The International Monetary Fund just released its flagship 2025 External Sector Report. Despite much to praise, this report is a missed opportunity, highlighting major flaws in the Fund’s external and exchange rate work.
The ESR was launched over a decade ago against the background of IMF efforts to strengthen its multilateral surveillance amid deep concerns – especially in the US – about the Fund’s timidity in rendering judgments on exchange rates and excess reserve accumulation, particularly regarding China.
With global imbalances forcefully back on the international economic and financial agenda, one could have hoped for a more incisive report. To the ESR’s credit, it is replete with copious data and charts on external developments and exchange rates. But while its analysis is informative, the Fund continues to regrettably shrink from tough judgments.
‘Global imbalances’
The report rightly focuses on the US, China and some European Union countries as main drivers of global imbalances, given their large current account imbalances and systemic weight. It well highlights the unfortunate growth in excess imbalances.
Massive US dissaving reflected in America’s reckless fiscal policies, is a main culprit, notwithstanding the current US Treasury’s desire to use ‘global imbalances’ as a moniker for focusing on China. The Fund regrettably pulls its punches when it comes to US fiscal and trade policies, though it commendably focuses on the costs of ‘fragmentation’ reflecting the excellent work of its Research Director, Pierre-Olivier Gourinchas.
Germany’s fiscal U-turn is potentially a positive development for reducing global imbalances.
The ESR’s analysis of China is the most glaring weakness.
China’s current account data are notoriously unreliable. As has been pointed out by the Fund, US Treasury and many analysts, including Brad Setser, China’s 2024 current account surplus was 2.3% of GDP using balance of payments statistics, but 3.5% using customs data.
Given the country’s surging exports and reliance on external demand, there are good reasons to accord considerable weight to the customs data. China’s 2024 trade surplus was above 5% of GDP.
In addition, and again as observed by the IMF, US Treasury and analysts, China’s income balance data don’t add up. For a country with persistently large current account surpluses and an increasing net international investment position, let alone with rising US interest rates, one would expect a stronger income balance. China’s 2024 income balance was reportedly in deficit by -0.7% of GDP.
Using the customs-based current account surplus and assuming an income balance closer to zero, one could well imagine that China’s current account surplus in 2024 was on the order of 4+%, not the 2.3% figure the IMF uses. That difference translates into roughly a whopping $325bn.
‘Statistical complexities’
Such enormous differences could substantially alter estimates about current account norms and exchange rate valuations – not only for China but also for others given the ESR’s multilaterally consistent framework.
The ESR could have been substantially stronger had the Fund, rather than describing these statistical complexities, taken a stance on them and provided alternative current account gap and exchange rate valuation estimates based on these data points.
These data points also bring into question the Fund’s policy recommendations on China. The Fund correctly recommends a more expansionary fiscal policy and structural reforms to support consumption. But it also recommends monetary easing alongside both fiscal and structural policies without ‘unduly’ relying on the exchange rate when depreciation could exacerbate external imbalances.
The Fund’s call for monetary easing warrants scrutiny. China doesn’t suffer from a dearth of investment. To the contrary excess investment funnelled by state owned commercial banks into state-owned enterprises finances much of China’s overcapacity, which is now flooding global markets.
Figure 1. Renminbi has weakened enormously in past years
Real broad effective exchange rate for China
Source: Bank for International Settlements via FRED
Using the Fund’s balance of payments based on 2.3% current account surplus, the ESR estimates that the renminbi is undervalued by 8.5%. That figure would have been far higher using a surplus based on customs and modified income balance data.
China hardly needs further competitiveness. As the Fund acknowledges, monetary easing will tend to depreciate the currency. The IMF can’t have it both ways. It needs to tread far more cautiously on its monetary policy recommendation. Another ESR weakness relates to the calculated current account norms (Figure 2).
Figure 2. Structural factors combined to derive current account norms
External balance assessment current account norms, 2024, GDP, %
Source: Figure 1.18 in July 2025 IMF External Sector Report
Putting to the side subjectivity regarding ‘desirable’ policies, the net foreign asset variable merits attention. Perennially persistent current account surplus countries, such as Germany, Japan and Switzerland, have large positive NFA positions given cumulating surpluses. The NFA variable, while it may improve the model’s fit, could become self-reinforcing in higher norms, contrary to tackling global imbalances.
This ESR includes an interesting chapter on the dollar and emerging trends in the international monetary system. It is well-written, though not ground-breaking. The paper oft refers to the dollar’s purported ‘exorbitant privilege’. Some in Donald Trump’s administration have suggested the dollar bears an exorbitant burden with its global financial dominance causing overvaluation resulting in trade deficits and hollowing out US manufacturing. Other analysts have suggested dollar dominance is a net plus, but with distributional consequences. Given this debate, the IMF should take a clear stance on whether the dollar conveys an exorbitant privilege.
This year’s ESR is insightful and reflects the Fund’s continuing focus on external policy and exchange rate analytics. But the IMF continues – regrettably – to shy away from rendering sufficiently crisp and tough judgments on these issues, even though the Fund was created in the 1940s precisely to do so.
Mark Sobel is US Chair of OMFIF.
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