The IMF, according to its managing director Dominique Strauss-Kahn, is “back in business”. In the past year the Fund has committed over $160 billion in new loans and credit lines, helping cushion some of the world’s hardest-hit economies from the impact of the global economic recession – and earning its keep again.
This is a sudden and dramatic reversal of its pre-crisis situation, when the IMF appeared to have been marginalized by private-capital markets and was reduced in size, in line with what many believed was its diminished role and reduced means. It lent barely $1 billion in 2007.
Now, armed with a substantial immediate increase in its financial resources and the promise of more to come, the IMF has been able to offer emergency funding to some 30 developing nations in the past year, during the critical post-Lehman phase of the global crisis. In doing so it has re-established its role as an essential conduit in the international financial system.
The $750 billion of new IMF resources (up to $500 billion in borrowing facilities – including the issuance of IMF bonds – plus $250 billion by way of new issuance of the IMF’s own reserve currency, Special Drawing Rights or SDRs) agreed by the G-20 in April will boost its total resources from around $300 billion before the crisis to $1 trillion.
In the ascendant
With a more flexible and pragmatic attitude towards the conditionality it imposes on countries in return for loans, apparent during the Asian financial crisis of 1997–98, the IMF has already found its services in strong demand in central and eastern Europe, Latin America, Africa and other areas that were unable to secure capital market financing in the wake of the crisis.
Asia – with the notable exception of Pakistan and Sri Lanka – has been largely absent from the list of IMF borrowers, however.
While this partly reflects the region’s overall strong financial position, it also points to what some such as Marc Uzan, executive director of the Reinventing Bretton Woods Committee (RBWC), say could become a growing tendency towards increased independence among emerging markets from global financial markets and monetary institutions.
The size of new IMF resources – especially the major issue of SDRs to more than four times their previous level – has prompted some to suggest that global deflation has become the overriding concern of major economic powers in the wake of the global recession. Before that, the fear of stoking inflation by the issue of liquidity-boosting SDRs was paramount.
Former under-secretary for international affairs at the US Treasury Tim Adams says fears over post-crisis deflation played a part in the decision by the US and others to bolster IMF resources. But “a whole lot of factors led to a rethinking of the IMF’s size and the tools in its chest,” he says.
“One is just that the IMF’s resources have not kept up with the growth in the size of global GDP, global capital markets and capital flows,” Adams says. “Even before the crisis, the IMF was perceived to have been inadequately funded.
“Then there is the scale and nature of the current crisis – an economic crisis preceded by a financial crisis which is the worst we have witnessed in our lifetime,” he says.
Ironically, the IMF was downsized shortly before the crisis erupted, even though Strauss-Kahn’s predecessor, Rodrigo de Rato, had warned of trouble ahead in the global economy. “In good times, financial markets, government officials and politicians become too sanguine about the future. That’s why financial crises occur,” says former IMF deputy managing director Richard Erb.
Even with its new financing and facilities, the IMF is still not an overwhelming force in global capital markets, says the RBWC’s Uzan. “The huge increase in resources is still quite small compared with the size of global financial markets and capital flows,” he says.
Until the recent financial crisis struck, these flows were approaching $1 trillion a year, according to the Institute of International Finance.
Uzan and others say that an emerging trend towards “regionalism” in monetary affairs could limit demand for IMF assistance in future. “The collapse of credibility of global capital markets as well as of the IMF means that emerging market countries will rethink their role in the globalization process,” says Uzan.
Having survived the current crisis with only minimal help from the IMF, Asian countries “will move to the next stage of economic independence” by deepening their domestic financial markets and “accelerating the regional monetary process”, he predicts.
Emerging markets in general are less inhibited now about acting independently of the Bretton Woods institutions, says Uzan. “They have gained their autonomy.”
Misplaced Conditionality?
What drove Asian borrowers away from the IMF was the stern conditionality it imposed upon borrowing countries at the time of the Asian crisis. This was terrible in the case of Indonesia and South Korea in particular, says former Japanese vice finance minister for international affairs, Eisuke Sakakibara. Conditionality has eased since, but not enough to bring Asian borrowers back, he says.
“From my interactions with Asian policy-makers, there is still a negative stigma associated with going to the IMF,” says Adams. “The IMF fully recognizes this and is attempting to do a better job in trying to reach out to policy-makers and make the policies and process more acceptable to them. They have made enormous progress, but it is still going to take time for Asia to see the IMF in a positive light.”
Adams says that IMF conditionality “has evolved significantly from 10 years ago... the Fund has learned from the Asia crisis about the limits of conditionality, and the downside of trying to engineer an overly complex broad and sweeping set of policy conditions that encompass a number of microeconomic targets.
“Even those who criticized the conditionality would admit that it is simpler and more focused and more transparent now.”
Yet some worry that the process of easing IMF conditionality may have gone too far and that at some point, once the global crisis has abated, the IMF may need to tighten it again. “The ability to impose loan conditionality is the only collateral the IMF has,” former senior Bank of Japan official Rei Masunaga tells Emerging Markets.
The Fund’s Erb says, “It is much too soon to judge the consequences of recent changes in conditionality.”
One senior IMF official agreed that it is too early to draw any conclusions “from the easing of loan conditionality early this year.” What has changed is that some ‘post-programme conditionality’, whereby borrowers had to take structural measures within an agreed time frame, has been abolished, and IMF programmes now focus only on conditions needed to restore macroeconomic stability, the official said.
IMF first deputy managing director John Lipsky has sought to sell the idea that countries in Asia and elsewhere could take advantage of low-conditionality IMF borrowing to boost their foreign exchange reserves, so that they could use these reserves for domestic purposes.
Two new facilities – the Flexible Credit Line and the High Access Precautionary Arrangement – carry minimal conditions, he points out.
It no longer makes sense for countries to opt for self-insurance by maintaining huge reserves and investing so much of their savings in advanced economies, says Lipsky, who argues that they can borrow from the IMF instead and use their reserves at home. “There is no stigma attached to such borrowing in the eyes of private-capital markets in the way that former IMF loans were seen to imply weakness,” he says.
This is a view managing director Strauss-Kahn is likely to push at the IMF’s Istanbul gathering. “I see a new and enhanced role for the Fund as a lender of last resort,” he said in September. Three countries – Mexico, Poland and Colombia – which have so far used the IMF’s new Flexible Credit Line “understood ahead of others that they could use the Fund to supplement their reserves, and that they don’t need to accumulate huge amounts of reserves that could be better used for investment and development in their own country.”
Some agree. “The IMF makes a compelling case that, given the size of its bank and the changing nature of its tools and programmes, countries no longer need excessive reserves,” says Adams.
“A number of countries in Asia and Latin America have pursued reserve accumulation as a way to self-insure while others have accumulated them as a result of other policies. Most have probably surpassed what is an optimal level of reserves.”
Others are sceptical about whether the IMF’s ability to lend more money and on easier terms will influence emerging market reserves. “I don’t think beefing up IMF resources will have much impact,” says Erb. “Many factors influence reserve decisions, including domestic economic and exchange rate policies.”
Says Uzan: “We have not seen countries reducing their reserves. On the contrary we might see countries building reserves. We might be going back to the model before the crisis, where the US will continue to run a current account deficit and these countries will continue to pursue that model, when what is needed is dollar depreciation and increased US exports.”