FROM THE OFFICE OF PUBLIC AFFAIRS

This building was my workplace for a couple of years, and it is always good to get back here. I understand you heard from our host, Secretary Albright this morning. I want to thank her for what she has done in recognizing the work of the economic officers of the State Department, both in our Embassies abroad and here in Washington. They play an increasingly important role in our foreign policy. I know they are of considerable assistance to you and your companies in your work in the Hemisphere.

I want to commend this Council for what it is doing to promote commerce and understanding in the Americas. Many of you have been intimately involved in the growth and development of Latin American markets. You have seen the good times and the not-so-good times as these nations strive to take their place in the global economy of the 21s^t century.

I want to talk about the international economic outlook and our policy, both in general and as it relates to our Latin neighbors. The policy approach of the Administration of President Clinton and Vice President Gore is based on the belief that market-based economic systems provide the best environment for creating jobs, generating economic activity, and raising living standards, in our own country, in this Hemisphere and around the world. As we head into the 21^st century, prospects for strengthening the global economy continue to brighten. The shocks of a few years ago have subsided. Growth has resumed. The world community increasingly can concentrate on how best to promote sustainability and lock in the hard-won gains from those reforms already undertaken, rather than on the emergency measures needed to stem crises. Significant challenges remain, however, and there is no room for complacency. In particular, the United States cannot indefinitely provide the main stimulus to global growth, as it has in recent years. Sustained stronger domestic demand-led growth is needed in other industrial countries to support a more balanced world economy.

Greater growth requires appropriate macroeconomic policies, but it also requires an optimistic vision of the possible and a determination to aim for higher goals. In Europe, the leaders of the EU recently held their Special Council in Lisbon. They set an ambitious target of raising EU growth to an average of 3 percent per year in this decade and creating 20 million new jobs. This is a demanding target, but it is one our own economy has achieved over the past seven years, which shows that with the right policies, it is achievable. And it is essential; if the world economy is to become better balanced without sacrificing growth. Raising potential growth rates and lowering non-inflationary rates of unemployment in Europe will require substantial structural reforms to remove barriers to investment opportunities, including in new technologies. And as the growth potential increases, macroeconomic policies must be supportive, so that economies actually achieve the gains in jobs and output that structural policy changes make possible.

The Japanese economy has not yet achieved a secure recovery in private demand.

There have been some positive signs and we all hope the worst is past, but the economy remains weak, as reflected in the real GDP contraction in the second half of last year. Japan has taken a number of important steps to stabilize its economy, including cutting short-term interest rates almost to zero and the adoption of November's fiscal stimulus package. Japan must continue to use all economic policy tools - including monetary, fiscal and market-opening deregulation - to support demand until a self-sustaining recovery is assured. Beyond this, Japan needs to keep working to restructure its banking system - including more aggressive disposal of non-performing assets -- and make further progress on market-opening deregulation.

If Europe and Japan can achieve these higher goals, there will be benefits not only to their own citizens but to the global economy as well. A more balanced pattern of G-7 growth will allow the industrial countries to continue providing a favorable environment for developing country recovery and expansion while facilitating adjustment in the United States.

We in the United States must also not be complacent. During the last eight years, large budget deficits have been transformed into large budget surpluses, and net national saving has risen. Productivity increases and prudent monetary policy have held inflation largely in check. Fiscal policy remains focused on debt reduction, the long-run solvency of Social Security and Medicare, and making other investments that would enhance the economic expansion. After twenty-eight consecutive years of deficits, the Federal budget has been in surplus for the last two fiscal years, and the level of debt held by the public has been reduced for the first time in thirty years. Yet we, too, need to do more. We must strengthen national saving by encouraging household saving, and ensure that inflation remains in check. And we must not let progress be dissipated by irresponsible tax cuts.

Over the next generation, the greatest benefit of increasing globalization may well be making possible the safe and sustainable flow of goods, capital and ideas between the developed world and the developing one. The labor force in the U.S. and Western Europe is aging. All of the world's population growth is going to occur in the developing countries. This is where the expanding markets and manpower will be located. To spread the benefits of the global economy to all peoples requires a coordinated effort among the leading industrial nations, international institutions and, above all, by the developing countries themselves. They must nurture the kind of institutions, and follow the kind of macroeconomic policies, that make them safe, attractive places for the investment of international capital.

We believe the main challenge for the emerging market countries now is to put in place policies that will sustain non-inflationary growth and limit their economies' vulnerability at the time, which will inevitably come, when the external environment is no longer so benign. They need to take advantage of the current favorable economic conditions to make the necessary restructuring less painful. It would be a major mistake to interpret these conditions, as indicating that restructuring is no longer necessary.

In Latin America, this means, first and foremost, more prudent management of debts in both the public and private sectors, including greater reliance on longer-term, domestic currency debt, and stronger financial systems, so that external pressures do not result in significant domestic shocks. It also means maintaining sound, credible and consistent economic policies that underpin the choice of exchange rate regime and avoiding risky "fixed-but-adjustable" regimes.

Latin America can look back with some satisfaction on the past decade. Protectionist and populist policies that began coming under attack at the beginning of the decade have largely been replaced by policies that allow markets to flourish. As a result, Latin America's GDP grew 3.8 percent annually during the Nineties, well above the annual growth rate of 2.2 percent in the Eighties. The vast majority of Latin countries responded to external economic and financial pressures of the last two years with renewed commitment to prudent fiscal and monetary policies, deeper financial sector reforms, and no significant reversals of trade liberalization. Such responses, during a time of economic pressure, underline the robustness of the general consensus in favor of reform. One encouraging result of these prudent macroeconomic policies is that inflation remains subdued in the region. In 2000, the inflation rate is expected to be in the single digits for the fourth year in a row.

Responsible economic policies provide a solid platform for the resumption of growth this year and next. The IMF forecast is for 4.0 percent GDP growth in 2000 and 4.7 percent growth in 2001. Nevertheless, in the new millennium, managing capital market volatility will pose an ongoing challenge to continued growth and stability in Latin America. The IMF estimates the gross external-financing requirement of the four largest countries in Latin America--Brazil, Mexico, Argentina, and Colombia-- to be around $160 billion in 2000 alone.

A key issue for Latin American and other emerging market economies at the start of this new century is to provide better financial management in an environment of large potential shocks in global capital flows. Capital will always have ebbs and flows, to some extent independent of policies in individual countries. Each movement produces its own challenges. The main thing Latin American countries can do to protect themselves is to keep their policies strong.

The importance of sound financial systems in reducing a country's vulnerability to financial shocks is indisputable. Latin American countries were ahead of the curve when the Finance Ministers of the Western Hemisphere committed in 1997 to implement the Basel Core Principles. This commitment was symbolic of the increased attention to such issues in the wake of the Tequila crisis of 1995. The relative strength of banks in Latin America is probably one reason the region survived the financial turmoil of 1998 and 1999 with less damage than occurred in Asia.

However, Latin American financial systems are small, a condition which impedes growth. To encourage investment in domestic financial institutions, governments must maintain macroeconomic stability and nurture legal environments that protect property rights. At the same time, authorities need to establish robust regulatory and supervisory frameworks to ensure the soundness of banking systems. Those changes are not going to occur overnight, and require continued work to implement and sustain. Nevertheless, they are critical to enhance the ability of Latin America to withstand financial market volatility.

Other measures are also required to reduce vulnerability. To sustain confidence, Latin America will need exchange rate regimes that can command the trust of domestic citizens and of foreign investors, accommodate regional and global integration, and remain resilient over time. There is a growing consensus that countries involved in the world capital market will need to avoid the "middle ground" of pegged exchange rates combined with discretionary monetary policies. It has become clear that a fixed - but not firmly institutionalized - exchange rate regime holds enormous risks for emerging market economies in a world where fast-flowing capital and insufficiently developed financial systems coincide. At the same time, adoption of floating exchange rate regimes should not be used as a device to avoid implementing prudent macroeconomic policies.

The most extreme institutional monetary arrangement available to a country, of course, is the abandonment of its own currency. In this context, dollarization has been discussed as an alternative to floating and to the middle ground of adjustable pegs. The decision to make another country's currency one's own is hugely consequential for any country, and it is one that has to be considered carefully. On the one hand, dollarization offers the attractive promise of enhancing stability in the dollarizing country by importing the credibility and discipline of another country's policies in support of its own policies, and, thereby, also advancing its integration with the world economy. On the other hand, the country also must be prepared to embrace that discipline and to accept the potentially significant consequences of doing without the capacity independently to adjust its exchange rate or the direction of domestic interest rates.

U.S. authorities are open to dollarization by other countries. However, we have made clear that it would be inappropriate to adjust our own bank supervisory responsibilities to cover institutions in countries that adopt the dollar, to provide expanded access to the Federal Reserve's discount window, or to adjust the procedures or orientation of U.S. monetary policy in light of another country's decision to dollarize its monetary system. Any country contemplating dollarization will have to weigh carefully these considerations as well as many others.

Countries must take care to avoid the trap of pegged exchange rate regimes that may appear to offer stability, but may in reality encourage large risks to build up unnoticed. It is noteworthy, in this connection, that last year four Latin American countries adopted flexible exchange rate regimes. And this year, one, Ecuador chose to dollarize. But a great deal of the hard work remains to be done both to implement and stick to prudent macroeconomic policies, regardless of a country's exchange rate regime, if a country is to capitalize upon the progress that has been made in liberalizing its economy and financial system.

The risks associated with exchange rate fluctuations are only one factor that contributes to an economy's vulnerability to modern capital account crises. As I have stated, we view the prudent management of national balance sheets, including debt management, as the priority task at this time. The national balance sheet is a concept that is broader than the sovereign's own balance sheet and extends to assets and liabilities of both public and private sectors in both domestic and foreign currency. In light of recent experience, it seems clear that weaknesses in the sovereign's own balance sheet need not be the central source of an economy's financial vulnerability. Rather, risk exposures of banks, finance companies and individual firms, in various combinations, can set the stage for a generalized, reinforcing rush for the exit. It is also clear that private sector leverage and risk exposure can also augment pressure on sovereign balance sheets both prior to and during a crisis.

Thus, borrowing and lending decisions that are individually prudent may, taken as a whole, result in vulnerabilities for a country. An individual corporate treasurer, for example, may decide that it is smart to borrow unhedged in foreign currency, or to remain exposed to commodity price declines. However, if all firms in the economy make the same bet, the resulting economy-wide unhedged exposure can contribute to the type of destabilizing dynamics we have seen recently in many countries, where a scramble for foreign currency makes a thin market thinner, and very one-sided.

The real challenge is how to reduce the risk that the conditions that can lead this type of dynamic will occur in the first place. The policy challenges are a bit more complicated than those required for prudential management of the sovereign's liabilities alone, since the risks lie in the consolidated balance sheet of the nation overall. To reduce those risks, one has to think about how to influence the behavior of a diverse mix of private actors.

We do not pretend to have all the answers. We can say with some confidence that a sensible approach will require an integrated assessment of the refinancing and currency risks contained on the national balance sheet, as well as other significant sources of risk exposures. Many of these risks can currently be hedged in the capital markets, and even more will be as demands to spread more and more categories of risk lead to the creation of new hedging instruments. Other creative approaches can be explored. Commodity- price-based fiscal stabilization funds, such as Chile's CODELCO, for example, are the type of different approach that other commodity-dependent nations could usefully explore.

Reducing the aggregate risk on the national balance sheet also involves enhanced efforts to strengthen financial sectors. Such efforts include limiting the scope of the financial safety net and developing local capital markets in order to provide alternatives to bank finance. It is also important to avoid the distortions favoring what appear to be "cheap" financing terms in foreign currency obligations that all to often lead to future financial crises.

Moreover, we must not forget the importance of managing the sovereign balance sheet itself. The Asian crises did not originate in sovereign balance sheets, but arguably the crises in Mexico five years ago and in Russia and Brazil in 1998 did so originate, largely due to excessive concentration on short-term borrowing. In the Brazilian case, it was the sovereign's balance sheet in domestic currency that was most relevant, but the point about potential vulnerability remains.

These are exciting times. The pace of technology, the growth of trade and investment and the advance of democracy and free market institutions offer nations an unprecedented opportunity to accelerate growth in the interests of their people. Prudent fiscal and monetary policies, healthy banks, appropriate exchange rate policies and sound national balance sheets will assure steady economic progress. I hope that this Council, and its participating members, will not be just observers but active participants as nations try to achieve these goals in the new century.