FROM THE OFFICE OF PUBLIC AFFAIRS

I want to talk today about a vision. A vision of a world that works better. By working better, I mean a world where people everywhere are enjoying a higher and rising standard of living -- rising incomes that come from good jobs for everyone who wants one.

Let me begin by telling you the perspective I bring to this vision. From 1977 to 2001 I worked in the private sector after working 15 years in the Federal Government. During those private sector years I worked in two large multi national companies. From 1987 to 2001 I was the Chairman and CEO of Alcoa. When I joined Alcoa in 1987 we employed 55,000 people in 13 counties. When I left at the end of the year 2000; 140,000 people worked for Alcoa at 350 locations in 36 counties. This is to establish the basis for an assertion that I know something about job creation and about the ways of life and work in many places around the globe.

As I traveled the world over the last quarter century I was struck by two things. First, and most important, the demonstrated fact that human beings everywhere, with the proper education, training, and a stable social environment, can and do perform value adding work at world competitive levels.

 That means they can be paid compensation that gives them the capacity for independence and their self-determined pursuit of the good life for themselves and their families. I draw from this observation that human beings everywhere have in them the latent capacity to create a high standard of living.

The second general observation is this: In spite of the first observation, the disparity of living standards among the world's people is so large as to be practically incomprehensible.

The obvious question is: Why? Why is it, if people have the capacity to create a good life that so many billions of people exist today with little hope of the good life we know is possible. Some of you will think this is a dead end question - - a question too big to ask - - one of life's imponderables - - let's move on to something else.

I do not agree. I believe this is the question for us and our time.

If you examine the economic history of the last 300 years it is easy to conclude that there is no absolute limit on world economic product.

That is to say, economic prosperity is not rooted in some people getting more by taking someone else's share. In fact, it appears that the world economic pie is limited only by our imagination -- when we back up our imagination with the necessary social institutions and structures and human beings and resources are organized to create value.

I realize this is a lofty perspective and I intend to bring it down to the ground. But, as an analytic habit of mind, I find it useful to remind myself of the purpose and potential of what we do lest we get caught up in the alphabet soup of development agencies and NGO's and government organizations as though their existence were the only objective.

Let me bring these general ideas down to the ground and talk more specifically about economic development and the role of the international financial institutions.

I want to affirm that I believe the IFI's have been, and are now important and they need to be even more important in the future. By important in the future I mean identified with ever greater success in contributing to a rising standard of living for people everywhere. To illustrate the thought process I believe we should employ in reaching for this objective, I want to discuss five interrelated subjects. The first is sovereign debt interest rates.

As the world has become evermore one capital market, sovereign interest rates have become a measure or proxy that allows us to compare conditions and prospects across geographic and political boundaries. For as long as I can remember, we seem to have accepted the proposition that low-income nations are destined to have high interest rates as compared to developed countries. Implicit in this notion is the idea that low-income nations are inherently less creditworthy than developed nations. Our expectations are fulfilled when nations borrow amounts that raise the risk of default. As the risk of default increases, the rates go up. But this proposition is not ordained, it is just a practice we have fallen into. In fact, low-income nations could have investment grade debt if they disciplined their debt issues to amounts they can service on a reliable basis.

We haven't paid much attention to this issue because we tend to forget the connection between governments and their people.

To put the issue squarely, governments get their revenue from their people and, when governments take on debt that results in interest rates of 20% or more they are, in effect, causing their people to pay those interest rates, sapping the ability of the people to tend to their individual needs. I saw this issue starkly in reviewing an analysis of a developing country economic plan where the target interest rate associated with economic success was judged to be 18%. Think about the consequences of an 18% interest rate for a country and its development prospects as compared to say a 10% rate or a 6% rate. Obviously, there is an interaction between interest rates and total amounts of capital borrowed but it isn't possible to make a case forsovereign rates that exceed a rate that can be returned by investments.

Out of this, I conclude that an objective of the international financial institutions should be to work with developing nations to achieve investment grade ratings for their debt issues. This will not be easy but it should be our objective because as developing nations move toward investment grade status they will reduce the danger of economic collapse; in effect, creating a cushion against unanticipated adverse events.

The second issue is related to the first. It is the issue of the appropriate balance between loans and grants in providing assistance to developing nations. Let me ask you a question. Do you think it makes sense to make a loan, even a highly concessional loan (that means long term and low interest rates) to a nation that is already up to its eyeballs in debt with scant prospects of being able to service its already outstanding commercial debt? I don't think so, but there are staunch advocates for preserving the practices of the past fifty years and continuing to encourage developing nations to take on loans from the development agencies. I think the advocates do not understand the first principles of capital markets and they certainly have not learned a lesson from the current experience of having to write off loans for the heavily indebted nations. President Bush has proposed that we shift assistance so that in the future 50% of the money provided by development banks be in the form of grants, moving from the current practice of 98% loans and 2% grants

The opposition's main argument against this proposition seems to be that the virtue of loans is that it teaches developing nations important lessons about how to conduct their affairs. The HIPC loan forgiveness process makes a mockery of this notion.

Rather than add to the financial woes of developing nations by adding to a debt burden they cannot service we should openly admit that some countries need grants. Let me hasten to add, that does not mean gifts for the profligate. By grant I mean, a sum of money given for a specific purpose with measurable results that are pro growth and a higher standard of living for the people. Some of the critics of shifting the balance between loans and grants see such a shift as a nefarious plot to reduce the total amount of aid provided. On the contrary, I believe the world's taxpayers, who are after all the ultimate source of all development assistance, will respond with more assistance, if and when those of us in leadership positions can demonstrate that we know what we are doing by producing results measured byrising standards of living in developing nations.

<P>The third issue is related to the first two; it is the importance of creating the conditions in developing countries that will result in the establishment and growth of a vibrant private sector economy. If a country is seen to be fiscally well managed, patient private sector investments will be made instead of the flighty deposits seeking short-term high risks and returns. Patient private sector investors create a multiplier effect that leads to more jobs, and more stable jobs.

Prudent sovereign fiscal management is a key but it needs to be buttressed by a stable social environment as demonstrated by the clear rule of law, enforceable contracts, and protection from extortionists and other forms of capital thieves. For a truly vibrant economy these conditions are not discretionary. They must be the center of attention for sovereign governments and for serious development agencies and efforts.

When these things are said in development circles, everyone shakes their heads in agreement but the real world circumstances do not bear a close relationship to this prescription. I believe until the fundamentals are in place and working, the effectiveness of development assistance is a small fraction of what it should be.

The fourth issue is what I will call the process of deliberate learning. Over the last 50 years, hundreds of billions of dollars have been spent in the name of economic development. With so many of the countries that have been aided still not showing strong evidence of positive change, I believe we need to sift and sort the facts and experience to understand where our efforts have produced great results and, as importantly, where there are no results or retrogression. This is an important task for the analytic community. At the last meeting of the G-20, I asked Jim Wolfensohn of the World Bank to prepare a report to begin this process. I emphasized the importance of learning and saying in a forthright way what hasn't worked and why so that we can agree to stop making such interventions.

The fifth and final issue is examining and refining the systems and tools we have, or ought to have, to help countries that fall into troubled times. As an illustration, let me use Argentina as a reference case. When we began early last year to examine the financial fact in Argentina we found that they had national debts totaling about $130 billion and a revenue stream capable of supporting perhaps $100 billion. As we looked at things they might do we examined their debt instruments and found that the country had given away their rights to restructure.

We should learn from that experience and seek to convince developing countries not to give away important fiscal flexibility for a few basis points of advantage when they issue debt.

A related learning is the need to create a process for controlled restructuring when a country falls on hard times. A serious discussion has been started by the recent call for the creation of a bankruptcy process. Many questions must be answered before a workable system can be put in place. I believe we should press ahead on this issue as quickly as possible but I hope you can tell from what I have said that I believe if we do a better job of economic development we will not often have to use such a tool.