“This is what I’ve called the risk of the new mediocre: a combination of low growth and low inflation, which is bad news for countries where debt-to-GDP ratios are close to 100%.”, Christine Lagarde, Managing Director, International Monetary Fund
“Ah…the truth slips out. The primary purpose of monetary inflation isn’t economic growth or full employment, it’s to allow sovereign governments, with high debt loads to reduce their real debt loads at the expense of investors (and savers).”, Mike Perry, former Chairman and CEO, IndyMac Bank
How the IMF’s Christine Lagarde Sees the World’s Economic Hot Spots
Falling Oil Prices Are a Net Positive, She Says, but Some Tough Choices Still Lie Ahead
IMF chief Christine Lagarde says the U.S. economic outlook is positive even as the Fed phases out its monetary stimulus.
By Gerard Baker
Christine Lagarde , managing director of the International Monetary Fund, is optimistic about the global economy, thanks in part to plunging oil prices. But she concedes that tough decisions still lie ahead for many, particularly in Europe. She spoke to Gerard Baker, editor in chief of The Wall Street Journal, about both encouraging signs and trouble spots. Edited excerpts follow.
Oil and Trouble
MR. BAKER: We’ve seen roughly a 40% decline in oil prices since the summer, and declines in other prices as well. What stresses and strains is this producing, and what are the benefits for the global economy?
MS. LAGARDE: What we do first is try to analyze whether it’s a supply or demand effect. And in the present circumstances, it’s predominantly supply. It’s 80% supply, 20% demand. So that’s pretty good news. If I was to address an audience in Saudi Arabia, Qatar or Kuwait, I would probably not look at it exactly the same way. But on a net basis, it is good news for the global economy.
MR. BAKER: How fragile is Russia? What threat does its fragility pose to the global economy?
MS. LAGARDE: I think it poses significant threats, but not just from an economic point of view. If you were to ask me what I’m concerned about at the moment, certainly the geopolitical threat created by the current [Russian] endeavors. The price of oil going down is adding to their fragility and their vulnerability, and they know it. It remains to be seen what the reaction will be. But it is certainly something that is an add-on to the ruble depreciation, to the sanctions actually affecting the Russian economy as well.
MR. BAKER: Will IMF intervention be needed, looking at some of these energy net-exporting countries?
MS. LAGARDE: I was in Kuwait about three weeks ago addressing the Gulf Country Councils, and I said to them, “If it continues the way it does, most of your economies will show fiscal deficit. You should be prepared for that and build the buffers that you will need.”
If you look at who is going to be most affected, we just mentioned Russia; you have to think about Iran, clearly; closer to home, Venezuela; and a few African countries will be affected.
If the IMF was called upon to help not only Ukraine, as we do and have to at the moment, but many of those other countries, I would seriously need some help from [the U.S.].
MR. BAKER: It looks like Europe is in or very close to its third recession in five years. What’s the outlook for Europe? What needs to be done?
MS. LAGARDE: This is what I’ve called the risk of the new mediocre: a combination of low growth and low inflation, which is bad news for countries where debt-to-GDP ratios are close to 100%.
MR. BAKER: Risk of deflation?
MS. LAGARDE: Some countries are already into deflation. But for the moment, it’s more sustained low inflation, which is equally bad.
MR. BAKER: But it could get worse? And if it did?
MS. LAGARDE: It might very well get worse because of the price of oil. And high unemployment, which is the other very bad phenomenon of this new mediocre.
Now, you look at that, and that’s bad news. But at the other end, you have cheaper energy, a euro that has clearly been depreciating, and, if you look at the banking sector, which has been sanitized, stress-tested by the European Central Bank and where remedies have been taken, you have three components that should be moving the euro area into positive territory. I’m not suggesting that this is a walk in the park. It is not.
MR. BAKER: There’s a strong view from some in Europe that there should be aggressive monetary stimulus. But that is strongly resisted by the Germans, who want structural reform. Where do you stand?
MS. LAGARDE: Where they are at the moment, they need to use all available tools. That means growth- and job-friendly fiscal policies for those who can afford it; monetary policy that is innovative and quite aggressive; and it means, absolutely, structural reforms that they have been talking about and must get on with.
MR. BAKER: But they never do, do they?
MS. LAGARDE: Some of them do. A lot has been done in Spain. A lot has been done in Ireland. Now there are some big players…
MR. BAKER: France.
MS. LAGARDE: Yes. Significant structural reforms, particularly concerning the labor market and the job market, have to be implemented, not just talked about.
MR. BAKER: The pope went to the European Parliament last week and said, “Europe is haggard and elderly.” And it feels like that.
MS. LAGARDE: He said, “It’s a grandmother.”
MR. BAKER: Yes. Like a rather poor and sick grandmother. It is like that, isn’t it?
MS. LAGARDE: I will have a private meeting with him next week, so I’ll ask him exactly what he meant.
MR. BAKER: The euro is making it worse, isn’t it? The creation of the euro was a terrible mistake.
MS. LAGARDE: I think the mistake was to have assumed that by moving into a single currency everything else would follow, and the fiscal union would be a given, which has not happened. If you have a currency union without a fiscal union and banking union, it’s like not having all cylinders to fire with. And that’s, I hope, what they’re going to be working on.
Situations in Asia
MR. BAKER: Will China pull off this balancing act of making pro-market reforms while maintaining enough growth to keep people fed and happy and in jobs and from rioting in the streets?
MS. LAGARDE: Many of us have for many years in a way suspected China of not being able to deliver, and many have shorted China. The truth is it actually delivers. We look very carefully at the monetary policy and the structural reforms, and this is just happening.
MR. BAKER: Is Japan going to get back on track?
MS. LAGARDE: You have to give them the credit of trying something that was really hard, and is still very hard. Where clearly it’s a bit short on the delivery is both on the structural reforms and fiscal commitment. Our sense is that once the election is over, and hopefully [Abe’s] hand will be stronger, he comes back to the fiscal plan.
For the moment, there is no slack in the Japanese economy. So when they do stimulus, when they put money into the construction business, for instance, there’s nobody to build because the labor market is so tight. So they have to open up not only to women—and I hope they do because Japanese women are very talented—but also to immigration.
MR. BAKER: Is the U.S. economy strong enough to stand on its own feet without that amazing amount of support from the central bank?
MS. LAGARDE: If we include the effect of the oil-price reduction, our [growth] forecast for next year is 3.5%. That should be strong enough for the monetary policy to follow its course.
MR. BAKER: Are we not just dependent continually on these repeated injections of monetary stimulus?
MS. LAGARDE: It has been most helpful in the last two years, and without it, we would not be talking about growth in the U.S., or in England.
Now it’s a question of gradually phasing out.