Even before the turmoil caused by the global financial crisis has been adequately dealt with in terms of the adverse effects on employment and living conditions, governments across the world are being told that fiscal consolidation is the most important macroeconomic policy to be addressed. The calamities resulting from sovereign debt crises are widely advertised by the example of Greece, which in turn is encouraging many developing countries to opt for measures of austerity and fiscal retrenchment in an effort to placate markets.
The danger is not only that such policies may be put in place prematurely, thereby threatening the currently fragile global recovery. There are several additional dangers. Such a strategy depends upon exports to provide the source of dynamism for the domestic economy, which obviously cannot work if all countries or even a large number of them try it at the same time. It also accentuates and worsens domestic economic inequalities, which can give rise to social tensions and political instability that also affect the economy. In extreme cases, it can generate a self-reinforcing economic free fall in which market bullishness is compounded by government austerity.
Fortunately, this is not the only option available, nor is it the only actual experience that can be drawn upon to provide examples. In fact, even the very recent experience of several countries suggests that heterodox measures based on different kinds of state intervention can be more successful in allowing countries to deal with and escape the worst consequences of global volatility.
This is illustrated by the experience of Uzbekistan, a country which undertook a rather different and more creative pattern of adjustment based on active state involvement, even against the advice of the International Monetary Fund (IMF) and the initial dislike of financial markets, and is now experiencing a much more stable economic environment than most other “transition” economies, especially in Europe and Central Asia.
Unlike many other transition economies, Uzbekistan sought to move to a more market-based economic system with a gradualist and heterodox approach. Despite criticism from the IMF and other lending agencies, it adopted an import substituting industrialisation strategy in order to diversify out of heavy dependence on cotton exports and to utilise its domestic oil and gas reserves as well as gold and other mineral resources. It moved from importing 60 per cent of its oil production during the Soviet period to self-sufficiency in oil by 1995, without any reliance on foreign direct investment.
In the mid 1990s, the country moved closer to adopting IMF-supported liberalisation policies. But the collapse of world cotton prices in 1996 followed by the devaluation of the Russian rouble in 1998 precipitated a crisis, which was exacerbated by the suspension of the IMF stand-by agreement and the withdrawal of World Bank funds. Uzbekistan chose to intensify its import substitution and targeted credit policies, as well as to adopt a “crawling peg” system of exchange rate management to avoid sharp exchange rate shocks. It was rewarded with stable and then accelerating gross domestic product (GDP) growth over the past decade, based on rapidly increasing capital investment. GDP growth averaged four per cent annually in the early part of the decade and increased to eight to nine per cent before the global crisis.
This meant that the economy could face the global crises (the rising volatility of food and fuel prices followed by the financial crisis) in a relatively strong position. In any case, there was hardly any financial contagion since there had been only very limited financial liberalisation. More importantly, it was able to cope with the fall in exports through countercyclical macroeconomic policies. The Uzbekistan government’s ability to mobilise domestic revenues (which continue to account for 30 per cent of GDP) allowed it to keep its budget broadly in balance through most of the 2000s. It also has recently started to channel its current account surpluses into a new Fund for Reconstruction and Development.
These gave it ample fiscal and balance of payments space from which to initiate a large fiscal stimulus in the wake of the crisis, which was equivalent to around five per cent of GDP in 2009. Capital investment has increased very rapidly, counterbalancing the effects of export decline. Contrary to the pessimistic projections of the IMF, industrial growth accelerated from 2.7 per cent in 2008 to 9.1 per cent in the first half of 2009.
It is true that the pattern of growth in Uzbekistan has not been associated with sufficiently rapid employment generation or poverty reduction. Nevertheless, its heterodox measures have meant that the economy could avoid the worst effects of the crisis and continue to grow, belying expectations of a sharp fall in GDP.
As a result, even those who were earlier critical of such policies have changed their mind. A mission of executive directors of the IMF who visited Uzbekistan in October 2009 noted: “Uzbekistan has remained mostly resilient to the global economic crisis as a result of the authorities’ prudent policies that enabled them to accumulate considerable resources to support growth in this period and withstand the impact of the crisis and due to its cautious approach to participation in global financial markets”.
So what is the basic lesson of this experience? Simply this: Heterodox macroeconomic policies can be more effective and successful than standard prescriptions in coping with the adverse effects of global economic crisis.