The IMF calls for tightening fiscal policy to combat inflation

The economic crisis caused by covid led to an aggressive monetary and fiscal policy response to avoid disaster.

As the pandemic was coming to an end, the war in Ukraine, rising food and energy prices and, lately, financial turbulence have made recovery difficult in a context of uncertainty and volatility and with inflation that soared last year .

Now, the International Monetary Fund (IMF) considers that "the efforts of the monetary authorities to return inflation to the level set as a target must be complemented with a more restrictive fiscal policy", as explained by the organization in its Fiscal Monitor report,

this Wednesday in Washington.

The idea is that fiscal and monetary policy do not row in opposite directions.

If the budget tightening takes the edge, it will be necessary to raise interest rates somewhat less.

And “if inflation turns out to be more sticky than expected, the policy tightening will have to be sustained for longer,” he adds.

Of course, the Fund asks that support for the most vulnerable be maintained and that the authorities be prepared in case things go wrong, as has frequently happened lately.

The IMF gives some advice in case the way to go wrong is a financial crisis that could compromise taxpayer money: "In order to safeguard public resources, the decision-making process must be based on principles of governance, backed by robust insolvency and bankruptcy proceedings.”

It is about intervening quickly, but at the same time minimizing costs and mitigating the moral hazard that bailouts reward those who do not deserve it and end up encouraging inappropriate practices.

But the body also asks central banks and governments to be prepared in case what goes wrong is growth and unemployment increases.

In this case, a less restrictive policy would be necessary and let the automatic stabilizers act (unemployment spending rises and tax collection falls in the event of an economic slowdown, increasing the deficit), especially in cases where inflation is under control. and fiscal space is available.

The IMF had already warned a few months ago of the risk of decoupling.

“While monetary policy is stepping on the brake, there should not be fiscal policy that is stepping on the accelerator.

This would be a very rough and dangerous journey,” managing director Kristalina Georgieva said in October.

She now underscores that message: “It is essential that fiscal and monetary policies remain closely aligned to achieve financial and price stability,” she says.

The new IMF report admits that the global economy has recovered quickly from the pandemic, overcoming obstacles along the way, but leaving scars.

“Until now, the economic and social fabric has resisted interruptions in the supply of energy.

But multiple shocks have nullified progress in poverty reduction, and are likely to have delayed meeting the global goal of eradicating extreme poverty by 2030″, he notes.

Progress towards other Sustainable Development Goals (SDGs), which were already slow before the pandemic, has also slowed.

The director of the fiscal area of ​​the IMF, Vítor Gaspar, defended this Wednesday at a press conference the tightening of fiscal policy in many countries with four arguments.

First, "fiscal policy can and should support monetary policy to bring inflation back to target."

Second, by moderating rate hikes, "it contributes to financial stability."

Third, it “helps limit public finance risks and creates fiscal space to respond to adverse macroeconomic or financial developments,” especially in emerging markets.

And finally, “stronger balance sheets also contribute to long-term debt sustainability in a demanding context that includes demographic trends, digitization and the ecological transition.”

less public debt

The pandemic caused a historic increase in public debt in 2020, up to almost 100% of the world gross domestic product (GDP), as the economy contracted and public deficits skyrocketed due to lower collection and higher spending.

Now, “with strong nominal GDP growth in 2021-22, global debt has registered the steepest decline in 70 years and has stood at around 92% of GDP at the end of 2022, still some 8 percentage points above from the level at the end of 2019″, explains the IMF.

Primary deficits, excluding interest on debt, are narrowing rapidly and approaching pre-pandemic levels in many countries, but global deficits have declined somewhat less, due to increased interest payments, due to the higher debt and higher interest rates.

In 2023, global fiscal deficits are projected to widen slightly to an average of 5% of GDP, both because of higher interest rates and pressures to increase public spending, especially spending on wages and pensions, to recover from the inflation.

The IMF projects that public deficits will remain above pre-pandemic levels in the coming years.

In the case of Spain, the IMF has improved its forecasts on the evolution of public accounts, according to data released this Tuesday in its

and which also includes the new report.

The agency forecasts a deficit of 4.5% of gross domestic product (GDP) this year, in line with what it calculated so far, but lowers the forecast for 2024 to 3.5%, from the 4.2% it forecast in October.

The good performance of tax collection, which is boosted by inflation, is allowing Spain to keep the budget gap at bay.

In the long term, however, the Fund's forecasts suggest that the public deficit will increase again, up to 3.8% of GDP in 2025 and 4% from that year on.

Still, it's also a slight improvement on forecasts six months ago.

The Spanish deficit will be, according to these estimates, somewhat above the euro zone average (3.7% and 2.8% in 2023 and 2024, respectively), but below that of the G7 countries (5, 6% and 5.3% in those years) or from the advanced economies of the G20 (5.3% and 5.1%).

Japan, the United States, the United Kingdom and France are the most wasteful.

The IMF has also improved public debt forecasts.

In October, its forecast was 112.1% of GDP for 2023, 110.1% for 2024 and 109.0% for 2025. Now it expects 110.5%, 108.3% and 107.9 % for those same years.

Nominal GDP growth is allowing public debt to maintain a more pronounced downward path.

Of course, once again the Fund is wary of further progress after 2025 and places its debt forecast at 109.3% of GDP in 2028. Japan, Greece, Italy, the United States and France are among the countries that exceed Spain in public debt.

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