. The jobless rate dipped into single digits last fall. But, at nearly ten percent, it remains higher than in 1990 and much higher than many in a continent with a tradition of social inclusion are willing to accept.

No one knows better than Europe's reforming governments the kind of commitment and political will that will be needed to complete this ambitious agenda for change. But the potential is clearly there. It has not escaped notice that the four countries that have moved furthest with structural reforms, real fixed investment in the 1990s has risen between three and ten times faster than for the Euro-area as a whole.

Maintaining a strongly supportive macro-economic environment will be equally critical. As in the United States, the challenge for the European authorities will be the maintenance of pragmatism and an open mind. Just as we have been struck by the room for inflation-free growth that an investment-led recovery has made available in the United States, so European policy makers will need to be open to the possibility that in the context of high investment and a more responsive labor market, the traditional parameters of relationships between growth and inflation will shift.

Japan

The same structural challenges are presented even more forcefully in Japan. There, important steps have been taken to reverse the poor economic performance of recent years and build an economy that can play its part in a more balanced pattern of global growth. But as the Japanese authorities recognize, enormous obstacles remain if Japan is to achieve the kind of dynamic market-driven growth that its people deserve and its demographic situation demands.

In the financial system, Japan's "Big Bang" liberalization plans for financial services stand out as an example of important progress, including the freeing up of foreign exchange transactions, investment trusts, and brokerage commissions. The authorities have also made real progress toward stabilizing the condition of the major financial institutions and beginning the process of restructuring and consolidation. But all recognize that significant challenges remain: especially asset disposition and the creation of more effective and flexible resolution techniques.

More broadly, as last year's OECD report on regulatory reform in Japan made clear, the authorities' repeated deregulation efforts since 1993 have made headway in few areas outside the financial, telecommunications, and retail sectors. Outside these, markets are still distorted by regulations that impede innovation and competition. Yet the estimated benefits of even this very limited progress underscore how large the ultimate returns could be.

For example, thanks to deregulation of telecommunications:

• Nearly 60 percent of Japanese households now own cellular phones, up from just 3 percent in 1993.

• Planned investment in the mobile communications, at 1.5 trillion yen last year, is now equal to that planned in the entire Japanese auto industry.

• The share of the Japanese population with internet access, at 16 percent, has nearly tripled in two years, although this is still less than half the share in the United States, and below that of many European countries.

Successful structural change will depend on the maintenance of a supportive macro-economic environment. Despite signs of recovery, private sector estimates suggest that the Japanese economy will achieve only a very modest rate of growth this year and barely begin to erode the substantial output gap that now exists.

The Japanese government has committed itself to maintaining a supportive fiscal stance until a self-sustaining recovery in private demand is assured. Over the medium term, Japan faces important fiscal challenges, and going forward there may be increasing limits on the role for fiscal policy as the major source of domestic stimulus. But as the past few years have shown, the greatest threat to the economy's long-term fiscal health would be allowing the economy to slip once again into recession. This makes it all the more important that the overall macro-economic stance continue to be accommodative as growth becomes more firmly established. In that context, the monetary authorities have reaffirmed their commitment to maintaining their zero interest rate policy until deflationary forces have been dispelled.

The broader context

We must welcome the indications of continuing repair in the emerging market economies, even as we recognize that in certain countries, economic and political uncertainties remain severe. Attending the first meeting of the G20 in Berlin last month I was struck by the mood of optimism that is beginning to take hold - sometimes, in countries that just two years ago felt themselves to be staring into the abyss.

In the recovering crisis economies, too, what will be crucial going forward will be to maintain the pressure for reform even as economic conditions begin to turn upwards. It is to be expected that as conditions and confidence in the emerging market economies improve, investment flows will pick up - and the very large swing in their external positions that came with the crises will gradually be reversed. This, too, has the potential to contribute to greater balance in global economic growth.

It has frequently been observed that as a consequence of our strong cyclical performance, a very large proportion of the shift in Asian current accounts that occurred as a result of the crises was mirrored in a rising current account deficit in the United States. The current account surplus for the Euro-area last year, at just over 1 percent of GDP, was broadly unchanged from its level in 1996 - while Japan's has actually risen substantially during this period, from 1.4 percent of GDP in 1996 to roughly 2.5 percent of GDP in 1999. With a successful strategy for supporting strong domestically generated growth in Europe and Japan, this skewed pattern of adjustment would naturally be reversed.

III. Global Challenges Going Forward

I have been talking about the macro- and micro-economic imperatives for successful and balanced global growth. But in a more integrated world, we need to recognize that these have their counterparts in the maintenance of a strong and fully integrated international trading system.

At the micro-economic level, we are seeing daily the potential that integration affords as innovation in telecommunications and information technology spread around the world and the number of the world's people connecting through the Internet grows at exponential rates. At the same time, continuing this progress and building a global economy that works well for all its members will also need efforts that are more overarching.

This will have a national dimension, as countries work to open their markets or, where they are already open, work to maintain support for them to remain so. It will also have a regional dimension, be it the continued expansion and deepening of the European Union or the commitment to greater openness that is reflected in APEC. But now, especially, the development of a strong and prosperous global economy will also require a commitment to a strong multilateral trading system. As we work to seize the opportunity for strong and more widespread economic growth that a recovering global economy affords, this commitment will also need to be an important focus at the upcoming meeting in Tokyo and going forward. Thank you.

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