February 2001


The International Monetary Fund remains probably the most powerful agency affecting the policies of developing countries, especially those unlucky to be indebted enough to need its loans. Its policies have come under severe attack, especially after the Asian crisis. Recently, the IMF’s top official indicated a rethink is going on of some of its policies which had previously been held as sacred truths. But the pace of reform of the agency is ploddingly slow, and meanwhile many countries are suffering from its imposing supervision.

By Martin Khor

Third World Network Features

After years of denying that it has its basic policies wrong, is the International Monetary Fund beginning to re-examine the advice it gives to developing countries?

Don’t bet on it yet. But comments made in mid-January by the IMF’s top official, Horst Kohler, show that the powerful institution is now having nagging doubts about the wisdom of some of its most basic principles.

That’s not surprising, since the IMF has come under increasing attack from a wide range of critics, including leaders of developing countries, social groups and movements protesting in the streets, top academic economists (including the World Bank’s former chief economist Joseph Stiglitz) and even conservative American Congressmen threatening to reduce their financial support.

The IMF’s policies have little credibility left with the public in both developing and developed countries.  And even  with the academic or  political  establishment  in the rich countries, there has been a dramatic deterioration in the once-invincible image of this premier international financial institution.

When the German official Horst Kohler took over from Michel Camdessus as the IMF’s Managing Director early last year, there was some early hope that he would quickly institute some basic changes.

According to news reports, he had started a review of the long lists of ‘policy conditions’ that accompany the loans the IMF provides to cash-strapped countries.

The conditions cover not only issues regarding finance and the government budget but also ownership of the economy, trade policy, property laws, and non-economic topics that involve political and social structures.

To be eligible for loans, the government has to agree to the conditions. Before each instalment of the loan is disbursed, the IMF will have to be satisfied that the policies are being implemented, and that a new ‘letter of intent’ containing new conditions is signed.

The wide scope as well as the inappropriateness of the policies have been criticised for years, and the attacks have reached fever pitch after the Asian crisis, when Indonesia, Thailand and South Korea were the new countries subjected to the ‘IMF medicine’.

Kohler’s reported attempt to review the policies was thus a welcome move. But almost a year later, we have yet to hear about any reform in the IMF relating to policy conditionality. If anything, the list of conditions seems to have grown longer.

A major tenet of the IMF Secretariat is that countries should have liberal financial systems that are open to the free flow of various types of funds, into and out of the economy.

This policy of ‘capital mobility’, or in technical jargon ‘capital account liberalisation’, was one of the major pieces of policy advice that the IMF staff, especially Camdessus, pursued with missionary zeal in developing countries.

Such a policy led to too much funds swamping into East Asia, in search of too few good projects. And then the crisis struck and the flow reversed.

Even as money was flowing out by the billions from the affected Asian countries in 1997-98, Camdessus was insisting that the countries themselves were to blame because they had not liberalised enough. And true enough, a major IMF condition for extending loans was that the crisis-hit countries would keep their economies open to free capital flows, and then open them up even more.

Recently, Kohler seemed to be voicing second thoughts on this policy. Speaking at the Asia-Europe (ASEM) finance ministers’ meeting in Kobe (Japan), he said the benefits of ‘carefully prepared integration’ into the global financial system outweigh the risks.

He added: ‘But we should also draw a lesson from the recent crises in emerging markets that in some cases, there was clearly overly-rapid capital account liberalisation.

‘Coping safely with volatile international capital flows requires sound domestic financial systems, adequate supervision and prudential regulation, and good risk management capacities in banks and businesses, reinforced by greater transparency and market discipline.

‘It is important to put these preconditions in place, insofar as possible, before the capital account is fully opened. Thus, in some cases, the transition may need to be gradual.’

Kohler said he was requesting the IMF staff to review the experience of country cases in order to be able to ‘begin distilling more detailed, practical suggestions’ on the sequencing of liberalisation.

Kohler’s statement may, at first, seem reassuring. On further reflection, it is alarming that it is only now that the IMF is to conduct a review of country experiences and to begin to provide detailed suggestions on how to carry out financial liberalisation.

This is an implicit admission the IMF’s one-size-fits-all policy that ‘capital liberalisation is surely good for you’ has been wrong. Indeed, in a report of Kohler’s speech, the financial news agency Bloomberg said the comments are an ‘about-face’ for the IMF, compared to its earlier advice to policy-makers in emerging markets to throw open their countries’ capital markets.

It is important to realise that many of the policy conditions (attached to the IMF loans to Indonesia, Thailand, South Korea and scores of others) oblige these countries to maintain open capital markets and to open them up further.

If Kohler is serious, then the review process he initiated should also review and change the conditions relating to capital liberalisation. At the least, the IMF must allow countries the option to have selective exchange and capital controls, if their countries are not yet prepared to weather the storms of free capital flows, and if there is still no international regulation of such flows.

In the same speech Kohler also admitted that the recent financial crises had led to re-examination of the merits of capital controls. He praised the Chilean measure controlling short-term inflows as a means to prevent debt.

On Malaysia’s measures, he was much more guarded, stating: ‘In the case of Malaysia, which adopted controls of capital outflows, the evidence is not clear.’

He added that in some other countries, the effect of capital controls has been clearly negative and there should be further research to assess the costs and benefits of capital controls in particular circumstances.

Kohler’s speech indicates that the IMF is re-looking at a few of the beliefs that previously it considered sacred and unshakable. But it has been more than three years since the Asian crisis broke (and two decades of loans with ‘structural adjustment’ conditions to over 80 developing countries, with few cases of success) and the pace of re-learning at the IMF has been very slow.

Meanwhile, its staff continue to hand out more policy conditions that could very well be like wrong and bad medicine to countries unfortunate enough to have fallen into crisis.

Also in mid-January, the Thai Prime Minister elect, Thaksin Shinawatra, announced that ‘once we are in the government we will need to review some of our commitments with the IMF to see which items are obstacles to tackle economic problems and then we’ll talk to the IMF.’

When that happens, the IMF will yet be put to the test, whether it is willing to give a debtor country the chance to change policy conditions that the government believes to be wrong.

In the past, the IMF has proven to be a powerful and stubborn imposer. Who knows when or whether it will ever change. - Third World Network Features

About the writer: Martin Khor is Director of the Third World Network.