Divergent Recoveries in Asia: History is not Destiny

2021-02-24T16:17:27-05:00February 23, 2021|

by Davide Furceri, Jonathan D. Ostry, and Anthony C.K. Tan

 中文,  日本語

Asian economies are performing better than expected. In the IMF’s latest World Economic Outlook Update, we upgraded our growth estimate for 2020 by 0.7 percentage point from our previous forecast in October, to a contraction of 1.5 percent—in regional terms, a better outcome than other parts of the world. This is largely driven by stronger-than-expected performance among advanced economies in the region, as well as some large emerging market economies such as China, India, Malaysia, and Thailand.

The expectation is for strong growth in Asia-Pacific in 2021 and 2022; but the aggregate figures mask an enormous range of output losses.

Growth outturns in the fourth quarter and higher-frequency economic indicators for industrial, trade, and retail activity point to a strengthening recovery. Output is projected to grow by 7.3 percent in 2021 and 5.3 percent in 2022 but, even if such a reality materializes, output losses from the pandemic will be significant nonetheless.

The aggregate figures mask an enormous range of output losses across economies, from close to zero in China, Japan, and Taiwan PoC to more than 20 percentage points in the Philippines and even 30 points in East Timor. The divergence is especially sobering for the Pacific islands and other low-income countries in the region, where lives and livelihoods will depend on additional international support.

Understanding the Divergence

Divergence is evident when comparing the IMF’s pre-pandemic (October 2019) forecasts with the current cumulative GDP growth projections for 2020, 2021, and 2022 (respectively, the years of impact, recovery, and when herd immunity is expected). Our recent research as well as country experiences identify four main reasons for the large disparity.

Health factors such as the effectiveness of containment measures and the human toll of the disease. The early implementation of stringent containment measures—such as in Australia and Vietnam—proved crucial in flattening the pandemic curve, ensured that medical systems were not overwhelmed and fatalities were reduced, laying the foundation for the recovery. Meanwhile, the rollback of containment measures only after the stabilization of outbreaks and establishment of strong testing and tracing regimes—for example, in China and Korea—were key to boost confidence and pave the way for a stronger rebound in economic activity and better health outcomes.

The magnitude and effectiveness of policy support. Extensive monetary and fiscal support—Japan and New Zealand being notable examples—has helped to mitigate the economic effects of containment measures and facilitated the resumption of activity. Fiscal measures targeted at the most vulnerable households (for example, consumption coupons in Korea and cash transfers to casual workers in Australia) also helped support incomes while affected workers remained at home during lockdowns, reducing the number of infections and laying the ground for higher medium-term growth.

Countries’ economic structure, including the dependence on tourism and contact-intensive service sectors. Containment has hurt all sectors, but tourism has been affected the most. Given the employment composition in the tourism sector, informal and migrant workers, particularly women and youth, have suffered disproportionately from diminished opportunities and lack of access to social safety nets. These effects have been particularly important for the Pacific islands and other countries heavily reliant on tourism, such as Cambodia, the Philippines, and Thailand.

Other structural factors such as informality have exacerbated the economic cost of lockdowns and weighed on the recovery. In the Philippines, the high concentration of economic activity in the Manila metropolitan area, weak transportation infrastructure, low capacity in the health sector, poverty, and a high share of informality, have together significantly complicated enforcement of containment measures and the ability to provide targeted support to the most vulnerable.

The way forward

While the divergent results from last year are history, they are not destiny. Looking forward, four policy priorities will help to shape a better future.

  • Ensuring that vaccines are widely available to end the pandemic everywhere. Speedy distribution and availability of effective therapies are key to generate stronger consumption, investment, and employment recoveries, with firms hiring and expanding capacity in anticipation of rising demand. In this respect, support to developing countries in terms of funding, logistics, and administration is crucial to address divergent recoveries and close gaps between developing and advanced economies.
  • Policies to support affected workers and businesses should continue until recovery is entrenched and there are signs of a self-sustained revival in private domestic demand. High levels of uncertainty call for a slower withdrawal while remaining vigilant about debt sustainability and financial sector risks.
  • Economic transformation. As containment measures are eased, policies to stimulate private sector demand are likely to become more effective and can replace broad sectoral assistance. Building greener, more inclusive, resilient, and digital economies must take center stage once the pandemic is under control. To encourage reallocation, “trampoline” policies, such as job counseling and retraining, should be used alongside safety nets to protect the most vulnerable.
  • Financial support from the international community is desperately needed to reverse the increasing divergence between rich and poor countries. Many low-income economies, including the Pacific island countries, have been hit particularly hard by the crisis, have little policy space to respond, and will require financial assistance for the foreseeable future. Global cooperation via the G-20 Common Framework can help clear a path for countries to restructure unsustainable debt and grow.

The Asia-Pacific region went into this crisis first and many of its economies are emerging from it first as well. Indeed, several Asian countries are recognized as having responded highly effectively to the pandemic. Yet the magnitude of output loss is still unprecedented and the weakening of labor force participation and diminished job prospects for youth and women suggest that significant scarring remains likely. All this suggests policy leadership remains critical in the period ahead.



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Public and Private Money Can Coexist in the Digital Age

2021-02-20T11:25:12-05:00February 18, 2021|

By Tobias Adrian and Tommaso Mancini-Griffoli

عربي中文, Español, Français, 日本語, Português, Русский 

We value innovation and diversity—including in money. In the same day, we might pay by swiping a card, waving a phone, or clicking a mouse. Or we might hand over notes and coins, though in many countries increasingly less often.

Today’s world is characterized by a dual monetary system, involving privately-issued money—by banks of all types, telecom companies, or specialized payment providers—built upon a foundation of publicly-issued money—by central banks. While not perfect, this system offers significant advantages, including: innovation and product diversity, mostly provided by the private sector, and stability and efficiency, ensured by the public sector.

These objectives—innovation and diversity on the one hand, and stability and efficiency on the other—are related. More of one usually means less of the other. A tradeoff exists, and countries—central banks especially—have to navigate it. How much of the private sector to rely upon, versus how much to innovate themselves? Much depends on preferences, available technology, and the efficiency of regulation.

So it is natural, when a new technology emerges, to ask how today’s dual monetary system will evolve. If digitalized cash—called central bank digital currency—does emerge, will it displace privately-issued money, or allow it to flourish? The first is always possible, by way of more stringent regulation. We argue that the second remains possible, by extending the logic of today’s dual monetary system. Importantly, central banks should not face a choice between either offering central bank digital currency, or encouraging the private sector to provide its own digital variant. The two can coincide and complement each other, for example, to the extent central banks make certain design choices and refresh their regulatory frameworks.

Public-private coexistence

It may be puzzling to consider that privately- and publicly-issued monies have coexisted throughout history. Why hasn’t the more innovative, convenient, user-friendly, and adaptable private money taken over entirely?

The answer lies in a fundamental symbiotic relationship: the option to redeem private money into perfectly safe and liquid public money, be it notes and coins, or central bank reserves held by selected banks.

The private monies that can be redeemed at a fixed face value into central bank currency become a stable store of value. Ten dollars in a bank account can be exchanged into a ten-dollar bill accepted as legal tender to settle debts. The example may seem obvious, but it hides complex underpinnings: sound regulation and supervision, government backstops such as deposit insurance and lender last resort, as well as partial or full backing in central bank reserves.

Moreover, privately-issued money becomes an efficient means of payment to the extent it can be redeemed into central bank currency. Anne’s 10 dollars in Bank A can be transferred to Bob’s Bank B because they are redeemed into central bank currency in between—an asset both banks trust, hold, and can exchange. As a result, this privately-issued money becomes interoperable. And so it spurs competition—since Anne and Bob can hold money in different banks and still pay each other—and thus innovation and diversity of actual forms of money.

In short, the option of redemption into central bank currency is essential for stability, interoperability, innovation, and diversity of privately-issued money, be it a bank account or other. A system with just private money would be far too risky. And one with just central bank currency could miss out on important innovations. Each form of money builds on the other to deliver today’s dual money system—a balance that has served us well.

Central bank currency in the digital age will face pressures

And tomorrow, as we step squarely into the digital age, what will become of this system? Will the digital currencies issued by central banks be so enticing that they overshadow privately-issued money? Or will they still allow for private sector innovation? Much depends on each central bank’s ability and willingness to consistently and significantly innovate. Keeping pace with technological change, rapidly evolving user needs, and private sector innovation is no easy feat.

Central bank digital currencies are akin to both a smart-phone and its operating system. At a basic level, they are a settlement technology allowing money to be stored and transferred, much like bits sent between a phone’s processor, memory, and camera. At another level, they are a form of money, with specific functionality and appearance, much like an operating system.

Central banks would thus have to become more like Apple or Microsoft in order to keep central bank digital currencies on the frontier of technology and in the wallets of users as the predominant and preferred form of digital money.

Innovation in the digital age is orders of magnitude more complex and rapid than updating security features on paper notes. For instance, central bank digital currencies may initially be managed from a central database, though might migrate to distributed ledgers (synchronized registries held and updated automatically across a network) as technology matures, and one ledger may quickly yield to another following major advancements. Phones and operating systems too benefit from major new releases at least yearly.

In addition, user needs and expectations are likely to evolve much more quickly and unpredictably in the digital age. Information and assets may migrate to distributed ledgers, and require money on the same network to be monetized. Money may be transferred in entirely new ways, including automatically by chips imbedded in everyday products. These needs may require new features of money and thus frequent architectural redesigns, and diversity. Today’s, or even tomorrow’s, money is unlikely to meet the needs of the day after.

Pressures will come from the supply-side too. The private sector will continue innovating. New eMoney and stablecoin schemes will emerge. As demand for these products grows, regulators will strive to contain risks. And the question will inevitably arise: how will these forms of money interact with the digital currencies issued by central banks? Will they exist separately, or will some be integrated into a dual monetary system where the private and central bank offerings build on each other?

A partnership with the private sector remains possible

Keeping with the pace of change of technology, user needs, and private-sector competition will be challenging for central banks. However, they need not be alone in doing so.

First, a central bank digital currency may be designed to encourage the private sector to innovate on top of it, much like app designers bring enticing functionality to phones and their operating systems. By accessing an open set of commands (“application programming interfaces”), a thriving developer community could expand the usability of central bank digital currencies beyond offering plain e-wallet services. For instance, they could make it easy to automate payments, so that a shipment of goods is paid once received, or they could build a look-up function so money can be sent to a friend on the basis of her phone number alone. The trick will be vetting these add-on services so they are perfectly safe.

Second, some central banks may even allow other forms of digital money to co-exist—much like parallel operating systems—while leveraging the settlement functionality and stability of central bank digital currencies. This would open the door to faster innovation and product choice. For instance, one digital currency might compromise on settlement speed to allow users greater control over payment automation.

Would this new form of digital money be a stable store of value? Yes, if it were redeemable into central bank currency (digital or non-digital) at a fixed face value. This would be possible if it were fully backed by central bank currency.

And would this form of digital money be an efficient means of payment? Yes again, as settlement would be immediate on any given digital money network—just as it is between accounts of the same bank. And networks would be interoperable to the extent a payment from Anne’s digital money provider to Bob’s would be settled with a corresponding move of central bank currency, just as in today’s dual system.

This form of digital money (which we have called synthetic  currency in the past) could well co-exist with central bank digital currency. It would require a licensing arrangement and set of regulations to fulfill public policy objectives including operational resilience, consumer protection, market conduct and contestability, data privacy, and even prudential stability. At the same time, financial integrity could be ensured via digital identities and complementary data policies. Partnering with central banks requires a high degree of regulatory compliance.

A system for the ages

If and when countries move ahead with central bank digital currencies, they should consider how to leverage the private sector. Today’s dual-monetary system can be extended to the digital age. Central bank currency—along with regulation, supervision, and oversight—will continue to be essential to anchor stability and efficiency of the payment system. And privately-issued money can supplement this foundation with innovation and diversity—perhaps even more so than today. Where central banks decide to end up on the continuum between private-sector and public-sector involvement in the provision of money will vary by country, and ultimately depend on preferences, technology, and the efficiency of regulation.


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Why Climate Change Vulnerability Is Bad for Sovereign Credit Ratings

2021-02-18T14:07:57-05:00February 17, 2021|

By Serhan Cevik and João Tovar Jalles

عربي中文, Español, Français, 日本語, Português, Русский 

Climate change has made the world a riskier place.

The destruction wrought by heatwaves, droughts, hurricanes, and coastal flooding doesn’t stop with the toll on human lives and livelihoods—it can also have deep consequences for a country’s finances. (more…)

Chart of the WeekWhen it Comes to Services vs. Manufacturing, Words Matter

2021-02-16T10:00:21-05:00February 16, 2021|

By Reda Cherif and Fuad Hasanov

Efforts to revive national manufacturing sectors get a lot of airtime. After all, the sector propelled many East and South East Asian economies—the so-called “East Asia Miracle”—and was a gateway to the middle class for millions of workers. However, for all the obsession with manufacturing, economists for their part seem to be more preoccupied with services.

To confirm this, we combed through thousands of IMF reports on countries’ economies from 1978 to 2019. Using 113 distinct terms related to growth theory and policy—ranging from “infrastructure” to “liberalization”—we computed the relative weights of each term across countries and years. As shown in our chart of the week, “services” is used more than any other term.

In fact, across all countries and years, “services” comprises about 20 percent of the occurrences of all terms, with tourism in particular getting more attention. “Agriculture” and “agricultural” are the second most frequently used terms, followed by “industry” and “industrial.” By contrast, “manufacturing” comes up only 2 to 5 percent of the time, depending on the income group (5 percent for advanced economies). “Manufacturing” appears even less often than terms such as “institutions,” “privatization,” and “infrastructure.”
The results show that contrary to all the fervor around manufacturing and the industrial sector, discussion of services is much more prevalent than other industries in IMF country reports and has been for more than four decades. This is the case across income groups, and includes periods when manufacturing was a much larger sector in terms of production and employment in many countries.
The question is, will this trend continue?
COVID-19 has dealt a heavy blow to the service sector, especially tourism. Many companies have adapted by taking their services online. With the shift to digital, the service sector will no doubt play an increasingly vital role in many countries’ economic growth post-COVID-19.
For the foreseeable future, it seems services will continue to be a talking point—turns out, that has always been the case.



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