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G-7 Summit Finance Ministers' Report to the Heads of State
And Government on International Monetary Stability
Lyon, France, June 28, 1996
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The dramatic increase in trade and capital flows in the world
has deepened economic and financial integration among all countries,
and it creates a more complex financial environment, with a greater
diversity of capital flows, creditors and borrowers. This process
of globalization creates new opportunities but also challenges
for our countries and the international community, especially
with regard to our international monetary and financial system.
In this context, the Heads of State and Government concluded at
the Halifax summit that : "Close consultation and effective
cooperation on macroeconomic policies among the G7 are important
elements in promoting sustained non-inflationary growth avoiding
the emergence of large external imbalances, and promoting greater
exchange market stability", that "we have a shared interest
in ensuring the international community remains able to manage
the risks inherent in the growth of private capital flows, the
increased integration of domestic capital markets, and the accelerating
pace of financial innovation" and that "closer international
cooperation in the regulation and supervision of financial institutions
and markets is essential to safeguard the financial system and
prevent an erosion of prudential standards."
In our discussions in Halifax last year we concluded, more specifically,
that :
- the most important foundation for exchange rate stability
is the maintenance of sound macroeconomic policies aimed at achieving
sustained non-inflationary growth and avoiding the emergence of
large external or internal imbalances ;
- flexibility in exchange rates of the major currencies is a
basic feature of the system because unanticipated events occur,
economic fundamentals change, and national financial and economic
developments are sufficiently different that they require that
policies be able to respond to them ;
- exchange market intervention can be effective and even decisive
in specific circumstances, but those circumstances are difficult
to determine in advance ;
- there is no effective regulatory structure or tax mechanism
that will produce greater exchange rate stability without major
costs in terms of other economic objectives.
These conclusions remain valid today.
Our overriding objective is to promote sustained non-inflationary
growth. In this context, the G7 can best promote greater stability
in exchange markets through the pursuit of appropriate macroeconomic
policies along with close cooperation in the exchange markets
where appropriate.
For the past two decades, the international monetary system has
been based on a flexible exchange rate system among major currencies.
There are circumstances when it is appropriate to allow exchange
rates among major currencies to fluctuate rather than to adjust
monetary and fiscal policies in a manner inconsistent with the
needs of the economy.
Experience since 1973 suggests that major exchange rate adjustments
have been caused by clearly identifiable changes or distortions
in the underlying economic fundamentals or in macroeconomic policies.
Efforts to preserve an exchange rate that is inconsistent with
underlying fundamentals are likely to introduce distortions to
and constraints on central instruments of economic management.
At the same time, financial authorities cannot be indifferent
to exchange rate fluctuations that do not appear justified on
the basis of macro-economic policies or fundamentals and as a
consequence could adversely affect output or prices. There are
circumstances where close cooperation in exchange markets can
reinforce sound economic policies and enhance stability in exchange
markets
The G7 has an important responsibility in promoting an effective
and stable monetary system by advancing policies that will strengthen
our capacity to manage risk and prevent crises and improve our
ability to respond to such events when they occur. Towards this
objective, we have adopted a number of initiatives over the past
several years and improvements were initiated at Halifax. This
paper reviews the main initiatives, and proposes, where appropriate,
further improvements.
More effective macro-economic surveillance in the G7 meetings
It is important to pursue sound domestic economic policies
aimed at achieving sustained non-inflationary growth and at avoiding
the emergence of excessive external imbalances. Such policies
are also a necessary condition for more exchange rate stability
and for avoiding -or reducing- exchange rate misalignment. The
dramatic deepening in economic integration increases the need
for sound economic policies but also the potential gains from
cooperation on macro-economic policies. The G7 surveillance process
provides a framework for identifying and formulating appropriate
responses to risks for our economies and for the stability of
the international financial and monetary system.
- Surveillance has been improved by the G7 in the past years,
and some encouraging results have been reached in this informal
framework :
- we have already achieved some important progress in articulating
common economic policy objectives : we have agreed on the critical
importance of reducing inflation and have made great progress
to this end ; we agreed on the medium-term strategy for fiscal
consolidation, which we will continue to pursue vigorously to
increase national savings, and to reduce external imbalances.
Increased convergence should improve the outlook for sustained
exchange rate stability and low long-term interest rates in our
countries ;
- in the aftermath of the Mexican crisis, G7 have encouraged
an important enhancement of IMF surveillance, which is being implemented
(see below).
- We have adopted a number of steps to improve the effectiveness
of the G7 surveillance process. Building on these improvements,
we would support the following additional steps :
- concentrate the discussion on potential risks to the outlook
in the G7 and the appropriate policy response to those challenges.
More attention could also be paid to medium-term economic and
structural issues ;
- focus more attention on potential risks outside the G7 that
could affect the international monetary and financial system,
based in part on a presentation by the IMF Managing Director ;
- strengthen cooperation at the Deputies level in preparation
for Ministerial meetings with appropriate involvement of central
bank deputies and the IMF staff.
Continuing G7 close cooperation in exchange markets
Exchange rate misalignments can heighten uncertainty in the
global economy and can be detrimental to growth and trade. When
exchange rates appear to move out of line with underlying fundamentals,
close monitoring is necessary and coordinated responses may be
required.
- The "orderly reversal" in key exchange rates since
April 1995 is a positive and promising development. Several factors
lie behind it. Most important were changes in economic policies
and fundamentals, but the signals given to the markets by the
G7 in 1995, through communiqués and -under appropriate
circumstances- concerted intervention, were helpful in providing
impetus to bringing exchange rates better in line with fundamental
trends.
- We should continue our close cooperation in exchange markets
on this foundation, taking into account the fact that :
- a clear and consistent articulation of a common G7 view can
have a stabilizing influence and help reinforce the credibility
of our commitment to cooperate in the exchange market when circumstances
warrant ;
- interventions can be effective in certain circumstances, especially
when they reinforce changes in policies and/or underlying fundamentals
that lead to changes in market expectations about future exchange
rates ;
- the instrument of intervention must be used judiciously given
its implications for monetary policy and the amount that the authorities
can mobilize relative to the size of international capital markets.
Nevertheless, these factors do not impede our joint ability to
send a clear message to the markets, if and when appropriate ;
- interventions are more likely to be effective when they are
concerted and reflect a common assessment ;
- an important condition for success is the appropriate timing
of intervention.
Better prudential safeguards in international financial markets
The globalisation of financial markets and the substantial
increase in cross-border capital flows have created a more complex
financial environment. Comprehensive and effective financial regulation,
market-reinforced prudential supervision and enhanced international
cooperation among regulators are among the keystones for maintaining
stability of the international financial and monetary system.
- Industrial countries have been cooperating in the development
of prudential frameworks for many years. The BIS/Basle Committees
have taken important steps to develop international standards
for prudential supervision of banks and to strengthen payments
and settlements systems which link international markets. IOSCO
has undertaken similar work for prudential regulation of securities
firms and markets. In recent years, banking and securities regulators
have increased their contacts at the international level to address
supervisory concerns that cut across markets.
- We recognise the substantial recent and ongoing cooperative
work between the Basle and IOSCO Committees on derivatives to
promote improved risk management, a common reporting framework
and improved disclosure practices ;
- We welcome the publication in December 1995 of the Basle Committee
capital adequacy standards for bank's exposure to market risk,
which will be a very useful complement to existing prudential
ratios.
- Nevertheless, the changes in the structure of global finance
and the emergence of new participants and markets require the
supervisory response, including international cooperation, to
evolve continually. We welcome the Basle and IOSCO Committees'
reports on prudential regulation and supervisory cooperation.
These reports should pave the way for continuing progress on current
initiatives and expanding efforts in the following directions
:
- Enhance cooperation across markets to strengthen supervision
of financial institutions. In this context, we welcome the joint
efforts of the Basle and IOSCO Committees to enhance their collaborative
arrangements and the work of the Joint Forum of banks, securities
and insurance supervisors. Suitable arrangements should be established
within which that cooperation can be better organized. It would
be useful to clarify the role and responsibilities of the relevant
supervisors to foster an appropriate degree of cooperation in
the supervision of internationally-active financial institutions,
and to establish a more comprehensive network of bilateral arrangements
between authorities.
- Strengthen prudential standards in, and supervisory cooperation
with, emerging markets. Effective prudential regulation and supervision
must cover all important financial marketplaces, particularly
those which are experiencing high growth rates and/or substantial
capital flows. The Basle and IOSCO Committees are performing work
in this area which reinforces bilateral and regional efforts underway.
Because emerging markets are growing in significance, these Committees,
and other appropriate for should be encouraged to strengthen their
outreach to and cooperation with emerging market supervisors in
order to promote high prudential standards. The International
Financial Institutions should give more attention to promoting
effective regulatory and supervisory structures in emerging markets
;
- Encourage private sector efforts to enhance market transparency.
Notwithstanding past or future regulatory activities, primary
responsibility for risk management rests with market participants.
Regulators should encourage -and where necessary exert pressure
to induce- private sector efforts to enhance market transparency
in order to strengthen market forces' capacity for sound and responsible
risk taking and control ;
- Improve reporting and disclosure of derivatives activities.
Effective monitoring of derivatives activities is crucial, and
requires closer cooperation among supervisors. In this regard,
we welcome the global market survey conducted in the spring of
1995 by the BIS, and the follow-up action which is being planned.
We also look forward to the conclusion this year of a joint Basle/IOSCO
approach to reporting standards for derivatives exposure and to
further progress in improving derivatives disclosure practices
;
- Enhance cooperation among exchanges. We look forward to implementation
of the recommendations in the Windsor Declaration for increasing
cooperation among futures exchanges and regulators. We also note
with approval the development of information sharing arrangements
among securities exchanges and welcome conclusion of an information
sharing arrangement among major futures exchanges and relevant
regulatory authorities. We also look forward to the IOSCO study
of methods to identify large firm exposures that may have an effect
on the market and to protect market participants from potential
defaults by firms.
Strengthening of our collective ability to respond to financial
crises
The increased integration of global capital markets, the change
in magnitude and composition of capital flows, and the increase
in the diversity and number of creditors and borrowers present
new opportunities and challenges to the financial system. At Halifax,
Heads proposed a range of initiatives to strengthen the global
financial system, with particular attention to the IMF's role.
We strongly welcome their implementation :
- Improvement of the early warning system is being implemented
: the IMF's surveillance capabilities have been enhanced ; the
IMF has established standards for timely publication of economic
and financial data, and subscription on a voluntary basis is underway.
- In order to better respond to crises, an emergency financing
mechanism, aiming at faster procedures, has been set up in the
IMF ;
- We welcome the agreement in principle reached on a doubling
of the resources currently available to the IMF under the General
Arrangements to Borrow. These arrangements will include a broader
group of countries with the capacity to support the international
monetary system. We welcome this sharing of monetary responsibilities,
thereby adapting our cooperation to new economic circumstances
;
- We welcome the report of the G-10 Working Party on the Resolution
of Sovereign Liquidity Crises ;
- We fully support the ongoing 11th review of IMF quotas to
ensure that the IMF continues to have sufficient resources to
meet its ongoing responsibilities. We believe it is important
for the IMF to remain a quota based institution with the resources
necessary to fulfill its important role in the global financial
system.
[end of document]
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