London consensus; fiscal policy

Yesterday, in our editorial “London Consensus” we outlined in very broad strokes the economic policies proposed by ECLAC and LSE to address contradictions from those of the Washington Consensus that were imposed on Guyana by the IMF and World Bank in 1989 after the country had been bankrupted by the PNC. Today we quote from a commentary that focused of Fiscal aspects of the London Consensus.
The Washington Consensus focused had on three priorities when it comes to fiscal policy. Firstly, that fiscal discipline should be pursued to avoid macroeconomic instability associated with excessive debts or monetary financing. Secondly, that public expenditure should be focused on essential areas such as health, education, infrastructure and welfare and that the states should do away with sectoral subsidies. Thirdly, that tax revenue should come by broadening the tax base while holding tax rates at a moderate level.
The London Consensus now emphasizes the following two new principles – Fiscal Activism and preservation of fiscal space. On the first it argues that the government must act as insurer of last resort for the private sector and also be the market maker of last resort. This objective can be achieved through targeted transfers and automatic stabilizers in cases where there are crises such as health pandemics which cannot be privately insured. The London Consensus also argues that financial markets should be sustained as they prevent self-fulfilling crises and stabilize demand. Additionally, in a crisis, the government should be able to borrow at a lower cost than the private sector. Fiscal activism also believes in temporary and targeted deficits during downturns which will be offset during better times.
On the preservation of Fiscal Space through prudent debt management, the argument for greater fiscal activism also requires the government to retain the ability and the credibility to borrow during downturns. The London Consensus believes that this can be possible by institutional credibility and prudent fiscal management. Strong institutions to maintain strict fiscal discipline are essential. Transparent communications and information to prevent self-fulfilling debt runs and preserving the safety and liquidity of government bonds are part of this thinking.
The two points advocated by the London Consensus on fiscal policy make sense in the evolving global economic landscape in which our oil skyrocketing revenues has offered us both fiscal space and also greater access to credit from international institutions such as the IMF and the US EXIM Bank. The London Consensus also advocates for a strong global financial safety net through institutions such as the IMF but we should note that the present crisis may threaten this.
Government intervention through targeted transfers and government intervention to preserve markets and the flow of credit during an economic crisis are essential. Government intervention during the global financial crisis in 2008/2009 and during the Covid-19 Pandemic shows how crucial it was to turn around economies towards a path of growth. We should note that strong institutions that can maintain fiscal discipline, whether economies are in recession or performing well are even more important.
However, we may note some challenges – the key one being the practicality of implementation. Deficit bias is a key challenge, and we have seen in an era of populist leadership around the world, it is difficult to maintain fiscal discipline. We note the demand for cash grants by the opposition which they now see as an entitlement regardless of the demands of our wider sustainable development.
Strong institutions are lacking in many developing countries where even Central Banks come under pressure from populist leaders to gear monetary policy for political purposes. But prudent debt management is not possible without strong institutions and the government must resist pressures to undermine our Central Bank. Credit is cheaper during booms and it is higher during busts. This has been an issue for governments – when they need money, the interest costs are higher, but when doing well, credit is cheaper. Consequently, we must guard against greater fiscal indiscipline during good times which will act against the concept of fiscal activism.