IMF review faults 'premature' crisis austerity push

The International Monetary Fund headquarters. (Photo: AFP/Saul Loeb)

WASHINGTON: The IMF gave leading economies faulty advice following the 2008 financial crisis, by directing them to cut spending and rely on central bank stimulus for growth, an internal policy review said on Tuesday (Nov 4).

The review said that during 2010-2011 the Fund was premature in advocating austerity policies to countries including the United States, Britain, Japan and the eurozone. The organisation incorrectly assumed an economic rebound was already underway, the review concluded.

The Fund's Independent Evaluation Office said in the lengthy report that simultaneous support for central banks to pump out money to stimulate growth led to troublesome volatile capital flows in emerging economies.

"The IMF was effective in calling for global fiscal stimulus immediately following the Lehman collapse" in 2008, the IEO said. "But it prematurely endorsed fiscal consolidation in large advanced economies, and, in parallel, encouraged reliance on expansionary monetary policy to stimulate demand. This policy mix was less than fully effective in promoting recovery and contributed to capital flow volatility in emerging markets."

The report assessed crisis-era policies that remain controversial, especially in Europe, and fuel ongoing political debates as the leading global economies struggle to boost economic growth.

The IEO noted that as the crisis began to spread globally in late 2008, the IMF became a "leading spokesman" for countries to boost their spending to fight the worldwide downturn.

"Fiscal stimulus was advocated not only for the countries at the center of the financial crisis but also for a much larger segment of the global economy, including euro area economies," it said. "The fiscal expansion that followed is widely acknowledged as having contributed to shortening and dampening the recession."

But in 2010 the Fund changed its advice, arguing for fiscal consolidation. The Fund said spending cuts would allow large economies to reduce debt burdens that had mounted during the first years of the crisis.

At the time, the IMF was worried that large fiscal deficits and rising public debt would threaten fiscal solvency and prolong if not exacerbate the crisis, the IEO said.

But the Fund took that stance in the mistaken belief that economic growth in advanced economies would turn positive in 2010. That turned out to be very wrong, as the eurozone's plunge back into recession showed.

The IEO said the IMF's policy focus at the time was also not well-founded. "The policy mix of fiscal consolidation coupled with monetary expansion that the IMF advocated for advanced economies since 2010 appears to be at odds with longstanding assessments of the relative effectiveness of these policies" in the conditions that prevailed at the time, the report said.

SWITCHING FINANCIAL GEARS

The report acknowledged that the Fund, under criticism especially in Europe for advocating austerity, subsequently switched gears as the eurozone economy and the US continued to struggle.

"The evaluation recognises that the IMF showed flexibility in reconsidering its fiscal policy advice when the growth outlook worsened."

Even so, policy makers in the leading economies continue to argue over boosting spending to speed up growth or leaving it to expansive easing policies by central banks to stimulate growth.

While the US Federal Reserve last week wound up its six-year-old asset buying operations, though without disposing of the trillions of dollars of bonds it now holds as a result, the Bank of Japan expanded its asset buying programme.

On Thursday the European Central Bank is expected to consider whether its recently-launched easing programme is enough. The Bank of England, like the Fed, has ended its buying operations without selling off assets. Meanwhile in all four countries, politicians continue to battle over whether to increase spending.