Raise the quality of government spending
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The incipient recovery of the world economy owes to the increased spending by governments of advanced and developing economies both. However, a sustainable recovery will depend not only on the amount of spending, but also on its quality. Many developing nations entered the crisis with good fiscal balances. Yet, there is a premium everywhere on ensuring that the money is spent well. Public budgets must also confront the rise in unemployment and the growing danger of climate change.
These requirements suggest three priorities, especially for countries at the forefront of the fiscal expansion.
First, financial flows need to be adequate and timely, especially in the face of growing fiscal gaps. The international financial institutions have augmented their official flows, especially to developing countries. The World Bank Group delivered a record $60 billion worldwide in 2009, with Indonesia, Brazil, Mexico, India, and China as the top recipients. The IMF's support reached $160 billion globally while the Asian, African, European, and inter-American development banks provided unprecedented volumes to their regions.
All this has helped, but to sustain the economic revival, private capital flows must also be re-invigorated. Private financial flows to developing countries fell from $1,200 billion in 2007 to $360 billion in 2009. Reversing this trend is fundamental. The poorer developing countries still face a $12-billion gap this year, and may not be able to cover even the most essential social spending. And across the board, the extraordinary fiscal expansion needs to give way to a pickup in private consumption and investment.
Second, it is essential to manage the growing government deficits from the fiscal stimulus and the economic slowdown. Fiscal deficits in 2009 are estimated to be nearly 7 percentage points of GDP higher than in 2007 in G20 nations, and 5 percentage points higher in G20 emerging economies. The ratio of public debt-to-GDP in the G20 could, by one estimate, rise by nearly 15 percentage points between these years. Going forward, a sharp fiscal adjustment and stronger growth will be needed to pay off the debt.
To generate economic growth, the stimulus spending needs to be directed to high-productivity areas. For example, channeling outlays to finish infrastructure projects has higher payoffs than providing untargeted subsidies, be it for energy or food. But even here, any spending on infrastructure would not automatically generate growth. And only a few countries have put in place mechanisms for analyzing, tracking, and evaluating project costs and benefits.
Third, with nearly 90 million more people pushed into poverty because of the crisis, effective social programs (in education, health, and safety nets) need to be protected. Some countries are shielding social spending and expanding safety nets. In Brazil, Colombia, Mexico, and Turkey, where strong institutions are in place, conditional cash transfers are effective. China has combined labor market actions and safety nets to stabilize employment, while Indonesia has combined safety nets and livelihood approaches. The World Bank has stepped up lending for social programs, especially financing for safety nets.
Unfortunately the financial crisis has diluted attention to climate change and the environment. Yet, the fiscal stimulus presents an opportunity to shift to sustainable investments - as South Korea, China, Mexico and the US are doing to some degree. The World Bank Group has increased support for renewable energy and spearheaded climate funds. The Copenhagen summit in December provides a chance to integrate climate change into the crisis response.
Since the global economic revival is still fragile, it would be premature to retract the fiscal expansion as that could stall the recovery.
However, rising deficits and debts oblige us to ensure that the money is put to effective use - not only to elicit good returns on the public spending, but also to avoid a future crisis.
The author is director-general of the Independent Evaluation Group, the World Bank, Washington D.C.
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