FROM THE OFFICE OF PUBLIC AFFAIRS

Thank you, Dean Hill.  It’s a pleasure to be back home in Utah and to be able to share with you today my thoughts on the global economy and US engagement in international economic affairs. 

The Role of Economics in Foreign Policy
From the outset of this Administration, President Bush has stressed that his foreign policy is based on three essential, interdependent building blocks --military, political, and economic--with economics by no means in third place. In fact, the first National Security Presidential Directive named the Secretary of the Treasury – for the first time -- as a formal member of the National Security Council, together with the Secretaries of Defense and State.

This formal inclusion of economics into foreign policy has certainly resulted in an elevation of economic issues. But it has also led to a government inter-agency mechanism--from the cabinet, to their deputies, to technical staff--that allows for increased coordination between economic and military/political issues.

This increased coordination has been evident in many areas, from the Reconstruction of Iraq to a heightened emphasis on business-like input-output performance measures used in policy evaluation, even in areas where quantitative information is difficult to find or measure.

Overall Economic Policy Goals
So, from the outset of the Administration, international economic policy has been central to foreign policy.  Two goals have guided the international economic policy agenda: (1) increasing economic growth, as measured by improvements in productivity and higher income per capita, and (2) improving economic stability, as measured by a reduction in the severity, length, and frequency of economic downturns and crises. 
Perhaps the best illustration of how economic policy is formulated is to discuss how these core principles are applied in every day policy-making.  I’d like to turn now to a brief overview of current conditions, and then continue with an examination of applied economics – how our principles help guide policy towards developed, emerging and developing countries around the world. 

An Overview of Current Conditions
The most important thing any country can do for global economic policy is to get its own domestic economic policies right – promoting growth is critical and the US is doing its part.  The President took this message to the recent G8 Summit in Evian, France, and the Finance Ministers underscored it with their own pronouncements from Deauville. 

So let me start with an overview of where we are at the moment in the US.  In the United States, GDP rose by 1.4% in each of the last two quarters.  Most analysts, however, expect a significant pick-up in the second half of this year and over 4% in 2004, as the President's jobs and growth provisions kick-in.  In fact, Treasury economists are currently expecting annualized growth rates near 3.5% by the later part of this year.  We're starting to see an impact in the markets from the Jobs and Growth plan, as higher tax-adjusted returns on dividends and capital gains are factored into stock prices.  In many ways, the focus of the plan is on reducing the cost of capital for businesses, creating conditions for higher potential growth in the long-term.  A lower cost of capital means more capital formation, more investment, and more jobs.  Obviously, the tax plan does a lot for the demand side as well, with lower marginal rates for all taxpayers and immediate child tax credits for families, for example.   

And there is other good news.  Consumer sentiment is up with the end of The war, interest rates have stayed low keeping the housing market strong, and corporate profits are rebounding.  Productivity has stayed strong, which bodes well for future income growth and living standards. 
 
The Industrialized Nations: Structural Changes

On the international front, the industrialized nations are growing far too slowly and everyone suffers as a consequence.  Growth in the G-7 countries outside the United States has been disappointing.  Our neighbor Canada continues to do well, closely linked as it is to our own economy.  But in Europe the outlook for the Continental countries is decidedly weak, and some forecasters doubt whether the upturn expected in the second half of this year will occur on schedule.  Japan remains on a path of very low growth, continuing the weak performance of the past decade. 

So, among the developed nations of the world, we expect relatively strong performance by the United States over the next year and a half, and relatively weak performance by Japan and Europe.  But a healthy world economy needs multiple engines of growth, so we remain concerned about weakness in the Euro Area and in Japan.  These countries need to take action, appropriate for their own situations, to move onto a sustained upward path.   For both Europe and Japan, structural changes will be especially important.  In Germany, reform emphasizing more flexible labor markets, is an important first step.  For the French, public sector pension reform is key.  Japan also needs to act decisively – to clean up its banking system, to end deflation, to undertake structural reforms and deregulation of product markets, and to adopt a credible medium-term fiscal consolidation program.
 
Emerging Markets: Fostering Growth and Stability

Financial crises in recent years have threatened the progress made by many emerging markets.  Successive crises have constrained global capital flows and helped leave growth well below its potential.   With the central goal of increasing economic growth and stability, we must provide strong support for policy reforms.

Latin America and Asia

In Latin American prospects look distinctly better this year.    The effects of Argentina's massive financial crisis and political uncertainty in Brazil in the run-up to presidential elections were among the factors that heightened regional uncertainty in 2002 and contributed to negative growth.  With Argentina now recovering, Brazil's new president providing a positive confidence shock through support for strong policies, and other countries also improving their policy frameworks, the outlook for 2003 has improved and positive growth is expected this year.  Significant challenges remain, however, if the region is to improve on the disappointing growth it has seen over a long period.

As we look at the region, we see new leaders – including three I met on my recent trip with the Secretary to Latin America, Lula, Uribe, and Gutierrez – who are setting a courageous and far-sighted economic course.  They have focused on cutting deficits, lowering the cost of capital and freeing up resources for private sector-led growth, promoting trade integration, and upholding the rule of law.  Throughout the region, we see more convergence on core policy imperatives:  stability, more emphasis on markets and the private sector, and a focus on better governance and reduced corruption.

In East Asia, despite a slowing of growth in the second quarter, mainly due to the impact of SARS, prospects are good that growth will rebound during the rest of the year.  The risk of balance of payments crisis has declined significantly as the lessons of the Asian Financial crisis are absorbed (though to varying degrees) and most countries have built up foreign exchange reserves and reduced short-term external debt.  China's impressive expansion reflects foreign investment and low-cost labor, as well as strengthening domestic demand.  The good news for the global economy is that China's imports are growing rapidly, along with its exports.  Many Asian countries rely more and more on sales to China. Continued growth in China will be a great opportunity for the world economy: producers in Asia, the U.S. and elsewhere can benefit greatly from growing exports to China, while consumers continue to enjoy China's exports. 

Crisis Prevention

So, the emerging market countries are doing much better, but the experience of the last 20 years tells us that we must be vigilant about the risk of instability or crisis in these markets.  Reducing the frequency of crises and improving emerging markets’ access to private capital flows means preventing crises before they erupt – to do this, we need to better understand potential vulnerabilities and encourage countries to take early action.  Second, we must reduce the spread of crises from one country to others.  Third, we are working to make clear that official sector finance is limited – and not available in large sums that might encourage excessive risk-taking or provide an escape for policy-makers facing difficult choices.  Finally, we are seeking to create a more orderly and predictable process for debt restructuring through the introduction of collective action clauses in sovereign bonds. 

No one wants to support the bail out of investors that take risky bets, or of governments that avoid responsible policies.  The first step to avoiding a request for emergency assistance from a country is to be able to better spot trouble on the horizon.  To this end, one of our primary tools is the International Monetary Fund, which has a mandate for surveillance of countries' policies and of financial market trends.  The Fund has made important strides in bolstering its own understanding of risks, and its own capacity for analysis.  We have also made good progress in sharing the benefits of the Fund's work with market participants -- the Fund now has a comprehensive web site (www.imf.org) that is a conduit for the public to get access to real-time financial and economic information on countries, and in many cases to see the full staff papers that inform the Fund's decision. 

When financial crises cannot be averted, policy makers need to consider how to respond.  In the face of recent challenges in Latin America, the international community demonstrated active but calibrated responses.  The United States and the international financial institutions acted quickly and decisively to pressures on Brazil in August 2002 as the country headed into presidential elections.  We bet that the new government would continue a strong emphasis on stabilization, and accordingly, we supported an IMF program that spanned the election, though resources were back loaded to maintain an incentive for solid implementation.  Our support for Brazil has turned out to be a good bet.

The United States encouraged Argentina and the IMF to negotiate a short, transitional program to support and strengthen stabilization progress through the election period.  The idea was to lock-in fiscal and monetary policy progress during this period and in the immediate aftermath of the elections to build confidence and give the new government a chance to formulate its policies.  Both policy outcomes and economic performance suggest that in macroeconomic terms this IMF program was a good decision by the international community.

In Uruguay, we found a good performer with a strong desire to honor its obligations.  But it was hit hard by Argentina’s severe crisis.  The United States and the international financial institutions formulated a financial package aimed at avoiding banking sector collapse and a multi-year depression.  In addition, the recent debt exchange may well turn out to be a model in cases where debt restructuring is needed.

Finally, the United States was determined to help Colombian President Uribe meet security needs as well as the economic and financial challenges the country was facing at the same time.  Support from the international financial institutions helped generate renewed access to markets.

These four country cases demonstrate our willingness to help those committed to sound policies.  We are not, prepared, however, to back countries that lack a strong commitment to policy performance.
 
To further strengthen incentives for strong policies and prudent risk-taking, the United States has sought to make clear the limits on official finance.  The Administration has emphasized and will continue to insist that the IMF be the key source of emergency support in the face of financial crises.  Creating a more orderly and predictable process for debt restructuring has also been a priority in recent months.  There can at times be “collective action” problems that prevent a prompt, orderly resolution of a sovereign debt crisis.  It is our strong view that collective action clauses offer a practical vehicle to mitigate this problem.  We have seen excellent progress in developing and incorporating collective action clauses in external sovereign bond contracts.  An initial offering by Mexico incorporated these clauses and was followed by Brazil, South Africa, Korea and others.  Emerging markets that regularly access international financing need to assume rightful ownership of these issues and help assure a more stable and orderly international financial system.

The Developing World: Economic Growth is the Key to Poverty Reduction

The persistence of poverty is one of the most difficult challenges the world faces.  Yet we are committed to tackling it.  The Administration’s strategy in developing countries centers on increasing productivity growth, thereby raising living standards and reducing poverty.  Creating economic opportunities is vital not only to the daily lives of individuals and the economic development of their countries but also to stability for all of the world’s citizens. 

The President’s commitment to tackling poverty is exemplified by his proposed Millennium Challenge Account (MCA), which represents a tremendous innovation in the delivery of development assistance. The MCA brings together the lessons we have learned about development over the past 50 years:  1) Aid is more likely to result in successful sustainable economic development in countries that are pursuing sound political, economic and social policies.  2) Development plans formulated by a broad range of stakeholders engender country ownership and are more likely to succeed and 3) Integrating monitoring and evaluation into the design of activities ensures that aid is going where it’s most effective. The MCA will place a clear focus on results.  Funds will only go to well designed programs that have clear objectives, measure baseline data, and set benchmarks for both intermediate outputs and final outcome goals.

President Bush has also set out a new economic growth agenda for the multilateral development banks that focuses on raising productivity growth, introducing measurable results, and structuring our contributions to create incentives for specific outcomes.  He called on the development banks to increase the use of grants, rather than loans, to the poorest countries, and the banks are already responding.   Grants help poor countries make productive investments without saddling them with ever larger debt burdens.  Recipients perceive grants to be more valuable than loans, permitting higher performance hurdles and thus enhancing development effectiveness and results.  With strong U.S. urging, both the World Bank’s concessional window – IDA – and the African Development Fund have agreed to increase sharply the share of resources provided in the form of grants to the poorest countries, so that 18-21 percent of total assistance over the next three years will be provided in this form.  The poorest countries are eligible for 100% grant financing for efforts to counter HIV/AIDS.  Donors likewise committed to increase grants in the International Fund for Agricultural Development to 10 percent of total assistance.  This year we will seek to expand the use of grants at other MDBs, particularly the Asian Development Bank through its facility for the poorest countries, the Asian Development Fund.

The Primacy of Trade and Investment in an Integrated Economic Policy Strategy

One issue that is of fundamental importance to each category of country – the industrialized nations, the emerging markets and the developing world – is trade.  Trade liberalization is a fundamental step that all countries around the world can take to raise growth and reduce poverty.  We are pursuing this objective at a global level in the World Trade Organization, regionally through the Free Trade Area of the Americas agreement, and bilaterally through recently signed agreements with Singapore and Chile, as well as continuing negotiations with the Southern Africa Customs Union, Morocco, Australia and several Central American nations. 

Multilateral trade liberalization is a global tax cut for all consumers and exporters and an engine for growth, in association with sound macroeconomic, structural policies.  The IMF and World Bank estimate that the gains to developing countries from eliminating global barriers to merchandise trade alone would be well in excess of annual aid flows to these countries.   To realize these benefits, developing countries need to reduce their own trade barriers substantially.  The World Bank found that liberalization within the developing world is key to their economic growth, development, and poverty elimination.  Developing countries collect most of their tariffs on trade with other developing countries.  Indeed, 67-80 percent of the projected income gains from global trade liberalization for developing countries (some $121 billion in a static model and $424 billion in a dynamic model) are expected to come from liberalization of their own barriers.

An open investment climate both here and abroad contributes to the widening and deepening of capital markets, improves the risk profile of developing and emerging markets, and complements trade liberalization as an engine of growth.  For developing and emerging markets, in particular, an open investment climate, whereby foreign investors have broad market access and are treated in a fair, equitable, and non-discriminatory manner is critical to lowering the cost of capital in these countries.   Inflows of foreign capital can improve productivity, induce the transfer of technology and management skills, create jobs, expand exports, and enhance import competitiveness.   These benefits are not limited to developing and emerging economies, however.  They are important to our own economy, and the President is committed to maintaining the U.S. Government’s long-standing policy welcoming foreign investment in this country. 

The President is also committed to a vigorous negotiating agenda to ensure open investment policies abroad.  The passage of TPA has enhanced the President’s ability to pursue negotiation of international investment agreements.   His administration has launched one of the most sweeping initiatives to encourage open investment policies abroad ever undertaken by United States.  The effort is both bilateral and multilateral.  The investment chapters in the recently concluded Chile and Singapore FTAs reflect this vigorous agenda.

Rebuilding Iraq

One area in which we are being called upon to apply these principles in a particularly dramatic way is the reconstruction of Iraq.  Rebuilding Iraq and Afghanistan are clear priorities for the United States.   After living under decades of misrule by Saddam Hussein, the Iraqi people at last have an opportunity to forge a better future for themselves and for their children.  We are committed to assisting in this effort.  Our work is guided by a set of principles that are fundamental to creating the foundation for sustained economic growth.  These principles include open markets, the rule of law, established property rights, transparent and accountable governance, and a sound currency.

With these principles in mind we are confronting the many challenges on the economic front that we have faced since the end of the war.  Government ministries were largely destroyed by fighting and looting; the Iraqi dinar had depreciated severely and we feared a monetary crisis and hyperinflation; basic economic statistics were non-existent; and the lack of a secure environment restricted commerce and the work that our staff could do in Iraq.  We continue to deal with lawlessness, limited ability to communicate, and the loss of technical expertise in government ministries. 

I would like to stress, however, that the reconstruction task is not just, or even primarily, to rebuild from the consequences of several weeks of war, but rather from several decades of misrule.  The Iraqi economy deteriorated under years of sanctions, conflict, and economic mismanagement.  Income per capita plummeted, and other measures of wellbeing also declined.  The infant mortality rate, for instance, increased from 50 per 1,000 live births in 1990 to 121 per 1,000 live births in 2000.

Although the reconstruction task is significant, Iraq has several advantages that will facilitate efforts to improve the country’s prospects.  Iraq has a long tradition of entrepreneurship and diverse commercial activity; already, the streets of Baghdad are bustling with commerce.  In addition, it has abundant human potential and natural resources.  In combination with a market economy based on rule of law, established property rights, and economic freedom, these advantages can lead the way to a brighter, more prosperous future for all Iraqis.

In helping Iraqis achieve such a future, it will be important to draw on lessons learned from previous post-conflict experiences.  One such lesson is that rebuilding societies and economies requires time, patience, and a sustained commitment.  Reconstruction is not amenable to easy solutions or quick exits.  The nature of our engagement will necessarily evolve over time as Iraqis choose their own government and reconstruction tasks are completed, but we are committed to ensuring that the people of Iraq have brighter prospects for their future.

Let me review briefly some of the principal steps we have taken, as well as priorities for future action. 

A critical early priority is to promote the establishment of a stable, unified national currency, which is a prerequisite for establishing a vibrant economy.  The pre-existing currency situation makes this a difficult task.  Several currencies circulate widely, including the Iraqi, or “Saddam,” dinar in central and southern Iraq; the Old Iraqi, or “Swiss,” dinar in the northern part of the country; and the U.S. dollar.  One of our main concerns following the end of the war was that there would be a large devaluation of the Saddam dinar followed by hyperinflation.  In addition, there were concerns about losing control of currency printing facilities, and fears that the currency would cease to serve as an accepted means of exchange.

We took action early to address these concerns.  We secured currency stocks and printing facilities, and the military made public announcements that existing currencies would continue to be accepted as means of payment.  Although little price data is available to make assessments about inflation, the information we have received on exchange rates indicates that the value of the Saddam dinar against the dollar, while very volatile, has strengthened of late.  We stand ready to assist in the implementation of whichever long-term currency reform the people of Iraq choose through a representative Iraqi government.

Another area on which we have placed a great deal of attention is the development of an integrated and transparent Iraqi government budget.  Before the war, the Iraqi budget was a state secret.  The lack of transparency and accountability made it difficult to determine how resources were allocated.  Enhanced transparency will be essential in future budget operations, particularly in the area of oil revenues, if enhanced standards of governance are to be achieved and the Iraqi people are to hold their elected officials accountable.  
 
In addition, we are evaluating options to establish a “trade credit authority” that will begin laying the groundwork for commercial activity independent of central authority.  Such a financing mechanism will help stimulate the Iraqi economy by facilitating foreign trade. 

An issue that has received much attention and will clearly have to be addressed is Iraq’s capacity to address the potentially enormous burden of its existing financial obligations.  In the near-term, we have taken two important steps to address this situation.  First, we secured agreement from G-7 creditors not to expect Iraq to service its debt for at least the next eighteen months.  Second, we have been working to determine how much debt Iraq owes.  In the medium-term, once we have a better estimate of the true level of Iraq’s debt and its underlying payment capacity, we can move forward to develop a comprehensive strategy to deal with Iraq’s official debt.

We have been guided in all of our actions by the goal of creating a stable and prosperous Iraq and releasing the shackles that have constrained the potential of the Iraqi people.  The challenges are still formidable, but we remain committed to achieving an environment in which all Iraqis will have the opportunity to forge a better future for themselves and their children.

A Few Words on the Financing of Terrorism

Money is the fuel for the enterprise of terror, but it also can be its Achilles’ heel.  Conventional wisdom has it that terror is cheap, but this is only based on the most visible of operating costs.  Terrorism is an enterprise involving numerous activities – recruiting, transporting, training, arming, targeting, concealing, executing, and escaping.  It takes a great deal of money.  Al-Qai’da paid the Taliban $20 million each year for safe harbor in Afghanistan.  If we stop the money, we stop the killing.

 The Treasury Department has been a key agency in the fight against the financing of terrorism.  Our approach to the problem is multifaceted.  Our most public tactic is the designation and freezing of financial assets.  This impedes operations and dries up the financing pipeline, and has already netted us $138 million worldwide.  But this is only one activity.  We also spend many hours on the vitally important work of developing and strengthening international standards related to identifying wire transfers, reporting on suspicious bank activities, and overseeing charitable donations among other things.  Besides standard setting, we are working to institutionalize the protection of the world’s formal and informal financial systems by ensuring that the International Financial Institutions look hard at countries’ safeguards against terrorist finance as part of routine oversight.  All of this involves extensive diplomatic outreach, both bilaterally and multilaterally.

Conclusion

As you can see, we have set for ourselves a challenging agenda.  But we are committed to working through the key issues of our times and to developing a set of policies that ensures continued growth while laying the foundation for financial stability.  We will continue to work with our partners around the globe in attempting to lay the foundation for increased prosperity and improved economic conditions around the world.

I would be happy to take your questions.