conference on competitiveness of the south eastern european countries: challenges on the road to eu,...

Conference on Competitiveness of the South Eastern European Countries: Conference on Competitiveness of the South Eastern European Countries: Challenges on the Road to EU, organized by the National Bank of the Republic of Challenges on the Road to EU, organized by the National Bank of the Republic of

Macedonia, Skopje on May 30, 2008. Macedonia, Skopje on May 30, 2008.

Growth and Economic Policy: Are There Growth and Economic Policy: Are There Speed Limits to Real Convergence?Speed Limits to Real Convergence?

István P. Székely and Maxwell WatsonIstván P. Székely and Maxwell Watson

European Commission European Commission St Antony’s CollegeSt Antony’s College

Oxford Oxford

10/04/2310/04/23 Székely-Watson Are there speed limits to Székely-Watson Are there speed limits to real convergence?real convergence?

22

EU accession accelerated real convergence, both with the EU and within RAMS

Catch-up with Europe and convergence among EU10(Per capita GDP at 2000 market prices relative to EU27 average)

20.0

25.0

30.0

35.0

40.0

1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

30.0

40.0

50.0

60.0

Average Relative standard deviation (RHS)


33

Convergence started earlier and has been faster in the Baltic countries

Convergence with Europe(Per capita GDP at 2000 market prices relative to EU27 average)

0

5

10

15

20

25

30

35

40

1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

Baltics CEE5 BG-RO


44

…though with vulnerabilities accumulating

RAMS: Current Account Deficit, 2004-06

0.0

2.5

5.0

7.5

10.0

12.5

15.0

17.5

20.0

22.5

Latvia Bulgaria Estonia Lithuania Romania Slovakia Hungary CzechRepublic

Poland Slovenia

2004

2005

2006

In percent of GDP.Source: Eurostat and the authors' own calculations.


55

Significant potential to absorb modern technology

RAMS: Educational attainment and change in export unit value, 1999-2004

0.00

0.20

0.40

0.60

0.80

1.00

1.20

1.40

70.00 72.00 74.00 76.00 78.00 80.00 82.00 84.00 86.00 88.00

Lithuania

Percentage of the population aged 25 to 64 having completed at least upper secondary education in 1999 (horizontal) and change in export unit value in between 1999 and 2004 (vertical).Sources: Igan et al. (2007) and Eurostat.

Latvia

Estonia


66

But there are other important factors that also drive macroeconomic developments

RAMS: Change in Export Unit Value and Real Appreciation, 1999-2004

0.00

0.20

0.40

0.60

0.80

1.00

1.20

1.40

90 100 110 120 130 140 150

Change in export unit value (horizontal) and REER index (1999=100) between 1999 and 2004 (vertical).Sources: Igan et al. (2007) and Eurostat.

LV

LT

EE

CZ


77

Factors Determining Potential Growth: Factors Determining Potential Growth: Theoretical and Empirical FindingsTheoretical and Empirical Findings

Institutional quality Institutional quality Educational attainmentEducational attainment Financial convergenceFinancial convergence

• Domestic savings Domestic savings • FDIFDI• Private creditPrivate credit

Size and efficiency of governmentSize and efficiency of government


88

Real versus financial convergenceReal convergence (productivity shock in tradables)

Financial convergence (reducing credit constraints)


99

Financial convergence can also Financial convergence can also increase vulnerabilitiesincrease vulnerabilities

The B-S effect may be present and important in The B-S effect may be present and important in certain periods and countries, but not alwayscertain periods and countries, but not always

Removal of credit constraints leads to a strong Removal of credit constraints leads to a strong real appreciation in the short-run, but to a more real appreciation in the short-run, but to a more depreciated currency in the long rundepreciated currency in the long run

The two processes may thus seem similar in the The two processes may thus seem similar in the short run, but are rather different in the long runshort run, but are rather different in the long run

The readjustment is not without problems, The readjustment is not without problems, especially with nominal rigidities and other especially with nominal rigidities and other market imperfectionsmarket imperfections


1010

Financial Convergence: Potential Vulnerabilities


1111

The importance of allocation and The importance of allocation and efficient use of resourcesefficient use of resources

Efficiency of government (quality of public finance)Efficiency of government (quality of public finance) Quality of labor and capacity to innovate versus Quality of labor and capacity to innovate versus

expenditure on or time spent in educationexpenditure on or time spent in education The important difference between tradable-The important difference between tradable-

nontradable versus productive-nonproductivenontradable versus productive-nonproductive Allocative efficiency (quality of private institutions) Allocative efficiency (quality of private institutions)

Implications:Implications: Large government is not necessarily wrong but …Large government is not necessarily wrong but … Faster credit growth enhances the growth potential Faster credit growth enhances the growth potential

only if …only if … Reliance on foreign savings can speed up real Reliance on foreign savings can speed up real

convergence only if … , and the financial convergence only if … , and the financial convergence that is involved needs policy attentionconvergence that is involved needs policy attention


1212

Policy Priorities

Overarching goal: raise potential growthOverarching goal: raise potential growth

Key role of government in Key role of government in

assuring stable financial settingassuring stable financial setting

reducing distortive activitiesreducing distortive activities

enhancing human/physical capitalenhancing human/physical capital

addressing incentives (including moral hazard) addressing incentives (including moral hazard)

……thus maximising gains from financial integrationthus maximising gains from financial integration


1313

Containing Vulnerabilities

Key is to contain adjustment risks – e.g., fromKey is to contain adjustment risks – e.g., from unbalanced financial development (factors that unbalanced financial development (factors that

bias credit towards households) bias credit towards households) rigidities (including balance sheet exposures)rigidities (including balance sheet exposures) inadvertent fiscal errors during boom (from inadvertent fiscal errors during boom (from

output gap or revenue elasticity)output gap or revenue elasticity)


1414

A “Risk-Return” Strategy

Lay analytical foundation through improved understanding Lay analytical foundation through improved understanding of shocks to economyof shocks to economy

With diagnostic uncertainty, address risk (adjustment With diagnostic uncertainty, address risk (adjustment vulnerabilities) and returns (potential growth)vulnerabilities) and returns (potential growth)

Strong complementarity across policies to achieve this, Strong complementarity across policies to achieve this, including growth-oriented fiscal consolidationincluding growth-oriented fiscal consolidation

Great opportunities, but some constraints and trade-offs…Great opportunities, but some constraints and trade-offs…


1515

The EU Convergence Context

Opportunities from trade and investment integration, Opportunities from trade and investment integration, institutional strengthening via acquisinstitutional strengthening via acquis

Environment also accelerates financial integration…Environment also accelerates financial integration…

History teaches us this can enhance good outcomes, but History teaches us this can enhance good outcomes, but also heighten risk of policy failuresalso heighten risk of policy failures

Also concerns about policy “traction:” at best, qualified Also concerns about policy “traction:” at best, qualified monetary autonomy, and foreign-owned banksmonetary autonomy, and foreign-owned banks


1616

Interactions & Trade-Offs

Policies are not powerless, butPolicies are not powerless, but interactions, while mutually reinforcing, may not always interactions, while mutually reinforcing, may not always

have conventional “sign” (depreciation)have conventional “sign” (depreciation) policy restraint may have strong sectoral effectspolicy restraint may have strong sectoral effects questions extend to regime design, not just calibrationquestions extend to regime design, not just calibration inter-temporal trade-offs: may raise short-run volatilityinter-temporal trade-offs: may raise short-run volatility

This argues for quantified scenarios, incorporating This argues for quantified scenarios, incorporating productivity variants/balance sheet risk/policy productivity variants/balance sheet risk/policy interactions/adjustment channelsinteractions/adjustment channels

conference on competitiveness of the south eastern european countries: challenges on the road to eu,...

Documents

speed limits

financial integration

efficiency of government

strong real appreciation

policy attention slide

growth potential

faster credit growth

revenue elasticity slide