When Emerging Markets asked Rodrigo de Rato last month how his successor should best grapple with the crisis of legitimacy and relevance facing the IMF, the outgoing managing director struck a defiant note: “I don’t think the Fund has a crisis of legitimacy. It has an agenda to respond for greater legitimacy,” he said. “If the Fund did not have this agenda, it would have a legitimacy crisis.”
His frankness reflects the fact that, in the past 18 months, he has set in motion one of the most far-reaching realignments in the history of the Washington-based multilateral, designed to bring the 62-year-old institution up to date in terms of its role in today’s global economy, and who should control it. Some view the Spaniard’s early departure – ostensibly for personal reasons – as having jeopardized the impetus for change, unless its new head proves equally intent on preventing the Fund from sliding into irrelevance. Others regard the move as “jumping ship”, as if intimating the institution’s inevitable demise.
Dominique Strauss-Kahn, the IMF’s incoming managing director, has wasted no time in telling the world he understands precisely what’s at stake. The French socialist said recently that the Fund’s “very existence” as the world’s leading financial institution is at issue, while presenting himself as the candidate of “reform”.
Reform centres partly upon giving the IMF a more central role in the global economy by allowing it to engage in multilateral surveillance of members’ economies, so that currency or financial crises can be avoided in future. It also hinges – crucially – on being able to give key emerging markets a greater say in the policies and running of the Fund.
What’s at stake
“This is not simply about the calculation of country quotas and the distribution of votes in the Fund. The stakes are much higher: they concern the very legitimacy of the Fund and its decisions,” Sergei Storchak, Russia’s deputy finance minister tells Emerging Markets in an interview.
“Sooner or later, the IMF will have to prove its right to exist in the 21st century,” says Storchak. “In practice, this means: if the new quotas do not reflect the changes in the economy in the way that they should, then the Fund risks losing, once and for all, the trust of the developing countries and emerging market states.” This, he says, would cast doubt over the Fund’s ability to act as a regulator of international monetary relations, its basic function.
The immediate problems run wider that that. As one long-serving executive director puts it, under de Rato, the task of running the institution was neglected because the managing director preferred foreign trips to engaging with the board, let alone managing – or leading: “The institution is falling apart; the internal management has fallen apart; staff morale is very poor; and we’ve lost huge amounts of social capital with the board,” he laments.
Political support too is crucial, and lawmakers in the United States – who ultimately control the purse strings of the Fund’s largest shareholder – are getting increasingly impatient with the institution. Barney Frank, chairman of the House Financial Services Committee, expressed frustration at what he sees as dogmatism among senior management. “[IMF first deputy managing director] Lipsky seems to me frankly to be someone in denial about the need to think about a change in role [for the Fund].”
“I asked him what is the role for the IMF now, since it’s clearly different than it was. He denied that – he said everything’s still the same; it’s basically the same institution, the same fundamental mission – almost like he was afraid that people would say, well, we don’t need you as much any more,” says Frank.
New role?
The IMF was set up at a time of fixed exchange rates among major currencies and was designed to offer short-term balance of payments support to economies whose currencies came under pressure. But after exchange rates were floated in the 1970s, the focus switched to ensuring that member countries’ economic fundamentals were sound. Along the way, the Fund involved itself in medium-term lending to emerging economies and into quasi-development and poverty issues.
The growth of private capital markets later disintermediated the IMF from much of its international financing role. And now, with some of the Fund’s best clients having left it, some of its biggest shareholders are wondering what to do with it.
Under de Rato, the multilateral has reverted more towards its original role and away from development or capital market issues. “There has been an attempt under de Rato to take the IMF back to original mandate and lessen the focus on poverty issues,” one former executive director at the IMF told Emerging Markets.
Bank of Israel governor Stanley Fischer, a former IMF deputy managing director, staunchly defends a back-to-basics approach for the institution. He tells Emerging Markets: “There is no institution with more legitimacy than the IMF for discussing the global monetary system.”
“[The institution] knows how to translate the desires of its owners into actions; it has that capacity, which it is critical for the international system to preserve.”
The voice problem
Yet it is precisely the disparate concerns of its owners – big and small – that have thrown the institution into its present turmoil.
Strauss-Kahn, a former French finance minister, has pledged that he would give emerging countries “the role they deserve”. But this is easier said than done. China, South Korea, Mexico and Turkey have had a quota adjustment, but as IMF director for Japan Shigeo Kashiwagi notes, “Misalignment is not limited to these four. Others need to be adjusted. Low-income countries will suffer, so to accommodate their desire to increase their quotas, you will need to increase basic votes.”
But one executive director notes that the entire discussion of quota reform is in essence “a very clever political vehicle to deflect attention from the question of legitimacy, the anchor of which is shares. So far the major shareholders are not willing to consider a substantive change.”
IMF executive director Peter Gakunu, whose constituency includes Nigeria, South Africa and Zimbabwe, says: “The debate about quota and voice is being discussed outside the framework of the Fund – and yet we have the most at stake. We are concerned that there will be a decision reached that does not take the poorest countries into account.”
The issue is complex, says former Japanese executive director at the IMF Yukio Yoshimura. “There is a conflict between wanting to give more voice to Asia and Africa,” he tells Emerging Markets. “If that voice is to be based upon economic power, then Asia should get more [votes] and Africa less. But if you adopt a humanitarian view, then Africa should have more voice so that poverty issues can be stressed.”
The quota issue is “a very difficult political matter, and it cannot be based just on a simple economic calculation”, says former IMF deputy managing director Shigemitsu Sugisaki. “You need a lot of lobbying and persuasion, and that is what de Rato has been doing,” he tells Emerging Markets. “[De Rato] achieved a first stage solution in Singapore last year, but that is just a first step, and developing countries think that this is not good enough.”
The most important thing, argues former German vice-finance minister Caio Koch-Weser – once himself a leading candidate for the top job at the Fund – is for the IMF to become “legitimate in the eyes of all members, particularly in Asia”.
“It is essential that the quota and representation issues are driven forward forcefully,” he tells Emerging Markets. “Europe really cannot afford to slow down those reforms based on narrow interests of constituencies and particularly smaller countries in Europe. What is needed is that Europe realizes that, with one voice and one seat, it will be better represented within the IMF and stronger at this global table than if its representation is fragmented.”
As his tenure draws to a close, de Rato remains confident. “It’s true that to get 180 countries to agree on weighty issues is not easy,” he tells Emerging Markets. “I’m sure that there will be consensuses that will advance.” Recently Brazil and South Africa signalled a willingness to scale back demands for quota reform, raising a possibility – however slim – that a deal might be struck soon.
Surveying the scene
Another issue that goes to the core of the Fund’s role – the “bread and butter of our existence”, as Russian executive director Alexei Mozhin puts it – is its new bilateral surveillance framework on exchange rates, agreed by members in June 2007. The reworked framework represents the Fund’s attempt to redefine its role, as lending to emerging economies has dried up.
Yet the decision has proved highly controversial, with many viewing it as a Trojan horse for pressuring China on its currency. Just days after de Rato announced plans for the new currency framework, Beijing warned that the IMF must not lend its weight to US demands for a faster appreciation of the renminbi. Analysts have expressed concern that the IMF could undermine its authority by lurching into a politically fraught dispute. Moreover, there is unease over whether the IMF will be able to secure any consensus on its new plans.
The decision to finally revise the 30-year-old surveillance framework says that countries should avoid exchange rate policies that result in “external instability”, but members have locked horns over what this means.
“With this new decision, we are a complete mess, and there is a sense that the Americans want to use it for political purposes,” notes one IMF board member. “The whole concept of ‘fundamental misalignment’ sounds like a court judgment. We need to step back and rethink the whole thing,” says the director, pointing out the technical limitations in estimating equilibrium exchange rates.
Earlier drafts of the text included “fundamental exchange rate misalignment” as an indication of external instability, but this was very vigorously opposed by China and other developing countries.
But Fischer remains clear: “It takes a lot for a government to be mature enough to say that surveillance applies not only to all the other countries, which everyone is always in favour of, but it also applies to us, which nobody is in favour of.”
Koch-Weser adds that the IMF should play its surveillance role “more forcefully” in the years ahead. “While there has been some progress on multilateral surveillance over the past 12 months or so, it seems to me that much more buy-in is needed from key shareholders in order to make this process more effective and to tackle the challenges we face globally today.”
Enter DSK
Opinions differ about whether effective reform can still be achieved. Japan’s former “Mr Yen”, Eisuke Sakakibara, is pessimistic. He reckons that, even under Strauss-Kahn, reforms at the IMF are unlikely to be radical enough to prevent it from slipping into “irrelevancy”, unless the wider global financial architecture is changed at the same time and offers stronger political support to the Fund, he says.
But in Strauss-Kahn, others see hope. “I was pleasantly surprised,” says one executive director. Another recounts how IMF board member Shakour Shaalan was taken aback when the Frenchman, on a recent trip to Washington, addressed him in fluent Arabic – a hint perhaps that Strauss-Kahn’s cultivated worldliness could win him strong backing from key constituencies in his struggle for reform.
“De Rato has gone for reform forcefully, but I think Dominique Strauss-Kahn will promote even stronger reforms,” says Koch-Weser. Reforms are essential, he says, “if the IMF is to retain the support of shareholders and regain credibility with financial markets”.
For all this, revising the Fund’s income model will be crucial, as many previous borrowers have paid off their obligations – the institution’s main source of revenue. Fischer reckons the Fund will need more money than it can get from reinvesting its gold – a key proposal of a recent report into financing the institution. Moreover, he says Strauss-Kahn will need to find ways to persuade members to support costs.
But, says Fischer, tread cautiously: “Don’t say, let’s see how much money we’ve got and then see what’s the biggest cloth we can cut,” he warns. “First, figure out what you want the Fund to do and then find the money.”
—Additional reporting by Philip Alexander, Lucy Conger and Simon Pirani