New Policy Paradigms for a New World

WASHINGTON, DC – Over the last quarter-century, the global economy enjoyed a remarkable stretch of stable growth and low inflation. The so-called “Great Moderation” lulled many policymakers into a false sense of security about their ability to manage the economy and deal with financial crises. But, as the Great Moderation metastasized into the Great Recession, fatal flaws in conventional thinking came to light. One of the most notable was just how poorly we grasped the linkages between the financial system and the broader economy – as well as the linkages between countries.

Today, as policymakers seek new paradigms for managing the economy in 2011 and beyond, a better understanding of these linkages will be essential to promoting economic growth and reducing the risk of crises. Equally important is the realization that by working together, we can build a more successful and more stable global economy, for the benefit of all countries.

Let me spell out what this means for three policy objectives: building a stronger and safer financial sector, achieving more balanced and more stable growth, and managing large and volatile capital flows.

A stronger and safer financial system is the bedrock of a successful economy. This requires strong regulation, with a sensible rulebook for financial markets and institutions. And, to ensure that everyone plays by the rules, financial institutions must be supervised intensively.