UK Chancellor George Osborne insisted in an interview with Emerging Markets that debt-laden countries must make deficit reduction a priority, raising the prospect of a rift among G20 nations over macroeconomic policy. What follows is a transcript of a wide ranging interview which took place in London on the eve of October’s IMF meetings.
Emerging Markets: The outlook for the global economy is the most important issue facing policymakers. What is your view as a G7 finance minister on the outlook and the risks?
George Osborne: I think that the global economy is in recovery. That’s the good news given what we have been through. It is not going to be an easy recovery. We have said that the UK is going to have a choppy recovery and it can’t be anything other than that looking at the biggest banking crisis and the deepest recession of our lifetimes. But I think the fundamentals are in place and in the UK’s context the banking system has stabilised. All the forecasts for the UK and for most of the G20 economies are for steady sustainable recovery. Recovery is under way.
EM: That doesn’t seem to be a view shared by everyone and there is still huge debate over whether we need to support growth or tackle the deficit. You have been very clear. Is that still the tough "slash and burn" message from the UK?
GO: I totally reject there’s a choice, that you either support growth or deal with the deficit. If you don’t deal with the deficit you won’t have growth because you will have a catastrophic loss of confidence. That is what we have sought to avoid in the UK with the decisions we have taken. That’s what a lot of European governments have decided and each country has its own particular circumstances and I would not want to dictate a prescription to anyone. But when you are facing very large deficits we have all had to set out a credible plan to deal with those deficits. I think that if we hadn’t and we didn’t, then there would be a return of real concern about sovereign credit risk that would underline confidence that would feed through to the real economy and you would have no growth. I think it is a completely false choice that you either have growth or you deal with the fiscal deficit. Dealing with one is essential to the other.
EM: You have had a fairly good endorsement of that strategy by the IMF itself in its Article IV review –praise that the UK is not used to getting. Obviously that gives you wind in your sails but does it suggest a wider turning point for the international community on fiscal austerity?
GO: We are obviously pleased with the IMF’s verdict and I think it is important that international bodies like the IMF carry out surveillance work. Last year they advised the former British government to accelerate the pace of fiscal consolidation. We have done that and the IMF credits us with strong and credible fiscal plan that’s essential to fiscal sustainability. These high budget deficits particularly in the European context have required governments to taker some very difficult decisions. No democratically elected government finds it easy to impose wage restraint on the public sector or look at pension reform or tackle welfare reform. These are not particularly easy things to do if you are a democratically elected government. The reason why so many European governments are pursuing this path is because we are all understand that at the heart of a sustainable recovery has to be some fiscal stability. That fiscal stability creates space for monetary action. In the UK context – of course decisions by the Bank of England are independent - but the Governor of the Bank England himself has said publically that a credible fiscal plan and that creates room for monetary action. Again I think a rather false debate this idea that when you use the word stimulus you must only be talking about fiscal stimulus. Actually monetary stimulus, I would argue, is a far more powerful tool in the economic locker and you can’t deploy your monetary stimulus to full effect if you are not creating the fiscal space for that to happen.
EM: Recent data shows huge foreign demand for gilts, suggesting financial markets expect this strategy might pay off. But that creates the risk that if your fiscal strategy pushes growth down too much, this might reverse, resulting in sell off and a massive inflationary problem.
GO: I have given up the right to make forecasts about the British economy to an independent Office for Budget responsibility. That is actually one of the most radical things that has happened in the last five months in Britain, which is the traditional power of this building to make the forecasts has been handed over to an independent council. Their forecast for the economy is pretty similar to the Bank of England and is pretty similar to the IMF, which is for steady and sustainable recovery. – not a trampoline recovery. We are not forecasting post record growth rates. But after what we have been through that was never going to be very likely. The forecasts that are made take into account the fiscal announcements and this independent forecast takes what has been announced in the budget here and are very much pointing to that steady and sustainable recovery.
EM: If I could point you towards a nearby country – Ireland – whose stance was endorsed by the IMF two years ago. The government put in place a heavy deficit reduction plan that doesn’t seem to have worked. Is that not a warning signal that the UK is two years behind Ireland?
GO: I have a lot of sympathy with the challenges that the policymakers face there – and indeed the people of Ireland. They are coming off the back of a very significant property boom and banking boom that was even larger than the one that the UK went through. The situation they are facing at the moment is still deeply connected to the problems in their banking system. In the UK - while you have to remain constantly vigilant - there is stability in the UK banking system. Unlike Ireland the UK has its own currency and as a result has been able run monetary policy just in the UK context, entirely appropriate for the UK so there has been a 25% depreciation in sterling. That has not happened in Ireland. There are a number of features of the Irish situation that are very particular to Ireland. It is not clear that if they had pursued some other course two years ago that they would be in any better shape than today.
EM: Expanding the debate out of Ireland and into the eurozone, there seems to be a lot of stress in financial markets similar to May’s crisis. Is this something you are concerned about – that there might be the need for another sovereign bailout?
GO: I think the general European picture just reminds us of the importance of having strong and credible plans to deal with high budget deficits. That’s what driving markets’ concern. Certainly taking your foot off the accelerator would not be sensible at a point like this as I think it would provoke even more adverse market reaction. Speaking from a UK context, if you think of the position that I inherited in May this year when I walked into this job: I had the largest budget deficit in the G20. I had just had a general election that had produced a hung Parliament and we had credit ratings agency questioning the UK’s credit rating and we had [bond] yields that were similar to some of the southern European countries you referred to. In the space of a few months I believe we have moved us out of the fiscal danger zone and that is reflected in the yields and reflected in market sentiment in the UK and it is reflected in the comments by the credit ratings agencies and international organisations like the IMF. So I think the rock on which this stability has been built is a strong, credible fiscal plan not implemented overnight, but implemented over four years including a mix of tax rises and spending reductions. So I think it is a sensibly paced plan but it is strong and credible, I believe.
EM: One area of possible global economic tension is between the United Kingdom and the United States on fiscal policy. How you are going to handle this to avoid some form of rift with US Treasury Secretary Timothy Geithner between now and the G20 meeting in Seoul, as a major row would really imperil global recovery?
GO: I have a very good strong personal relationship with [US Treasury Secretary Timothy Geithner]. I am speaking to him on the telephone today [30 Sept] and that is a fairly regular thing I will do. The personal relations are strong and indeed when he was in London he publically applauded what the UK government was doing. Each country is different and it is a statement of the obvious but the United States has very particular features, not least that it is as a reserve currency so it can approach these things in its own way. And that is reflected in the way that the communiqués agreed in Toronto and most recently among finance ministers at Busan in South Korea, which is that countries with high budget deficits but which don’t have room for manoeuvre need to take action, and I agree with that. I don’t think there’s a one-size-fits-all approach to this. As the recession affected different countries in different ways and some countries have greater problems with their banking systems than others, some countries went into the crisis with budget surpluses and can therefore can end up with such large budget deficits, unlike the UK. Because of that different countries are going to do things at a different pace.
EM: One area where countries are doing things at a different pace is with their currencies. There is a lot speculation about a currency war and maybe a trade war. Should this be the number one agenda for the G20?
GO: On currencies I am afraid it is a boring answer which is that I can avoid answering questions on currencies and would point to the G20 communiqué on currency. On trade, I feel very strongly we should as a world be pushing very strongly for trade liberalisation, but the question being asked in many countries is where are the future sources of growth. One of them should be a structural improvement in the world’s trading system. And we have on the table – although I know it is not very fashionable to talk about it – is a Doha round which we could complete and every analysis that I have seen of that that would add to global output and stimulate demand. It is something I would urge my fellow finance ministers and David Cameron urges his fellow heads of government to pick up and pursue because it is lying there in front of us as a fantastic option. I know there are always plenty of excuses standing in the way of a free trade deal but normally once they are completed people see the merits of them
EM: Sticking with the G20, the other major issue is financial regulation. There are signs that it is running into the sand. Basel III is described as the lowest common denominator, deadlines accountancy – although not the most exciting issue – is being pushed out. What does the G20 need to do about that?
GO: I don’t think that is fair. I think about how long it took to do Basel II, I think that was a decade, that within the space of a year from call by the leaders at the G20 at Pittsburgh for new global capital standards, we are confident that world leaders at Seoul will have those new capital agreed. Now that is quite an achievement, given how many moving parts there are in this particular policy area and how many different interests there are. I think the Basel committee has come up with the basis for a pretty good deal. I think the transition period is a reflection that we don’t want to be too pro-cyclical; indeed the whole point of the arrangements is that they are more counter-cyclical. We have got a decent transition, we have some good standards, the focus on the quality of capital, which I think, is an under-rated good thing about the deal done at Basel. There are still some loose ends like systemically important financial institutions but I think we can make a lot of progress over those over the next two weeks.
EM: I assume there will still be a discussion over the idea of a financial transactions tax.
GO: My predictions is that when I was born there was a debate about a financial transactions tax, when I die they will still be a debate raging about a financial transactions tax and in fact in 200 years time they will also be a debate about a financial transactions tax. It is one of those perennial debates that we will have. My approach to the financial transactions tax is that it is a perfectly reasonable idea in theory, but very difficult to see how you could implement it in practice. But I’m all ears about if someone is able to resolve some of the pretty obvious practical problems. I think the IMF has done a good service to the world in looking at this whole area of banking taxes and the like, coming up with two generic models that they recommend to countries: the bank levy tax on bank balance sheets; and the financial activities tax. In the UK we were pretty much the first in the world to go with the bank balance sheet levy that has now been copied by quite a number of other countries. The financial activities tax is something to be discussed and debates.
EM: Since you're happy to talk about the UK and given that London is a major financial services centre, I wanted to ask about the danger of a big splurge in bonuses in the next round, completely shocking people and turning public opinion. Do you want to do anything about that?
GO: I want London to remain a top-notch global financial centre. I think London has enormous advantages to offer. It is a cosmopolitan city, there is no protectionist argument in UK politics, we have a stable rule of law, it’s a great place to live, you get a real melting pit of skills, and talents and industries and we have a great time zone and a great language. I’m confident that London and other parts of the UK can be great centres of global finance going forward. However we have to make sure that British taxpayers are obviously properly protected from the consequences of things going wrong in banks. And I think this is common to every Western economy at the moment, the financial sector needs to understand that they part of a broader society and because of the high budget deficits, a lot is being asked of the general population. Here in the UK we have had to increase indirect tax, VAT, we have had to freeze public sector wages, we have a report into public sector pensions and we have had to cut some welfare programmes. Those are not particularly easy things to ask of a public particularly when that public feels they were not directly involved in the cause of those problems. The financial services community needs to reflect on that and reflect it in their pay and remuneration. They would do well to note that we are all in this together. That’s not a bad phrase to have in mind in a situation like this.
EM: I will have to push you on this. What if they don’t do it?
GO: What I think would be regarded as unacceptable that if were established that the consequence of paying high bonuses was that there was less money available to lend out to, for example, small and medium, sized businesses. If too much money was going out of the bank in pay and remuneration and not enough money was going out of the bank in terms of credit then we would regard that as quite a serious public policy issue. The banks know that and we will see how things develop over the next few months.
EM: On the IMF board, there is an issue about size that must be resolved by the end of the October. The US wants a smaller board. That would involve some European heads rolling to make space. What is your view on that?
GO: I am in favour of IMF reform in the sense that I want the IMF to reflect the economic balance of power in the world of 2010 and not the world of the 1940s. That is how will stay as relevant and important as it is today. I am in favour of a redistribution of quota and I am also in favour of the board reflecting the new big emerging economies and making sure their voices at heard at the top table. What does that mean for the Europeans? The European economies are still very large compared to many of the economies of the world so they should be properly represented. But I do think Europe would do well to put forward a positive proposal to make sure that other powers are properly represented around the table. I have discussed this with my fellow European finance ministers and I am not saying it is going to be particularly easy because there are a lot of individual national interests at stake here. We have had a lot of good discussions and we hope to come to a conclusion. But I do think a good positive European proposal about how we make sure that the quota and board representation is appropriate to the modern world have taken place.
TRANSCRIPT OF EM VIDEO INTERVIEW
EM: You have had a significant statement by IMF on the UK position on fiscal deficits. To what extent has this vote of confidence added to the momentum behind your push for co-ordinated fiscal deficit reduction?
GO: The IMF Article IV report was very welcome and we very much welcomed the fact that they pointed to our strong and credible fiscal deficit reduction plan. I thank them for that but they have been hard taskmasters in the past and I do think they play a very important role in international economic surveillance. For European economies facing high budget deficits, a key part of recovery and a key part of providing a platform for sustainable economic growth is having a credible deficit reduction plan. Now the plan does not have into effect overnight. In the UK the deficit reduction plan is staggered over four years. We are not saying it all has to be done over 24 hours or a week or a month or a year even. Ours has the right mix of some tax rises, which no finance minister particularly wants to introduce, and spending cuts. This has obviously reassured the IMF and more to the point has reassured the markets and has created some monetary space for us and allowed for some monetary stimulating effects to be felt.
EM: Clearly the international positions on fiscal deficit reduction are not all aligned. Is there a risk opening on the G20 especially with countries such as the United States over fiscal deficits? Is there a sense in which this could imperil the global recovery?
GO: I certainly don’t think there will be any imperilling of the global recovery. I don’t think there is a rift. What the G20 agrees, as reflected in their communiqués but also reflected in private discussions, is that it accepts that different countries are in different positions. The UK has an 11% budget deficit – the highest in the G20 – a situation I have inherited as a finance ministers and I am determined to deal with it. Obviously therefore the course of action we have had to take is perhaps different from the course of action that other economies have had to take. The US has a reserve currency and that gives it a particular set of circumstances that is different from the UK. I think it is a reflection of reality that different countries are in different places. What the G20 agrees is that we should make sure we are broadly co-ordinating hoe we approach things, that we are seeking to resolve global imbalances, and that we collectively agree things that will have stimulating effects on the world. I strongly believe in – and the UK strongly argues for – the completion of the Doha free trade round which I think would have a huge stimulating effect on the global economy.
EM: The case of Ireland shows there are risks of cutting too dep. What lessons should countries take from Ireland and has it given pause for thought?
GO: Each country has its own particular circumstances and that certainly applies to Ireland. Ireland had the biggest property boom and perhaps the biggest banking boom of almost any economy in the world and very sadly the Irish people and Irish policymakers are having to pick up the pieces. They still have unresolved issues with their banks which they are seeking to resolve at the moment and of course they don’t have – unlike the UK – their own currency and for perfectly understandable reasons they have not had the depreciation that the UK has had. Each country is different and I don’t think it is reasonable to say that if they pursued some other fiscal course over the last two years that they would have been in a different place – they might in fact have been in a worse place. So I don’t think you can draw a direct lesson that somehow fiscal measures pursued by Ireland are not right for other countries. The truth is this: European countries facing concerns over sovereign credit risk or concerns over fiscal sustainability need to address them. That is the lesson from the last year and it is those countries that have the strongest and most credible plans have the greatest stability, the greatest monetary space and have the platforms for sustainable growth.
EM: International concern over a so-called currency war and a trade war is now reaching fever pitch. How should this be addressed especially given the rising risk of protectionism?
GO: I tend not to comment on currencies and I point you to the G20 communiqué. I certainly think the world needs to avoid a descent into trade protectionism. That is the one thing we know would set the world economy back and not be of advantage to anyone. I would strongly argue and the UK strongly believes that we should be moving forward on trade liberalisation and further forward on free trade and if you are moving forward that is the best insurance policy against moving backwards. One of the good things about the UK and one of the reasons why it is a good place to invest is that we don’t really have in our democratic system a strong force arguing for protectionism unlike many other Western economies. Within the mainstream of British politics, the main political parties that contest for power are all believers in open markets and open economies, welcoming investment here and being able to invest elsewhere.