Muted debate or silence on major issues of IMF role

by Chakravarthi Raghavan

Geneva, 4 Nov 2000 - While there is an ‘approaching consensus’ in a limited range of issues on the role of the IMF in the evolving global financial system, on many other major issues of the IMF role vis-a-vis the developing and the industrialized world, there is only muted debate on some, while others are not even on the table.

Nevertheless, these issues are important for the evolution of a sustainable international financial and monetary system that demands both efficiency and equity in international relations, according to a research paper for the Group of 24 (the developing-country group at the IMF and World Bank in Washington).

The research paper, titled ‘The Future Role of the IMF’ is by Aziz Ali Mohammed and is under an UNCTAD research programme of technical assistance for the Group of 24, coordinated by the Harvard academic, Prof. Dani Rodrik, and published in the UNCTAD series of ‘Studies on International Monetary and Financial Issues For the Group of 24’.

Aziz Ali Mohammed is a former IMF Director, who then headed the G-24 secretariat in Washington DC, and is now honorary adviser to the G-24 Chairman and Senior Advisor to the Governor of the State Bank of Pakistan. The study was prepared for a G-24 meeting on the eve of the recent Prague Fund/Bank meetings.

Aziz Ali notes in his study that in the wake of the 1994-95 financial crisis in Mexico, followed in 1997-98 by a succession of crises affecting developing countries in South-East Asia, Korea, Russia and Brazil, there has been a worldwide debate on the operations of the IMF and its future role.

A great deal of literature has been produced, from both official and non-official sources, on crisis prevention and management problems in emerging market countries, and a certain degree of consensus reached on the etiology and prescriptions for prevention of financial crises, and a better understanding of the principal issues that remain in contention, as these apply to developing countries.

But there is less agreement on what needs to be done for the resolution of crises once they break out. There are large differences of views on the role to be assigned to international institutions, especially the IMF, between those concerned about ‘moral hazard’ and others who are willing to consider a more ambitious agenda of intervention. There remain complex issues concerning participation of the private sector, measures for improvements in the working of financial markets and governance of international financial institutions. There are also a number of issues on the relations of the IMF with the industrialized countries, the major shareholders, that are absent from the current discussions, but have an indirect impact on the developing world.

On certain issues, such as the scope and purposes of the IMF’s lending operations, there is an approaching consensus that it should serve all its members, including the poorest, and that its resources should be available for supporting structural reforms as well as for dealing with financial crises.

[The view of the majority of the US Meltzer Commission for restricting the IMF role to a ‘quasi-lender-of-last-resort’, providing for very short-term and essentially unconditional liquidity for a limited number of relatively strong emerging market countries pre-qualifying for IMF assistance, has not prevailed with the G-7 leaders.]

On a number of other issues, says Aziz Ali, there remain large differences of views, including on the extension of IMF surveillance to cover the implementation of international standards and codes and the degree of permissible disclosure of surveillance documents.

Aziz Ali notes that there has been a steady extension of the ambit of Fund surveillance beyond its traditional concern with macro-economic conditions and monetary, fiscal and exchange rate policies in individual member-countries and with the functioning of the international monetary system.

The leaders of the G-7 Economic Summit are seeking a qualitative shift in the nature and scope of IMF surveillance to prevent crises and express ‘determination’ to strengthen efforts to implement international codes and standards ‘including through their incorporation in IMF surveillance.’

While welcoming the development of ‘codes, standards and best practices,’ developing countries are equally emphatic that ‘the scope of surveillance should not be extended to cover the observance of such codes and standards, which should remain a voluntary choice by each member.’ The G-24 Ministers (in their September 1999 communique) had explained their reservations and warned that increased attention given to these matters was ‘acceptable as part of Fund surveillance so long as it remains within the core competencies of the Fund and subscription to international standards remain voluntary.’

These cautions suggest that while developing countries are prepared for the IMF to develop internationally agreed standards in the area of data dissemination, fiscal transparency and transparency in monetary and financial policies, “they are less prepared for the IMF to have IMF surveillance extended to monitoring their observance of standards or to be measured against them,” Aziz Ali points out.

This reluctance, he adds, applies especially strongly to areas beyond the IMF’s traditional expertise, such as securities, investment funds, insurance, accounting, auditing and corporate governance. While the IMF management has offered assurances that it would work closely with the World Bank Group and other institutions, including standard-setting bodies, and that the preparation of assessments would be carried out in a phased manner, the insistent tone of industrial-country pronouncements “leaves much uncertainty about how these assurances will apply in practice.”

[At the recent Prague meetings, where several developing country finance ministers spoke strongly at the IMF interim committee meeting, it would appear that the issue has been sent back to the IMF staff for further study and report to the next meeting.]

Another set of apprehensions, Aziz Ali says, relates to how much disclosure of surveillance judgements is to be requited. While the US Treasury Secretary has argued for the focus on surveillance to shift ‘from collecting and sharing information within the club of nations to promoting collection and dissemination of information for markets and investors’, developing countries argue that as a cooperative of governments, the IMF cannot be expected to serve as a ‘super-rating agency’ for the benefit of private markets nor should it issue public warnings that are likely to become self-fulfilling prophecies.

On private sector involvement, the official community is agreed that the private sector should participate in the prevention as well as resolution of financial crises.

On the prevention side, the major question relates to the disclosure practices of financial institutions, especially in relation to their funding of the activities of the highly-leveraged institutions (HLI) such as hedge funds and their operations in off-shore financial centres where a significant proportion of unregulated hedge funds are located. The recommendations in these inter-related areas, that have been the subject of studies by the Financial Stability Forum Working Groups are largely of a self-restraining character. And the G-7 Ministers are not prepared to recommend at this stage direct regulation of the currently unregulated HLIs, “indicating their desire to propitiate private financial interests in their own markets,” Aziz Ali says.

“The transparency obligations and regulatory restraints being applied to developing countries,” he adds, “are not yet to be balanced by a commensurate application to entities whose operations have generated such disruptive market dynamics in those countries’ markets.”

On the crisis resolution side, there is a whole skein of issues, the fundamental one being whether private sector involvement should be based on use of concerted techniques applied under a rules-based framework, with clear rules determining when the private sector is to be bailed-in (as Canada and a number of Europeans want), or whether it should be on the basis of ‘constructive ambiguity’, as the US wants.

Developing countries, Aziz Ali notes, have not yet articulated a firm position, but the interests of smaller countries would indicate a preference for a rules-based framework. “This would constitute an important step in developing in the international sphere a bankruptcy regime analogous to the one existing in the domestic arena. Another step would be to generalize the incorporation of collective action clauses in international bond contracts, a possibility now available on the London market.”

Beyond this standstill issue, is the larger question of arrangements for orderly and equitable debt workouts. Where the problem is essentially one of liquidity, it might be sufficient to arrange for debt-rollovers with the help of an IMF-supported program that serves a catalytic function. But where prospects of a rapid return to market access on reasonable terms are poor, it would become necessary to visualize debt restructuring, and in extreme cases, to debt write-offs. While the IMF role as ‘gate-keeper’ for the Paris Club re-organizations of sovereign debts or officially granted or officially guaranteed debts, the role is far more problematic in dealing with private sector creditors, and the IMF claims a ‘preferred creditor’ status in relation to them.

“Developing countries have hence insisted on the principle that the IMF be not a party to the negotiations between the debtor country and its private creditors.”

The developing countries are generally unconvinced that the official community will be able to overcome the powerful resistance of the private sector to concerted techniques for their involvement. They would much rather the IMF be equipped with an emergency facility to decisively underpin confidence in the international system when confronting speculative excesses in private capital markets. But in a world where these markets can mobilize enormous sums in very short order to attack any country’s currency, the IMF would need power to create international reserves freely in order to face down market speculators.

In regard to IMF facilities, while several have been settled in the light of the G-7 communiques, several new ones have arisen from the same source. The G-7 want new pricing structures for borrowing from the Fund, and these proposals for tightening IMF credit are ostensibly to ensure that IMF financing is not treated as a cheaper substitute for market financing and to delay adjustment.

But “developing countries consider the rationale offered to be unconvincing and since changes in terms of the IMF credit require a qualified majority of 70% to be enacted, they would be able to block the G-7 proposals, provided they maintain unity,” Aziz Ali says.

The developing countries are even less persuaded by another proposal for the use of any resulting increase in IMF income within the existing Articles with the objective of targeting support to poorest countries.

“The effect of this recommendation,” Aziz Ali points out, “would be to shift the burden of helping the poorest from the developed member-countries to those somewhat less poor. It is tantamount to repealing an implied contract that underpins the weighted voting power that the rich countries exercise in the IMF, namely, that this ‘democracy-deficit’ is justified by the contribution that the richer countries are expected to make for providing resources to the IMF, particularly concessional resources.”

[On the eve of the Prague meeting, the UK Chancellor of the Exchequer, who chaired the interim committee, appears to have tried to canvass support from the executive directors from the Commonwealth countries, but it would appear he did not succeed in softening the position of the developing-country members.]

On capital account liberalization, the powerful campaign, with ideological overtones, launched by the IMF management in mid-1990s for an IMF-supervised regime has tended to lose momentum in the light of the subsequent experience with the massive volatility of private capital movements. The IMF has continued to advocate liberalization, but has qualified its advocacy with caution about the need for the process to be gradual, orderly and properly sequenced. There is also acceptance for deterring large-scale short-term capital inflows through indirect price-based policy tools, ala Chile and Colombia. But there is less agreement on direct administrative controls, though these might be preferable for under-developed regulatory systems. And any use of concerted techniques to involve the private sector in crisis resolution would have to provide for suspension of debt service payments, including through exchange controls on private sector payments, Aziz Ali points out.

And with most developing countries operating ‘intermediate regimes’ between free floats and currency board arrangements, these regimes have a better chance of operating successfully in tandem with capital account regimes that allow for capital controls. Developing countries favour the acceptance by the IMF of the possibility of using capital controls as a regular instrument of national policy instead of treating them as temporary devices to deal with emergency situations in countries with poor prudential regulations.

On the issue of governance of the IMF, Aziz Ali points to several issues in contention, the single-most significant being influence of developing countries in the decision-making processes of the IMF. The original concept of the IMF as a cooperative institution of governments has eroded, with industrial countries not needing to borrow from the IMF. With the membership now split between ‘structural’ creditors and ‘structural’ debtors, the former has felt no constraints about elaborating conditions to be applied to the latter - since they are most unlikely to apply to themselves.

“A manifestation of this tendency,” says Aziz Ali (a person known for his very mild mannered words in writings and speeches), “has been the growing arrogation of decision-making by smaller groups of industrial countries, notably the G-7, which are then pushed through the IMF on the basis of weighted power.”

This for example, he notes, has been noted in the 1999 economic summit decisions on enhancement of the HIPC initiative, which was then adopted by the executive boards of the Bretton Woods Institutions, despite the fact that the enhancement added to costs of the initiative for these and other institutions, and creditor governments, without the G-7 making any commitments of their own on how these costs were to be met. Even more striking, he adds, is the use of ‘unusually strident language’ in the G-7 finance ministers report last July to their Fukuoka meeting, where their preamble talks of their “determination to implement all the measures in the report as well as [a] broad range of measures endorsed at the Cologne Summit.” While this sentence in their report also talks of working with other members of the international community, the context suggests that this is for the purpose of making ‘steady progress’ towards implementing the G-7 decisions.

There were also issues covering relations of the IMF with its major shareholders, and impacting on the developing world, but which are notable for their absence from the current discussions. These include:

        the global implications of exchange rate movements of the principal currencies (the dollar, the euro and the yen) and their fluctuations as major contributors to financial disturbance in other countries.

“Every emerging market crisis in the past two decades has been associated with major swings of exchange rate and liquidity conditions in the major industrial countries. Gyrations of up to 20% between the bilateral exchange rates of the three currencies have taken place within the span of a few months or even a few weeks, and other countries are simply expected to accommodate themselves to such large movements.”

“The lack of stable arrangements to assure coherence of the macro-economic policies of the major countries remains a major lacuna in the international monetary and financial system.”

        the relationship of international and regional institutions for surveillance, mutual financial support and decision-making, especially in crisis situations, is another area that calls for discussion in light of changing political realities, such as the evolution of US Congressional attitudes towards the IMF and other international institutions and the example set by the formation of a single currency area in Europe.

“The Japanese proposal in 1997 for an Asian Monetary Fund was ‘too hastily withdrawn’ and while there has been some revival of the concept in the Asean+3 framework in recent days, it needs to be developed to be meaningful. Similar arrangements might be worthy of consideration in Latin America, the Middle East (for example, in the Gulf Cooperation Council countries) and in North Africa.”

        the exercise of voting power within the IMF, as determined by the distribution of quotas, deriving historically from an arbitrary quota allocation formula designed to perpetuate the dominance of a few industrial countries, has important implications for internal governance of the institution, and through that, to the international monetary system.

“The issue, however, is broader when considered in terms of the power alignments across international institutions and overlapping mandates of operations including the World Bank group, the World Trade Organization, the Bank for International Settlements, the Basel Committee, and the more recently created Financial Stability Forum. The relationship of treaty-based institutions, with defined rights and obligations of members versus ad hoc groupings such as the Canada-chaired Group of 20, raise important questions on the influence exerted by a small sub-set of the membership.”

        the international reserve mechanism and its current heavy reliance on a very few national currencies.

“While the debates of earlier decades on the supposed ‘benefits’ obtained by the currency issuers may no longer be relevant, there remains an outstanding question about the role of the SDR mechanism in an evolving global system in need of a genuine lender-of-last-resort.”

The above article first appeared in the South-North Development Monitor (SUNS) of which Chakravarthi Raghavan is the Chief Editor.

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