IMF adapts and underpins legitimacy
Fund has overhauled its approach over 20 years of crisis management
by Mark Sobel in Washington
Thu 27 Sep 2018
The two decades since the Asia financial crisis have not been easy for the International Monetary Fund. It grappled with the rise of China and emerging markets, and the 2008 financial crisis. Then it faced Europe's crisis, including the Greek saga.
During this tough period, the IMF has adapted its economic thinking, underpinned its legitimacy and repaired relations with Asia. This reflects the hard work and creativity of the Fund's staff and leadership of Managing Director Christine Lagarde and First Deputy Managing Director David Lipton.
The huge growth in China's trade surpluses and reserves gave rise to allegations of Chinese currency manipulation. The IMF, created to prevent beggar-thy-neighbour policies, responded with remarkable timidity. Or, as stated by Tim Adams, under secretary for international affairs at the US Treasury between 2005-07, the Fund was 'asleep at the wheel'. Despite that, recognising the growing weight of China and other developing economies on the global stage, the Fund's membership moved to expand emerging market voting power. This was achieved through quota increases negotiated in 2006, 2008, and 2010 (though China has further to go).
Following the 2008 financial crisis, the IMF stepped into its traditional role as first responder, supporting many members, and developed a crisis-prevention instrument. Led by the US, members contributed more than $500bn to expand the Fund's emergency backstop, and many provided bilateral loans. Low post-crisis growth was hardly the Fund's fault, though IMF fiscal and monetary policy orthodoxy proved somewhat unhelpful in the wake of the crisis. That at least was the case until Olivier Blanchard, the IMF's chief economist between 2008-15, came forward with more creative solutions. The Fund developed the 'institutional view', condoning capital flow measures in certain circumstances.
The European crisis had fewer positive outcomes. The Irish, Portuguese and Cypriot programmes went well. But absent exchange rate flexibility, euro area programmes turned to internal devaluation and fiscal austerity at a time of low global demand. With massive German surpluses and restrictive policies, the euro area's deflationary bias intensified. The Fund never found its voice on this topic
Greece proved tumultuous. The IMF correctly backed Athens in 2010 to help avoid massive global contagion and in 2012 to support private debt restructuring. But national reform vacillated, and retreated when Prime Minister Alex Tsipras came to power in January 2015. In the light of poor Greek performance and unsustainable debt, in addition to German-imposed long-run financing terms requiring unrealistic assumptions about Greek growth and austerity-laden primary surpluses, Lagarde cut off IMF funding for Greece. While relations with Europe were frayed, the Fund prioritised technical realism.
Operationally, the Fund overhauled its work. The last two decades saw it shift from an organisation shrouded in secrecy to one basking in sunlight, mirroring the revolution in central bank transparency.
Given that financing high debt can easily lead to inflation and/or debt distress, it is inevitable that the IMF 'is mostly fiscal'. The IMF can still be overly orthodox on fiscal policy. That said, its work on fiscal space and debt sustainability has substantially strengthened. In the past, the Fund turned something of a blind eye to how countries achieved fiscal targets, leading to charges of austerity. Now, the Fund demonstrates much greater sensitivity to the distributional consequences of fiscal policy and protecting social safety nets for the poorest.
On monetary policy, the Fund has often promoted inflation-targeting and strengthened countries' capacity to conduct open market operations. It is also more supportive of exchange rate flexibility to target external balance. The External Sector Report is a welcome advance, though politics occasionally still seems to intrude into the realm of unbiased analysis.
The Fund is more cognisant of the interplay of governmental, corporate and private balance sheets. It is extensively involved in bank restructuring and in evaluating financial sectors and adherence to global standards through its Financial Sector Assessment Programme. Work on macroeconomic financial analysis is now routine. Meanwhile, the Fund's legal staff has plunged into corporate governance and insolvency issues.
The IMF is also focused squarely on fighting corruption in its surveillance and programme work. It has ramped up efforts on combating money laundering and introduced novel corruption-fighting conditions, as seen in the Ukraine programme.
On sovereign debt, the Fund rightly emphasised the need for placing more pressure on the private sector to assume the risks inherent in its lending and avoid the IMF inordinately shouldering unsustainable debt. This must be balanced against treading cautiously with countries facing debt distress and preserving flexibility to fight contagion.
For low income countries, the Fund provided massive debt relief through its Heavily Indebted Poor Countries and Multilateral Debt Relief Initiatives. Interest rates for recent IMF lending to low income countries have been set at zero. It can no longer be argued that lending by the Fund and traditional official creditors create a debt overhang.
Significantly, the Fund now makes utmost efforts to act as a partner to countries, not a stern taskmaster. It realises that working with countries and letting them 'own' their policies is a better recipe for success than playing the role of scapegoat. How the IMF continues to evolve in the light of a changing global geopolitical landscape, which I will address in the final article in this series, will decide how effective it will be in providing support for the next 20 years.
Mark Sobel is US Chairman of OMFIF. This is the second in a series of three articles on the International Monetary Fund since the 1997-98 Asian financial crisis. The fist was published on Wednesday 26 September. The final article will appear on Friday 28 September.
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