IMF Head Lagarde Says Budget Biggest U.S. Problem

April 10, 2013 9:43 pm Last Updated: April 10, 2013 11:19 pm

NEW YORK—Christine Lagard, the head of the International Monetary Fund said in a speech April 10 that the United States economy is recovering but has to fix its chronic deficit problems.

“The good news is that after a particularly volatile period, financial conditions are showing signs of improvements,” Lagarde said in a speech at the Economic Club of New York. She said that central banks’ accommodative monetary policy had played a big role in supporting a fragile economic recovery.

Nonetheless, there was still work to do, especially in the United States. “The crisis began here because of financial excess. Since then the United States has made rapid and substantial progress in repairing its financial system,” she said, referring to the subprime bubble and its burst. In the aftermath, U.S. banks have shored up their capital more than European peers, for example.

Despite the Dodd-Frank regulation of financial markets, Lagarde thinks that more “intrusive” regulation is necessary to curb risks from derivatives and the shadow-banking system, a largely off balance sheet segment of the banking sector.

She called for a “cross-border” resolution to the problem of “Too Big to Fail” banks, which according to Lagarde should be wound down if the situation requires it. Her stance on this matter echoes former Bank of England head Mervin King, who appeared before the Economic Club of New York in December calling for similar measures.

Nonetheless, the priority for the United States should be a “credible” plan for its public finances, which Lagarde deems “unsustainable” in the long run. She said that short-term cuts through sequestration are a “blunt and blind” instrument that leaves untouched the “deep drivers that determine long-term spending,” such as entitlements.

In order to resolve the U.S. deficit, which is among the highest in developed economies, Lagarde says a mix of revenue increases and spending cuts will do, but there is a need for action, as economic gains might be lost. “This is a massive challenge facing the United States today and it has to be met,” she says.