9-708-035 REV: NOVEMBER 15, 2011 RAWI ABDELAL DAVID MOSS EUGENE KINTGEN The International Monetary Fund in Crisis The central role of the International Monetary Fund (IMF) as crisis manager in the international financial system was the result of deliberation among the delegates of 44 countries to an intergovernmental conference in 1944. The meeting, which took place at a ski resort in Bretton Woods, New Hampshire, established the institutional foundations for the postwar world economy. At the time, policymakers shared a common vision: the creation of a new order that could avoid the financial crises, disrupted commerce, wild exchange rate movements, and political instability of the previous quarter-century. By almost any conceivable measure, that original vision had helped produce an era of extraordinary economic progress. The world economy, and the countries whose economic practices comprised it, flourished, so much so that a new great era of globalization had emerged. Like the last era of globalization, circa 1870 to 1914, the modern system led to deep economic integration. The IMF had played an important part in promoting that integration. Although the primary task of the IMF had originally been to oversee the proper functioning of the system of fixed exchange rates that was the hallmark of the early postwar years, the organization continued to reinvent its role. The exchange rate system broke down in the early 1970s, and so the Fund began to find new ways to contribute to the stability and growth of the world economy. The IMF’s resources had always been available to any of its members in need of temporary financing to meet their external obligations, most often for the import of goods and services—that is, for transactions on the current account. Over time, the IMF’s membership grew, and so did members’ financing needs. Many countries increasingly liberalized financial transactions across their borders— in other words, they opened their capital accounts. With that liberalization came the great promise of a world of free capital movements, but also financial crises that came on quickly and could often be severe. By the end of 2007, the IMF oversaw a world transformed: near-universal membership of 185 countries, systemwide floating exchange rates, and capital mobility. The management of the IMF—its managing director and executive board—might have looked with great satisfaction at the system it oversaw. Yet in early 2008 the IMF was experiencing a crisis of its own. Although a financial crisis born of the meltdown in subprime mortgage lending in the United States continued to unfold, the IMF, with little leverage over U.S. policymaking, was powerless to influence its development. Another important challenge facing the world economy—the imbalance between the gigantic American current account deficit and dollar reserve accumulation by developing countries—seemed equally ________________________________________________________________________________________________________________ Professors Rawi Abdelal and David Moss and Research Associate Eugene Kintgen prepared this case. This case was developed from published sources. HBS cases are developed solely as the basis for class discussion. Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. Copyright © 2008, 2011 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-5457685, write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Harvard Business School. This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis beyond its ken and control. After a series of devastating financial crises during which countries such as South Korea, Russia, Brazil, and Argentina sought IMF financing as a last resort, the Fund had, by 2008, not made a major loan to a member in six years. And when the IMF did not lend, it also did not earn; its income stream thereby dried up. The IMF’s archaic governance structure, basically unchanged since 1944, was widely seen as illegitimately giving disproportionate influence to the United States and Europe. To avoid slipping into obscurity, the IMF needed to increase its relevance and legitimacy. Dominique Strauss-Kahn—a French Socialist, economist, and erstwhile finance minister who became the IMF’s 10th managing director in late 2007—had his work cut out for him. The Formation of the IMF In the first half of 1942, John Maynard Keynes, the honorary adviser to the British Treasury, and Harry Dexter White, the U.S. assistant to the secretary of the treasury, submitted two separate plans to establish an international body that would eliminate the kind of currency manipulation that had been prevalent in the 1920s and 1930s. During the interwar period, countries systematically devalued their currencies to enhance the appeal of their exports and undercut the economies of nations that produced similar products.1 While such policies might have supported domestic employment in the short run, the pattern of devaluation and retaliation took on a life of its own, with severe long-term consequences for the global economy.2 By the latter years of the war, it seemed clear to nearly all influential policymakers that floating exchange rates had worked poorly over the previous two decades, and Keynes and White both hoped to establish a well-defined value for each currency; provide for unrestricted conversion of currencies for current (generally trade-, transfer-, and serviceincome-related) transactions; and encourage productive capital flows (as opposed to speculative flows, which were seen as destabilizing).3 The plans submitted by Keynes and White underwent numerous revisions as the debate unfolded. Of White’s plan Keynes remarked, “Seldom have I been simultaneously so much bored and so much interested,” and indeed though the writing was dry, the stakes were enormous.4 A series of meetings between American and British officials from September 15 to October 9, 1943, resulted in the release of the first draft of the “Joint Statement by Experts of the Establishment of an International Monetary Fund.”5 Delegates from 44 governments congregated in Bretton Woods, New Hampshire, from July 1 to July 22, 1944, to discuss the proposals for the creation of such a fund. The U.S. treasury secretary, Henry Morgenthau, was chosen as the permanent president of the conference, which was divided into three commissions. The first commission, led by White, focused on the International Monetary Fund; the second, chaired by Keynes, dealt with the International Bank for Reconstruction and Development; and the third, headed by Mexican Finance Minister Eduardo Suárez, dealt with other means of international financial cooperation.6 Ultimately, the conference chose a format for the IMF that was very close to White’s initial proposal. The IMF Agreement’s Introductory Article defined the six guiding principles of the Fund: 1. To promote international monetary cooperation through a permanent institution which provides the machinery for consultation and collaboration on international monetary problems. 2. To facilitate the expansion and balanced growth of international trade, and to contribute thereby to the promotion and maintenance of high levels of employment and real income 2 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 708-035 and to the development of the productive resources of all members as primary objectives of economic policy. 3. To promote exchange stability, to maintain orderly exchange arrangements among members, and to avoid competitive exchange depreciation. 4. To assist in the establishment of a multilateral system of payments in respect of current transactions between members and in the elimination of foreign exchange restrictions which hamper the growth of world trade. 5. To give confidence to members by making the general resources of the Fund temporarily available to them under adequate safeguards, thus providing them with opportunity to correct maladjustments in their balance of payments without resorting to measures destructive of national or international prosperity. 6. In accordance with the above, to shorten the duration and lessen the degree of disequilibrium in the international balances of payments of members.7 The Articles of Agreement specified that the “Agreement shall enter into force when it has been signed on behalf of governments having sixty-five percent of the total of the quotas set forth in Schedule A.”8 (The original quotas are presented in Exhibit 1.) U.S. President Harry Truman signed the Bretton Woods Agreement Act on July 31, 1945, and 34 more countries signed by the end of the year.9 The board of governors of the IMF held its inaugural meeting in Savannah, Georgia, on March 8, 1946. These governors adopted by-laws, selected the first executive directors, and decided that the Fund’s headquarters would be in Washington, D.C.10 Harry White was the United States’ first executive director of the Fund and served as acting managing director until the post of managing director was created in May. At this time, the 39-member IMF commenced its operations. Governance of the IMF The IMF’s two most important bodies were the board of governors and the executive board. The board of governors determined the quotas of member countries and decided whether to admit new members. Each member country had one governor on this board, but the voting power of the governors varied widely. Member countries got the same number of basic votes, but these votes made up only slightly more than 2% of the Fund’s total weighted votes by late 2007. The remaining 98% of the votes were allocated according to countries’ quota size, which was calculated by determining the size of a country’s economy (in market exchange rates) and the volume of its international trade. The board of governors delegated certain powers to the executive board, which managed the IMF’s daily operations. As of late 2007, the executive board consisted of 24 members, 8 of whom were appointed by individual members (the United States, Japan, the United Kingdom, Germany, France, Saudi Arabia, China, and Russia) and 16 elected by groups of countries. These 24 members derived their voting power from the number of votes allocated to the countries that selected them. The executive board was led by a managing director, who was elected by the board but was not permitted to vote (except in the case of a tie). Every managing director selected by the executive board was a citizen of Western Europe. (For a list of the IMF’s managing directors, see Exhibit 2.) The executive board attempted to establish unanimous support before making a decision, but, according to the IMF’s rules and regulations, if there was disagreement among its members, the chair (the managing director when present) would “determine the sense of the meeting, in lieu of a formal vote.”11 This was done not by deciding if more than 12 of the 24 directors were in favor of a decision, 3 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis but by determining if the decision would have the support of more than half of the board’s total weighted votes. Since developed countries (European Union states plus the United States, Japan, Canada, and Australia) controlled more than half of these weighted votes, unanimity among the developed countries was generally sufficient to push through a decision. This could sometimes result in an outcome opposed by 16 of the 24 executive directors.12 In practice, the board hardly ever voted, instead relying on the judgment of the managing director to gauge support, broker deals, and assuage the concerns of members. The Fund’s Evolution The Bretton Woods system relied on the IMF to manage a system of fixed exchange rates. The dollar served as the IMF’s core currency, and exchange rates were “fixed but adjustable.”13 Countries were allowed to alter their exchange rates, but any significant changes had to be approved by the IMF.14 Member states deposited a portion of their gold and foreign currency reserves (mostly held in dollars) at the Fund, and these assets were made available to states experiencing shortfalls in meeting their external obligations.15 Thus the first line of the IMF’s defense was to lend a member experiencing a temporary shortfall foreign currency. If it turned out that the imbalance was likely to last longer, then the country might also devalue its currency. The IMF focused on managing countries’ current accounts, and states were permitted to “exercise such controls as are necessary to regulate international capital movements.”16 During the early postwar years, the vast majority of cross-border exchanges were conducted for current account transactions. The Fund began to lend money one year after commencing its operations in 1946. France became the first country to draw on the IMF when it borrowed $25 million in May 1947.17 Over the next few months, the IMF disbursed loans to Chile, Mexico, the Netherlands, and the United Kingdom.18 IMF membership soon increased significantly, and the Fund worked closely with member countries that needed to adjust their exchange rates or draw on Fund resources to help manage temporary current account crises. The system appeared to be working quite well, especially after full convertibility of currencies was achieved in the late 1950s, but it put tremendous pressure on the American dollar.19 The United States ran a balance-of-payments deficit throughout the 1950s and 1960s, which provided the rest of the world with liquidity but threatened to decrease the value of the dollar (since the amount of gold discovered failed to keep pace with the amount of dollars issued by the United States). In 1971, U.S. president Richard Nixon announced that the United States would no longer exchange dollars for gold at the established rate of $35/ounce, but that gold would henceforth be available only on the open market. The United States devalued its currency 4 months later by 8.57%, and 14 months later devalued it by another 10%. In the first months of 1973, the currencies of the major industrialized members of the IMF were allowed to float freely.20 Because one of the central reasons for the existence of the IMF had been to manage the fixed exchange rate system, generalized floating threatened the organization with irrelevance. The years following Nixon’s announcement were “characterized by international monetary arrangements in which no members were performing their exchange rate obligations in accordance with the Fund’s Articles.”21 The Fund was therefore forced to reinvent itself. The much-debated Second Amendment, which was submitted to members in April 1976 but did not garner enough support to take effect for nearly two years, significantly redefined the IMF’s mission.22 This amendment enabled members to adopt floating rates if they so desired but gave the Fund the power to “exercise firm surveillance over the exchange rate policies of members and . . . adopt specific principles for the guidance of all 4 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 708-035 members with respect to those policies.”23 It also set a course to reduce the importance of gold in the international financial system and modernized the Fund so that it could adapt to future changes in this system.24 By the late 1970s, the IMF was concerning itself more with making loans to its members than with ensuring the smooth operation of the international monetary system.25 However, those loans differed greatly from the ones advanced over the previous decades. Instead of advancing temporary loans to both developed and developing countries experiencing temporary current account crises, the Fund increasingly advanced long-term loans to developing countries to promote economic growth.26 (For more on this shift, see Exhibit 8.) Private bank loans to developing countries—particularly to Latin American countries—also increased significantly at this time. However, when interest rates rose sharply in the early 1980s, many developing countries found themselves unable to meet their obligations to private lenders. After Mexico announced it would no longer be able to service its debt in August 1982, most commercial banks refused to advance new loans to developing countries or to roll over those countries’ existing obligations. The debt crisis threatened to erupt into a financial catastrophe, but the IMF worked with both at-risk countries and their creditors to contain the situation. The Fund adopted a case-by-case approach that generally forced countries to renegotiate their debts with their private creditors, promoted the adjustment of countries’ economic policies, and helped arrange for additional lending where necessary. The IMF itself provided only limited lending to the affected countries at the time.27 The effects of the debt crisis and the policy adjustments that indebted countries adopted as a result occupied the Fund for the remainder of the decade. The IMF once again found itself reacting to a crisis in late 1994. When Mexico was forced to abandon its long-standing currency peg, capital poured out of the country and the peso collapsed. Over the course of 1994, Mexico’s foreign currency reserves had dwindled as investors who purchased dollar-denominated government bonds began liquidating their investments. Political instability increased investors’ fears, and in late December the newly elected Mexican government announced a 15% devaluation of the peso. Foreign investors immediately cashed in their government bonds for dollars, which reduced the Mexican government’s foreign exchange reserves by nearly half over the course of one day.28 Less than a week later, the new government had little choice but to let go of the currency’s peg.29 The peso fell dramatically against the U.S. dollar, and a credit crunch ensued. The IMF, working with the U.S. government and the Bank for International Settlements, quickly provided a financial package that helped stabilize the situation and prevent contagion, which was widely feared. The peso crisis differed significantly from the debt crisis of the 1980s, and the Fund responded accordingly. Because Mexico’s most troubling obligations were owed to diverse foreign investors, it was not possible to arrange a meeting at which the Mexican government and its creditors could renegotiate the country’s debt. With portfolio capital, not bank lending, at the heart of the crisis, the IMF’s then managing director, Michel Camdessus, labeled it the “first financial crisis of the twentyfirst century.”30 To support the peso and bring some order to the chaos, the IMF quickly offered $18 billion (at that time, the largest loan disbursed by the Fund); the U.S. government, $20 billion; and the Bank for International Settlements, $10 billion. The Mexican government adopted a tight monetary policy, and after a very steep decline the economy eventually rebounded, enabling the government to repay its debts to the United States ahead of schedule. Indeed, the international community’s intervention in the peso crisis was widely viewed as a success. Following the Fund’s intervention in 1994–95, many at the IMF felt the organization had found its new calling—namely, to help manage capital account crises. When it was suggested that a safety net 5 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis be created to prevent future crises, Camdessus declared that “the safety net already exists, and it is called the International Monetary Fund.”31 In 1997–98, the Fund attempted to stabilize the East Asian crisis by offering aid packages to Thailand, Indonesia, South Korea, Brazil, and Russia that totaled nearly $70 billion and at the same time insisting on far-reaching macroeconomic and institutional reforms for the countries involved. (See Exhibit 3 for the amounts of the rescue packages.) The Fund had certainly flexed its muscles, but many questioned the effectiveness of its measures, setting off a vigorous debate about the IMF’s ability to contain future crises. An International Lender of Last Resort? As the IMF advanced large aid packages to countries experiencing crises in the 1990s, many observers began to view the Fund as the international analog to a domestic lender of last resort (LOLR). At the domestic level, central banks were often thought to play a vital role in mitigating potential financial crises, injecting liquidity as needed in a panic (or a looming panic) to help stabilize illiquid but fundamentally solvent banks. Many economists attributed the LOLR concept to the 19th-century British economist (and longtime editor of the Economist) Walter Bagehot, whose 1873 book Lombard Street explained how and why a central bank should play this role in the time of financial turmoil. In 1986, economist Allan Meltzer summarized Bagehot’s main recommendations as follows:  The central bank is the only lender of last resort in a [domestic] monetary system. . . .  To prevent illiquid banks from closing, the central bank should lend on any collateral that is marketable in the ordinary course of business when there is no panic. It should not restrict lending to paper eligible for discount at the central bank in normal periods.  Central bank loans, or advances, should be made in large amounts, on demand, at a rate of interest above the market rate. This discourages borrowing by those who can obtain accommodation in the market.  The above three principles should be stated in advance and followed in a crisis.32 Nowhere did Bagehot state that a lender of last resort had the responsibility to save insolvent financial institutions, and there was good reason for this.33 If all poorly managed banks were fully insured against failure, there would be little incentive for their managers to lend responsibly. For this reason, a number of modern economists promoted a fifth guiding principle, namely, the following: Insolvent financial institutions should be sold at the market price or liquidated if there are no bids for the firm as an integral unit. The losses should be borne by owners of equity, subordinated debentures, and debt, uninsured depositors, and the deposit insurance corporations, as in any bankruptcy proceeding.34 In the United States, it was the responsibility of the Federal Reserve (the nation’s central bank) to address liquidity crises, but it was up to the Federal Deposit Insurance Corporation (FDIC) to deal with insolvency in the banking system. If a bank failure appeared imminent, the FDIC would attempt to find another institution willing to merge with the ailing bank. If it was unable to find a suitable partner and there was no way to save the distressed institution, the FDIC would liquidate it and reimburse the depositors up to $100,000 per account. 6 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 708-035 While the FDIC could close down poorly managed banks that were unable to make good on their obligations, the IMF was clearly unable to close down or take over distressed countries, even when bad management seemed obvious. In the wake of the Asian crisis, some economists argued that the Fund could not act as an international lender of last resort for this reason, while others asserted that the IMF was well suited to the role of crisis management and could effectively step in to help stabilize ailing economies and prevent contagion. The Case for the IMF as an International Lender of Last Resort In early 1999, the IMF’s first deputy managing director, Stanley Fischer, presented a paper titled “On the Need for an International Lender of Last Resort” to the American Economic Association and the American Finance Association. He argued that such an institution was needed “because international capital flows are not only extremely volatile but also contagious” and that “the IMF is increasingly playing that role.”35 Fischer concluded that the IMF was best positioned to act as an international lender of last resort. Fischer’s argument was based on his analysis of Bagehot’s formulation of how an LOLR should perform. Unlike a central bank, the IMF could not freely issue its own currency, but it did have the capacity to make the large loans needed to mitigate a crisis and prevent its spread. Furthermore, Fischer claimed that the organization’s Emergency Financing Mechanism enabled the Fund to act quickly during a crisis. He also discussed at length the moral hazard associated with the Fund’s assuming the role of international lender of last resort, and favored the formulation of a system through which countries could prequalify for rescue packages at lower interest rates by following the Fund’s policy advice.36 Fischer’s view that the IMF could effectively operate as an international lender of last resort was supported by other prominent economists. William R. Cline, a senior fellow of both the Peterson Institute for International Economics and the Center for Global Development, argued that the IMF’s interventions were generally successful. In an analysis of the eight major IMF bailouts, Cline stated that six achieved their aim.37 For Cline, success was most simply defined as a decreased risk of contagion to other economies, and he attempted to demonstrate that this risk declined significantly following IMF intervention in the six successful cases.38 The Case against the IMF as an International Lender of Last Resort At the same time, a considerable number of economists argued that the IMF was poorly suited to fulfill the role of international lender of last resort. Lawrence McQuillan, then a fellow at the Hoover Institute, stressed the obvious fact that the IMF could not create money at will, which meant that its lending capacity was inherently limited in a crisis.39 Furthermore, the International Financial Institutions Advisory Committee to the U.S. Congress (a body of economists who in 2000 submitted a report highly critical report of the IMF, hereafter referred to as the Meltzer Report, after its chair, Allan Meltzer) criticized the Fund for acting too slowly to mitigate liquidity crises effectively. The Meltzer Report also argued that IMF rescue packages distorted incentives and likely increased the probability of future crises.40 The Bank of England’s international financial policy advisers Gregor Irwin and Chris Salmon also questioned the Fund’s ability to act as an international lender of last resort, contending that IMF packages had “generally failed to bring about the expected private-sector reactions.”41 The Fund documented that net capital flows to crisis countries were significantly lower than expected following 7 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis IMF bailouts. As a result, those countries had to either make more significant adjustments to their current accounts than expected or accept further loans from the Fund in order to achieve a balanceof-payments equilibrium.42 Critics cited this as evidence that rescue packages failed to achieve their short-term goals and left the countries further indebted than initially anticipated. Finally, the critics argued that the IMF could not sufficiently punish countries for getting into financial trouble. Bagehot’s LOLR formulation held that solvent banks facing liquidity problems should be allowed to borrow, but at penalty interest rates. By contrast, countries experiencing similar liquidity problems were usually offered IMF rescue packages with interest rates lower than those available in the private sector. Challenges of Financial Globalization Clearly, the practices of the international financial system in the 21st century differed profoundly from those that prevailed in the 1950s and 1960s. In place of systemwide fixed exchange rates, the vast majority of countries faced no external obligation to fix the value of their currencies (though many did so informally in any case). Regional arrangements—such as the European Union (EU) and the North American Free Trade Agreement—complemented the World Trade Organization in promoting current account liberalization. The EU and the Organization for Economic Cooperation and Development (OECD), moreover, obliged their members—many of the richest, most developed countries in the world—to maintain open capital accounts. The new era was marked not only by freer trade but also by financial openness and thus far freer capital flows. With such financial globalization came enormous managerial challenges for the IMF. Crises were more severe. The speed with which crises emerged seemed to oblige the Fund to depart from its traditional deliberate, measured reactions. The complexity of borrowers’ economic problems, which were hardly the temporary current account shortfalls originally envisioned by Keynes and White, led the Fund to explore ever more intimate, even intrusive, solutions. And, perhaps most challenging, with jurisdiction over only the current account policies of members, the IMF appeared less and less relevant to what many within the organization called a capital account world. Lending into Arrears Originally, the IMF refused lend to a country that had fallen behind on its payments to private foreign banks and had not worked out agreements with those banks to settle its arrears. Representatives of the lending banks and the indebted country would meet to discuss restructuring packages, and when approximately 90% of the debt had been restructured, the IMF would step in with a loan.43 This was seen as an effective program so long as the banks recognized, the IMF said, “that cooperation in the financing of Fund-supported programs was in their self-interest.”44 The IMF’s refusal to lend to countries in arrears effectively forced those countries to arrange for the payment of their old debts before obtaining additional IMF funds. However, by the late 1980s, banks became increasingly reluctant to settle with debtor countries, which had the effect of preventing the Fund from providing timely financial support to countries in arrears. In 1989, the IMF modified its arrears policy to prevent commercial banks from blocking Fund support to countries in crisis. The terms of this new policy held that Fund lending to countries in arrears to commercial banks could take place when 8 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 708-035 1. prompt Fund support was considered essential for the successful implementation of the member’s adjustment program; 2. negotiations between the member and its commercial bank creditors on a restructuring had begun; 3. it was expected that a financial package consistent with external viability would be agreed within a reasonable period.45 Over the next decade, as the composition of capital flowing to emerging market economies changed considerably, the IMF again revised its policy on lending to countries in arrears. By the mid to late 1990s, international bonds had replaced bank loans as the standard financing strategy for sovereign countries’ fiscal deficits.46 While the IMF had permitted itself to lend to countries that had not yet renegotiated their debts to commercial banks, it had no provision allowing it to lend to countries still in arrears to their bondholders. This change was finally made in 1998. The new policy stated that lending into arrears would occur only in cases where “there were firm indications that the sovereign borrower and its private creditors would negotiate in good faith on a debt restructuring plan.”47 The Fund later realized that coordination problems and bondholder hesitancy to discuss debt restructuring policies could delay the onset of negotiations, and thus prevent IMF participation. Accordingly, in 1999 the IMF modified its stance yet again to allow loans to countries that were making good-faith efforts to reach mutually acceptable agreements with their creditors. Those who supported the Fund’s policy of lending into arrears maintained that it effectively prevented creditors from shutting out the IMF and hindering debtor countries’ macroeconomic adjustment plans. Opponents, on the other hand, argued that it significantly improved debtor countries’ bargaining positions and enabled them to neglect the legitimate concerns of existing bondholders. Moreover, after IMF loans were in place, governments generally treated the Fund as a preferred creditor during economic recovery by allocating scarce foreign exchange to repaying the organization and lamenting to private creditors that not enough money was available for them, too. The Evolution of Conditionality Yet another controversial topic at the IMF involved conditionality, which the Fund defined as “the link between the approval or continuation of the Fund’s financing and the implementation of specified elements of economic policy by the country receiving this financing.”48 Such linkage, or conditionality, had evolved greatly since the IMF’s early years and was one of the most contentious aspects of Fund practice at the turn of the 21st century.49 The earliest IMF loans simply required borrowing countries to repay the debt according to an established schedule of repayments.50 There were no other conditions. The IMF’s first conditional loan occurred in 1954, when Peruvian authorities agreed that they would not draw on the Fund if they subsequently failed to meet certain conditions.51 A decade later, most IMF packages were accompanied by performance criteria, meaning that countries would lose borrowing privileges if they failed to meet certain criteria.52 Facing criticism for the large number of performance criteria (up to 15) that accompanied loans, in 1968 the Fund established the following principle: Performance clauses will cover those performance criteria necessary to evaluate implementation of the program with a view to ensuring the achievement of its objectives, but no others. No general rule as to the number and content of performance criteria can be adopted in view of the diversity of problems and institutional arrangements of members.53 9 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis Eleven years later, the Fund officially established guidelines for the use of performance criteria that echoed the 1968 principle, and those guidelines were reconfirmed in 1988.54 The Fund generally attached few conditions to its loans during the late 1970s and early 1980s, and many directors from developed countries argued that such practices undermined the effectiveness of the loan packages. Without obliging governments to try to change the policies or institutions that had led to the need for a loan in the first place, the IMF might not, the directors believed, be helping to solve the original problems.55 The number of conditions attached to Fund loans increased dramatically during the 1990s and peaked in 1997–98, when aid packages to Thailand, South Korea, and Singapore included 73, 94, and 140 structural conditions, respectively.56 (See Exhibit 5 for a graph showing the increase in IMF conditionality.) The increase in conditionality had a number of root causes. Perhaps the most basic one related to a new interpretation of the Fund’s mandate that focused on promoting long-term economic growth instead of simply encouraging monetary cooperation and the expansion of trade. As lending to developing countries increased in the early 1980s, it became apparent that the borrowing countries would need repeated loans to sustain economic development. Indeed, it was not at all clear that the financing needs of developing countries were the result of temporary disequilibria. The problems appeared to be more fundamental. The IMF thus adopted a new approach, lending at lower interest rates with more conditions attached. Proponents believed that these conditions would help push developing countries in the right direction. Some even argued that IMF conditionality provided politicians with an excuse to undertake unpopular policies that they recognized were crucial for macroeconomic stabilization and sustained economic growth.57 Critics, meanwhile, raised numerous objections to the Fund’s expanded use of conditionality. Economist and former IMF Deputy Director of the Research Morris Goldstein outlined five common criticisms: 1. Countries fear the conditions attached to IMF loans so much that they only come to the IMF for assistance late in the day, when earlier action could have better mitigated their problems.58 2. Insistence on structural changes scares off private investors, who lose confidence when the IMF questions the viability of the country’s economy.59 3. The IMF imposes strict conditionality on weaker developing countries, but has no such power over more developed countries. This undermines the Fund’s credibility.60 4. The Fund wasn’t designed to make political recommendations, and a focus on conditionality distracts the IMF from its original purpose of dealing with macroeconomic questions and crisis management.61 5. Larger number of conditions increases uncertainty facing borrowing countries and lowers the probability that they will comply with the Fund’s recommendations. It also makes it more difficult to judge whether the countries are making a good effort to implement these changes.62 The Debate over Capital Account Jurisdiction At the same time that the IMF was revising its policies on arrears and conditionality, it was also radically changing its stance on member states’ capital account policies. Article VI of the original Articles of Agreement stated that “members may exercise such controls as are necessary to regulate 10 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 708-035 international capital movements,” thus enabling countries to establish their own systems of capital controls. However, many IMF officials gradually came to believe that capital controls were counterproductive and hindered economic growth. Michel Camdessus, the French managing director of the Fund from 1987–2000, witnessed the failure of capital controls in France in the 1980s and concluded that such controls only constrained the investments of the poor. Wealthy investors devised sophisticated approaches to evade capital controls, and Camdessus argued that the risks of free capital flows were less problematic than a system of controls that only constrained less affluent individuals.63 Under Camdessus’s leadership, the IMF thus recommended that developing countries liberalize their capital controls, though without jurisdiction the Fund could not oblige member countries to follow its advice.64 The managing director even went so far as to introduce an amendment that would enable the Fund to expand its powers over member states’ capital account policies. In late 1993, Camdessus approached the chairman of the Fund’s interim committee with a plan to amend the IMF’s Articles of Agreement, with the objective of giving the Fund jurisdiction over member countries’ capital accounts.65 According to IMF documents, the amendment would “establish the general rule that members are prohibited from imposing restrictions on international capital movements without Fund approval.”66 If passed, this amendment would have completely reversed the IMF’s prior official stance on the capital account: Whereas the legal presumption of the Articles as written in 1944 was that capital controls were allowed unless otherwise specified, the amendment would mean that capital controls were prohibited unless specifically approved by the Fund. The burden of proof was to be shifted; restrictions would have to be justified as deviations from openness.67 While Camdessus’s amendment did not receive much support at first, by 1997 it had secured a majority of weighted votes, though not the 85% necessary to amend the Articles. A meeting of the executive board that April revealed that 14 executive directors—representing approximately 65% of the weighted votes—spoke in favor of expanding the Fund’s influence to include jurisdiction over members’ capital accounts. The proposed amendment, however, soon encountered a number of obstacles. The election of a Labor government in Britain that May resulted in the removal of the Tory chancellor of the exchequer, Kenneth Clarke, who had been an ardent supporter of expanding the IMF’s role.68 The new chancellor, Gordon Brown, made clear that the United Kingdom would continue to support the amendment but would no longer play an active role in its progress.69 In September, the Institute of International Finance produced a briefing that expressed the skepticism of international banks regarding such an expansion in the Fund’s authority. At the same time, the Banker ran a number of articles highlighting reasons why the amendment would not benefit private financial firms.70 In spite of this criticism, the IMF’s interim committee invited the executive board to complete its work on a proposed amendment of the IMF’s Articles that would make the liberalization of capital movements one of the purposes of the IMF, and extend, as needed, the IMF’s jurisdiction through the establishment of carefully defined and consistently applied obligations regarding the liberalization of such movements.71 The executive board continued its discussions on the amendment the following spring as the Asian crisis unfolded, but support began to erode, particularly on the part of the United States.72 The final blow came in August 1998, when the Asian crisis spread to Russia. The IMF had encouraged Russia to open its government bond market to foreign investors, and many observers blamed the Fund—and its promotion of capital account liberalization—for the resulting financial crisis. Fund management and staff continued to wonder whether the capital account amendment could be revived. 11 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis Surveillance In all of the IMF’s work, a perennial question concerned the Fund’s precise role vis-à-vis member countries. IMF surveillance proved particularly sensitive in this regard. Although the original Articles of Agreement established the IMF as the overseer of the international monetary system, they did not establish an exact mechanism by which the Fund could monitor the national economic policies on which the system was based. After the Bretton Woods system of fixed exchange rates collapsed in the early 1970s, policymakers feared that countries would manipulate their currencies and engage in competitive devaluations to the detriment of all.73 As a result, the key item of the much-debated Second Amendment to the Articles of Agreement authorized the Fund to exercise surveillance over members’ exchange rate policies.74 Furthermore, the First Surveillance Decision of 1977 required all members to submit to yearly exchange rate consultations to ensure that they were not unfairly manipulating their exchange rates.75 This decision served as the guiding principle for IMF surveillance over the next 30 years. While the IMF served as an influential adviser to many countries throughout its first six decades of operation, some argued that the Fund’s inability to exercise any control over the macroeconomic policies of the United States and China in the opening decade of the 21st century severely undermined the organization’s authority. There was a simple procedural explanation on the American side: the United States always held enough votes to block any significant decision of the executive board. Major decisions required the support of 85% of the board’s weighted votes; and while America’s voting power had declined over the years, as of 2007 it still held nearly 17% of the votes, and thus effective veto power. (See Exhibit 7 for the majority thresholds for IMF decisions.) On February 23, 2005, the IMF’s managing director, Rodrigo de Rato, delivered a speech in New York that focused on the American current account deficit. While acknowledging that America’s “accommodative monetary and fiscal policies” helped prevent a downturn in the global economy in 2002–2003, he argued that the country’s growing current account deficit “cannot be sustained indefinitely.”76 By 2005, the U.S. current account deficit had surpassed 6% of GDP, a proportion often associated with the increasing risk of crisis. De Rato pointed to the necessity of also reducing the federal budget deficit and stressed that America’s fiscal policies would likely exert a serious effect on the global economy.* In the same speech in February 2005, de Rato drew attention to China’s important role in worldwide economic growth. Yet he also highlighted the implications of China’s rigid exchange rate policies, claiming “a more flexible exchange rate regime is clearly in China’s own interest.”77 The IMF (as well as the U.S. government) had for a number of years claimed that the Chinese yuan was significantly undervalued. The yuan was pegged to the dollar, which had depreciated significantly against many other currencies since 2002.78 China posted large current account surpluses and significantly increased its foreign exchange reserves from 2002 to 2007, but the real, trade-weighted value of the yuan had actually decreased over this time.79 In its 2006 Article IV consultation with China (one of the yearly consultations the IMF took with member countries as a part of its surveillance function), the Fund staff strongly urged the Chinese government to allow the yuan to appreciate in order to contribute to sustainable economic growth. The IMF also maintained that such an appreciation would help solve the global imbalances.80 * For more on the U.S. current-account deficit, see Laura Alfaro, Rafael Di Tella, and Ingrid Vogel, “The U.S. Current Account Deficit,” HBS No. 706-002 (Boston: Harvard Business School Publishing, 2007). 12 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 708-035 While Chinese officials participated in this consultation and seemed to find many of the IMF’s recommendations compelling, they did not accept the Fund’s criticisms of China’s exchange rate policies. Chinese authorities pointed out that they had allowed the yuan to appreciate as recently as 2005. They argued that allowing it to appreciate too fast could push the economy into a recession similar to that experienced by Japan in the 1990s.81 Furthermore, they claimed that the United States—not China—was mainly to blame. In June 2007, the IMF replaced the 1977 Surveillance Decision with a newer statement that more clearly defined unacceptable exchange rate policies and provided an updated framework for Fund consultations. The new decision had four guiding principles: A. A member shall avoid manipulating exchange rates or the international monetary system in order to prevent effective balance of payments adjustment or to gain an unfair competitive advantage over other members. B. A member should intervene in the exchange market if necessary to counter disorderly conditions, which may be characterized inter alia by disruptive short-term movements in the exchange rate of its currency. C. Members should take into account in their intervention policies the interests of other members, including those of the countries in whose currencies they intervene. D. A member should avoid exchange rate policies that result in external instability.82 Furthermore, the 2007 decision more concretely defined exchange rate manipulation. In its summary of the decision, the Fund staff asserted that a country would be found to be in violation of the Articles of Agreement “if the Fund determined it was both engaging in policies that are targeted at—and actually affect—the level of the exchange rate, which could mean either causing the exchange rate to move or preventing it from moving; and doing so ‘for the purpose of securing fundamental exchange rate misalignment in the form of an undervalued exchange rate’ in order ‘to increase net exports.’”83 The United States was vocal in its support of the decision, which seemed to empower the Fund to push China more vigorously to adjust its exchange rate policies. However, two months after the decision’s passage, the Fund’s Article IV consultation with the United States claimed that the dollar was overvalued by 10%–30%. This angered Treasury officials, who insisted the analysis relied too heavily on trade and overlooked the importance of capital flows.84 Furthermore, the Treasury’s deputy assistant secretary told Congress that “there is no reliable or precise method for estimating the proper value of an economy’s foreign-exchange rate.”85 The Debate over Self-Insurance While many observers debated the potential effects of the IMF’s inability to influence Chinese and American macroeconomic policies, it became increasingly clear that steadily increasing foreign reserve holdings, particularly on the part of China and numerous other developing countries following the East Asian crisis, also constituted a potentially significant threat to the Fund’s influence. (For more on increasing reserves, see Exhibit 4.) There were a number of reasons why a country might have wished to increase its foreign exchange reserves. Countries could use foreign reserves to assist in everyday transactions or to make payments to foreign creditors, including international organizations.86 Larger reserves also provided a buffer against numerous possible contingencies. Indeed, several economists (including Charles Wyplosz of the Centre for Economic Policy Research and Dani Rodrik of Harvard’s Kennedy School of Government) characterized large holdings of 13 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis foreign exchange reserves as a form of self-insurance for developing countries—for example, against possible currency crises.87 There were two traditionally accepted frameworks for determining the adequate level of foreign reserves: the three-month import coverage rule and the Greenspan-Guidotti rule. The former rule, which was the accepted standard during the 1970s and 1980s, stipulated that a country should amass the equivalent of three months of imports in liquid foreign reserves.88 The Greenspan-Guidotti rule, elaborated in 1999 by Pablo Guidotti (then Argentina’s deputy finance minister) and later endorsed by chairman of the Federal Reserve, Alan Greenspan, specified that a country’s reserves should cover an entire year of debt service on foreign borrowing.89 In the early 21st century, many developing countries amassed foreign reserves that greatly exceeded the amount recommended by either framework. Prior to the 1990s, most countries held reserves equivalent to three to four months of imports; by 2006 reserves were generally sufficient to cover eight months of imports.90 Economists pointed out that funds invested in foreign reserves typically yield a significantly lower return than funds invested directly into a country’s economy. The “opportunity cost” of amassing foreign reserves was thus quite significant.91 Economists Laura Alfaro and Fabio Kanczuk argued that governments could achieve many of the same insurance effects by managing the level and maturity structure of their sovereign debt.92 The rapid accumulation of foreign exchange reserves in developing countries posed a number of challenges to the international financial system. But of particular significance to the IMF, countries with large holdings of reserves would inevitably be much less reliant on the Fund as a lender of last resort; thus the IMF would enjoy far less influence over these countries and their macroeconomic policies. At the end of 2007, countries with especially large foreign exchange reserves included China, Russia, India, and Brazil. Governance and Legitimacy As the IMF shifted from an organization that largely concerned itself with current account crises, particularly within the developed world, to one that lent extensively (and, as many argued, intrusively) to developing countries, representatives from such countries argued that they were underrepresented at the Fund. For example, in 2007 Belgium had more votes than India, while India’s 2006 GDP (adjusted for purchasing-power parity) was nearly 12 times that of Belgium. (See Exhibit 6 for over- and underrepresentation in IMF voting for selected countries.) Critics also contended that the current composition of the IMF’s executive board and its operating procedures made it difficult for developing countries to exert any significant influence on the body’s day-to-day operations. In late 2007, Europeans accounted for 9 of the 24 members of the executive board, which also featured representatives from the United States, Japan, Canada, and Australia. These 13 representatives accounted for more than half of the board’s weighted votes. Critics of the IMF also drew attention to the fact that every managing director since the Fund’s inception had been from Western Europe, a trend that continued with the election of France’s Dominique Strauss-Kahn. This was seen to be part of a deal with the United States, since an American had always served as the head of the World Bank. Many policymakers complained that the European bias increasingly undermined the credibility of the entire institution. In 2004, Ariel Buria, director of the G-24 group of developing countries, wrote: 14 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 708-035 The IMF risks being labeled a modern-day European colony if Europe continues to monopolize the Managing Director post. The hijacking of the selection process reveals a regional bias that undermines the integrity of an institution that advocates transparency, accountability, and open markets across the globe. It’s time that the IMF practices what it preaches.93 In spite of such criticism of the selection process in 2004, little appeared to change in 2007, when the only two nominees hailed from EU countries. The G-24 also claimed that EU members were overrepresented at the Fund both in terms of seats on the executive board and in terms of aggregate voting power. The Bretton Woods formulas stated that a country’s IMF quota should be determined largely by its volume of international trade.94 If quotas had been recalculated to exclude intra-EU trade, EU members would have had 40% fewer weighted votes.95 Edwin Truman, a senior fellow of the Institute for International Economics, suggested that the most equitable solution to this problem would be the creation of a unified EU seat with voting power equal to that of the United States.96 Under the leadership of Rodrigo de Rato, the IMF took a number of steps to reform the quota system. In a meeting in Singapore in September 2006, the Fund voted to increase the voting power of China, South Korea, Mexico, and Turkey. China’s voting power grew from 2.93% to 3.65% of the total, South Korea’s from 0.76% to 1.33%, Mexico’s from 1.20% to 1.43%, and Turkey’s from 0.45% to 0.55%. This agreement also launched a two-year reform program that aimed to redistribute weighted votes more equitably. The Fund planned to increase the basic votes granted to all countries significantly. (Each member started with 250 basic votes and received additional votes that correspond to its quota size, based on GDP and volume of international trade.) Basic votes constituted more than 11% of total weighted votes at the Fund’s inception, but comprised only 2.1% the total in late 2007.97 The Fund was also considering other reforms of the voting system. One possibility would have been to shift from a measure of GDP based on market exchange rates to one based on purchasing power parity (PPP), which would give most developing countries a higher level of representation. For example, China’s 2007 GDP was 5% of the world total when using the traditional market exchange rate valuation, but 15% based on the PPP approach.98 Clearly, the consequences of such a shift could be quite considerable. Reform for Relevance When Dominique Strauss-Kahn campaigned vigorously for the IMF’s managing director position, he labeled himself “the candidate of reform” and argued that the developing world “must be granted a greater voice and more effective representation.”99 In spite of his promises to address the Fund’s legitimacy crisis, Strauss-Kahn secured no significant reforms during his first four months as managing director. Meanwhile, the Fund faced a significant financial squeeze of its own, since it had only $11 billion in outstanding credits at the beginning of 2008. Such a small lending portfolio nearly ensured that the IMF would have trouble covering its $1 billion in annual operating costs, which could be financed only out of earnings on lending.100 Many called for a leaner IMF, but Strauss-Kahn asserted that “we don’t need less IMF, we need more.”101 One key question was, More of what? Another was, Would the IMF be up to the task? 15 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis Exhibit 1 Schedule A—Quotas as Determined at Bretton Woods, 1944 (in millions of U.S. dollars) Australia 200 India 400 Belgium 225 Iran 25 Bolivia 10 Iraq 8 Brazil 150 Liberia 0.5 Canada 300 Luxembourg 10 Chile 50 Mexico 90 China 550 Netherlands 275 Colombia 50 New Zealand 50 Costa Rica 5 Nicaragua 2 Cuba 50 Norway 50 Czechoslovakia 125 Panama 0.5 Denmark* * Paraguay 2 Dominican Republic 5 Peru 25 Ecuador 5 Philippine Common wealth 15 Egypt 45 Poland 125 El Salvador 2.5 Union of South Africa 100 Ethiopia 6 Union of Soviet Socialist Republics 1,200 France 450 Greece 40 United Kingdom 1,300 Guatemala 5 United States 2,750 Haiti 5 Uruguay 15 2.5 Venezuela 15 1 Yugoslavia 60 Honduras Iceland *The quota of Denmark shall be determined by the Fund after the Danish Government has declared its readiness to sign this Agreement but before signature takes place. Source: International Monetary Fund, “Articles of Agreement of the International Monetary Fund: Schedule A—Quotas,” http://www.imf.org/external/pubs/ft/aa/sched_a.htm, accessed January 2008. 16 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis Exhibit 2 708-035 IMF Managing Directors Name Country of Origin Dates of Term Dominique Strauss-Kahn Rodrigo de Rato Horst Köhler Michel Camdessus Jacques de Larosière H. Johannes Witteveen Pierre-Paul Schweitzer Per Jacobsson Ivar Rooth Camille Gutt France Spain Germany France France Netherlands France Sweden Sweden Belgium November 1, 2007— July 7, 2004—October 31, 2007 May 1, 2000—March 4, 2004 January 16, 1987—February 14, 2000 June 17, 1978—January 15, 1987 September 1, 1973—June 16, 1978 September 1, 1963—August 31, 1973 November 21, 1956—May 5, 1963 August 3, 1951—October 3, 1956 May 6, 1946—May 5, 1951 Source: Adapted from International Monetary Fund, “IMF Managing Directors,” http://www.imf.org/external/np/exr/ chron/mds.asp, accessed January 2008. Exhibit 3 IMF Rescue Packages Amount Agreed ($ billion) Mexico (1995) Thailand (1997) Indonesia (1997) Korea (1998) Brazil (1998) Russia (1998) Uruguay (1999–2001) Turkey (1999–2002) Argentina (2000– 2001) Brazil (2001–2002) % of Recipient GDP Total Disbursed ($ billion) % of Recipient GDP 18.0 3.9 11.3 20.8 18.4 15.1 2.7 33.8 22.1 4.4 2.2 5.0 4.0 2.3 3.5 14.5 17.0 7.8 13.1 3.7 11.3 19.4 13.4 5.1 2.2 23.1 12.7 3.2 2.0 5.0 3.7 1.7 1.2 11.7 11.4 4.5 35.1 6.9 30.1 5.9 Source: Adapted from Noriel Roubini and Brad Setser, Bailouts of Bail-ins? (Washington, DC: Council on Foreign Relations, 2005), p. 8. 17 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 Exhibit 4 The International Monetary Fund in Crisis Official Reserve Assets, Selected Countries, 2001 and 2006 End of 2001 ($ billion) End of 2006 ($ billion) Brazil India Russia China 37.5 48.1 34.5 219.0 85.8 176.7 416.0 1046.0 United States Germany Japan 68.7 82.2 403.9 65.9 111.6 895.3 Source: Compiled from 2002 and 2007 IMF Article IV Consultations with each country; Federal Reserve Board, “U.S. Reserve Assets,” January 2007, http://www.federalreserve.gov/RELEASES/bulletin/0107assets.htm, accessed January 2008; and International Monetary Fund, “Times Series Data on International Reserves and Foreign Currency Liquidity,” http://www.imf.org/external/np/sta/ir/topic.htm, accessed January 2008. Exhibit 5 Increase in IMF Conditionality: Structural Conditions per Program Year, 1987–1999 Source: International Monetary Fund Policy Development and Review Department, “Structural Conditionality in FundSupported Programs,” February 16, 2001, http://www.imf.org/external/np/pdr/cond/2001/eng/struct/cond.pdf, accessed January 2008. 18 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis Exhibit 6 708-035 Overrepresentation and Underrepresentation in IMF Voting, Selected Countries GDP 2006 at Market Exchange Rates, Share of World Total (%) GPD 2006 PPPAdjusted, Share of World Total (%) Executive Board Votes (January 2008) Share of Total China India Brazil 5.53 1.88 2.21 13.99 6.17 2.58 81,151 41,832 30,611 3.66 1.89 1.38 Total 9.62 22.74 153,594 6.93 0.67 0.81 0.57 0.43 0.64 0.80 0.79 .44 .53 .30 .26 .31 .44 .39 18,973 46,302 16,678 12,888 16,967 24,205 34,835 0.86 2.09 0.75 0.58 0.77 1.09 1.57 4.71 2.67 170,848 7.71 Austria Belgium Denmark Finland Norway Sweden Switzerland Total (%) Source: Compiled from Econstats, “GDP Based on PPP Share of World Total,” http://66.221.89.50/weo/V012.htm, accessed January 2008; World Bank, “Total GDP 2006,” http://siteresources.worldbank.org/DATASTATISTICS/Resources/ GDP.pdf, accessed January 2008; and International Monetary Fund, “IMF Executive Directors and Voting Power,” January 14, 2008, http://www.imf.org/external/np/sec/memdir/eds.htm, accessed January 2008. 19 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 Exhibit 7 The International Monetary Fund in Crisis Majority Thresholds for IMF Decisions Threshold Type of Decision 85% majority Amendments to the Articles of Agreement Allocations of special drawing rights (SDR) Decisions on the number of executive directors Quota changes Creation of and changes to the International Monetary and Financial Committee Withdrawal of member countries from the Fund Gold transactions Exchange rate decisions 70% majority Design of IMF facilities Decisions on rate of charge and rate of remuneration Repurchase policies Valuation of the SDR Budget of the Fund 50% majority Applies to all decisions not explicitly covered by the 80 percent and 85 percent thresholds; covers issues that arise during the daily functioning of the IMF, including decisions on programs, Article IV consultations, publication policies, and standards and codes, among others Source: Lorenzo Bini Smaghi, “IMF Governance and the Political Economy of a Consolidated European Seat,” in Reforming the IMF for the 21st Century, ed. Edwin M. Truman (Washington, DC: Institute for International Economics, 2006), p. 243. 20 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis Exhibit 8 708-035 IMF Lending by Country Type, 1950–1989 Source: James M. Boughton, Silent Revolution: The International Monetary Fund 1979–1989 (Washington, DC: International Monetary Fund, 2001), p. 18. 21 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis Endnotes 1 Mary Elizabeth Johnson, The International Monetary Fund 1944–1992 (New York: Garland Publishing, 1993), p. 49. 2 Johnson, The International Monetary Fund, p. 49. 3 Johnson, The International Monetary Fund, p. 50; and Rawi Abdelal, Capital Rules (Cambridge, MA: Harvard University Press), p. 46. 4 Quoted in Donald Edward Moggridge, Maynard Keynes: An Economist’s Biography (London: Routledge, 1992), p. 687. 5 Johnson, The International Monetary Fund, p. 50. 6 B. H. Beckhard, “The Bretton Woods Proposal for an International Monetary Fund,” Political Science Quarterly (December 1944): 489. 7 International Monetary Fund, “Articles of Agreement of the International Monetary Fund, Article I: Purposes,” http://www.imf.org/external/pubs/ft/aa/aa01.htm, accessed January 2008. 8 International Monetary Fund, “Articles of Agreement of the International Monetary Fund, Article XXX1, Section 1,” http://www.imf.org/external/pubs/ft/aa/aa31.htm#1, accessed January 2008. 9 Johnson, The International Monetary Fund, p. 51. 10 Johnson, The International Monetary Fund, p. 51. 11 As quoted in Barry Carin and Angela Wood, Accountability of the International Monetary Fund (Burlington, VT: Ashgate, 2005), p. 16. 12 Carin and Wood, Accountability of the International Monetary Fund, p. 17. 13 James M. Boughton, “American in the Shadows: Harry Dexter White and the International Monetary Fund,” IMF Working Paper, January 2006, http://www.imf.org/external/pubs/ft/wp/2006/wp0606.pdf: p. 8, accessed January 2008. 14 Boughton, “American in the Shadows,” p. 8. 15 Boughton, “American in the Shadows,” p. 8. 16 International Monetary Fund, “Articles of Agreement of the International Monetary Fund, Article V, Section 3,” http://www.imf.org/external/pubs/ft/aa/aa06.htm#3, accessed January 2008. 17 U.S. Department of State, “Selective Chronology of the IFIS,” Economic Perspectives 6, no. 1 (February, 2001): 33. 18 J. Keith Horsefield, The International Monetary Fund: 1945–1965 (Washington, DC: International Monetary Fund, 1969), pp. 191–192. 19 Peter M. Garber, “The Collapse of the Bretton Woods Fixed Exchange Rate System,” in A Retrospective on the Bretton Woods System: Lessons for International Monetary Reform, eds. Michael D. Bordo and Barry Eichengreen (Chicago: University of Chicago Press, 1993), p. 461. 20 “Where a Golden Era Began,” Time, May 23, 1983, http://www.time.com/time/magazine/article/ 0,9171,953898,00.html, accessed January 2008. 21 Margaret Garritsen De Vries, The IMF in a Changing World (Washington, DC: International Monetary Fund, 1986), p. 117. 22 De Vries, The IMF in a Changing World, p. 117. 22 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 23 708-035 Quoted in Louis W. Pauly, Who Elected the Bankers? (Ithaca, NY: Cornell University Press, 1997), p. 105. 24 Margaret Garritsen De Vries, The International Monetary Fund, 1972–1978, Vol. 2: Narrative and Analysis (Washington, DC: International Monetary Fund, 1985), pp. 770–771. 25 De Vries, The IMF in a Changing World, p. 118. 26 In 1977, the United Kingdom became the last industrialized Western country to draw on IMF funds. See Yilmaz Akyüz, “Reforming the IMF: Back to the Drawing Board,” Third World Network, November 2005, p. 8. 27 James M. Boughton, Silent Revolution: The International Monetary Fund 1979–1989 (Washington, DC: International Monetary Fund, 2001), p. 401. 28 Joachim Zietz, “Why Did the Peso Collapse? Implications for American Trade,” Global Commerce 1, no. 1 (Summer 1995), http://www.mtsu.edu/~berc/global/oldissues/summer95/p2.htm, accessed January 2008. 29 Joseph A. Whitt Jr., “The Mexican Peso Crisis,” Economic Review, Federal Reserve Bank of Atlanta (January 1996): 4, http://www.frbatlanta.org/filelegacydocs/J_whi811.pdf, accessed January 2008. 30 As quoted in James M. Boughton, “Michel Camdessus at the IMF: A Retrospective,” Finance and Development 37, no. 1 (March 2000), http://www.imf.org/ external/pubs/ft/fandd/2000/03/boughton.htm, accessed January 2008. 31 As quoted in Alan Friedman, “IMF Chief Defends Mexico Acts,” International Herald Tribune, February 8, 1995, http://www.iht.com/articles/1995/02/08/imf_1.php. 32 Allan H. Meltzer, “Financial Failures and Financial Policies,” in Deregulating Financial Services, eds. George G. Kaufman and Roger C. Kormendi (Cambridge, MA: Ballinger, 1986), p. 83. 33 Meltzer, “Financial Failures and Financial Policies,” pp. 83–84. 34 Meltzer, “Financial Failures and Financial Policies,” p. 84. 35 Stanley Fischer, “On the Need for an International Lender of Last Resort,” revised version of a paper prepared for delivery at the joint luncheon of the American Economic Association and the American Finance Association, New York, January 3, 1999, http://www.imf.org/external/np/speeches/1999/010399.htm, accessed January 2008. 36 Stanley Fischer, “On the Need for an International Lender of Last Resort,” http://www.imf.org/external/ np/speeches/1999/010399.htm, accessed January 2008. 37 William R. Cline, “The Case for a Lender-of-Last-Resort Role for the IMF,” in Reforming the IMF for the 21st Century, ed. Edwin M. Truman (Washington, DC: Institute for International Economics, 2006), p. 301. 38 Cline, “The Case for a Lender-of-Last-Resort Role for the IMF,” p. 301. 39 Lawrence J. McQuillan, “How to Replace the IMF,” Hoover Digest no. 4 (1999), http://www.hoover.org/ publications/digest/3243391.html, accessed January 2008. 40 Allan Meltzer, “The Meltzer Commission Report on International Institutions” (Washington, DC: International Financial Institutions Advisory Commission, 2000), http://www.house.gov/jec/imf/meltzer.htm, accessed January 2008. 41 Gregor Irwin and Chris Salmon, “The Case Against the IMF as a Lender of Final Resort,” in Reforming the IMF for the 21st Century, ed. Edwin M. Truman (Washington, DC: Institute for International Economics, 2006), p. 318. 42 Irwin and Salmon, “The Case Against the IMF as a Lender of Final Resort,” p. 317. 23 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis 43 International Monetary Fund, “Fund Policy on Lending Into Arrears to Private Creditors—Further Consideration of the Good Faith Criterion,” July 24, 2002, p. 4, http://www.imf.org/external/pubs/ ft/privcred/073002.pdf, accessed January 2008. 44 International Monetary Fund, “Fund Policy on Lending Into Arrears to Private Creditors,” p. 4. 45 International Monetary Fund, “Fund Policy on Lending Into Arrears to Private Creditors,” p. 5. 46 International Monetary Fund, “Fund Policy on Lending Into Arrears to Private Creditors,” p. 5. 47 International Monetary Fund, “Fund Policy on Lending Into Arrears to Private Creditors,” p. 6. 48 Policy Development and Review Department of the IMF, “Conditionality in Fund-Supported Programs— Overview,” February 20, 2001, http://www.imf.org/external/np/pdr/cond/2001/eng/overview/index.htm, accessed January 2008. 49 Policy Development and Review Department of the IMF, “Conditionality in Fund-Supported Programs— Overview.” 50 Boughton, Silent Revolution, p. 557. 51 Boughton, Silent Revolution, p. 557. 52 Boughton, Silent Revolution, p. 558. 53 Quoted in Boughton, Silent Revolution, p. 558. 54 Boughton, Silent Revolution, p. 559. 55 Boughton, Silent Revolution, p. 566. 56 Ariel Buria, “An Analysis of IMF Conditionality,” paper prepared for the XVI Technical Group Meeting of the Intergovernmental Group of 24, Port of Spain, Trinidad and Tobago, February 13–14, 2003, p. 10 http://www.g24.org/buiratgm.pdf, accessed January 2008. 57 Vivien Collingwood, “Indispensable or Unworkable? The IMF’s New Approach to Conditionality,” Bretton Woods Project, p. 12, www.brettonwoodsproject.org/topic/adjustment/conditionality/s32conditbrfg. doc, accessed January 2008. 58 Morris Goldstein, “IMF Structural Conditionality: How Much Is Too Much?” revision of a paper presented at National Bureau of Economic Research Conference, October 19–21, 2000, pp. 5–6, http://iie.com/ publications/wp/01-4.pdf, accessed January 2008. 59 Goldstein, “IMF Structural Conditionality,” p. 6. 60 Goldstein, “IMF Structural Conditionality,” p. 7. 61 Goldstein, “IMF Structural Conditionality,” pp. 7–8. 62 Goldstein, “IMF Structural Conditionality,” pp. 8–9. 63 Abdelal, Capital Rules, p. 144. 64 Abdelal, Capital Rules, p. 137. 65 Abdelal, Capital Rules, p. 140. 66 Quoted in Abdelal, Capital Rules, p. 140. 67 Abdelal, Capital Rules, p. 140. 68 Abdelal, Capital Rules, p. 151. 24 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis 69 Abdelal, Capital Rules, p. 151. 70 Abdelal, Capital Rules, p. 153. 71 Quoted in Abdelal, Capital Rules, p. 154. 72 Abdelal, Capital Rules, p. 159. 73 Pauly, Who Elected the Bankers?, p. 100. 74 As quoted in Pauly, Who Elected the Bankers?, p. 105. 75 Pauly, Who Elected the Bankers?, p. 108. 708-035 76 Rodrigo de Rato, “Correcting Global Imbalances: Avoiding the Blame Game,” speech given at Foreign Policy Association Financial Services Dinner, February 23, 2005, http://www.imf.org/external/np/speeches/ 2005/ 022305a.htm, accessed January 2008. 77 Rodrigo de Rato, “Correcting Global Imbalances: Avoiding the Blame Game,” http://www.imf.org/ external/np/speeches/2005/022305a.htm, accessed January 2008. 78 International Monetary Fund, “United States: 2007 Article IV Consultation” IMF Country Report no. 07/264 (August 2007), p. 13, http://www.imf.org/external/pubs/ft/scr/2007/cr07264.pdf, accessed January 2008. 79 Morris Goldstein, “Currency Manipulation and Enforcing the Rules of the International Monetary System,” in Reforming the IMF for the 21sy Century, ed. Edwin M. Truman (Washington, DC: Institute for International Economics, 2006), p. 145. 80 International Monetary Fund, “People’s Republic of China: 2006 Article IV Consultation” IMF Country Report no. 06/394 (October 2006) p. 19, http://www.imf.org/external/pubs/ft/scr/2006/cr06394.pdf, accessed January 2008. 81 International Monetary Fund, “People’s Republic of China: 2006 Article IV Consultation,” p. 19. 82 International Monetary Fund, “IMF Surveillance—The 2007 Decision on Bilateral Surveillance,” June 2007, http://www.imf.org/external/np/exr/facts/surv07.htm, accessed January 2008. 83 International Monetary Fund, “IMF Surveillance—The 2007 Decision on Bilateral Surveillance.” 84 Christopher Swann, “Treasury Plan Backfires as IMF Targets Dollar Instead of Yuan” Bloomberg News Service, August 23, 2007, http://www.bloomberg.com/apps/news?pid=20601087&sid=a1nc9c96MQI0& refer= home, accessed January 2008. 85 As quoted in Christopher Swann, “Treasury Plan Backfires as IMF Targets Dollar Instead of Yuan.” 86 Russell Green and Tom Torgerson, “Are High Foreign Exchange Reserves in Emerging Markets a Blessing or a Burden?” U.S. Treasury Occasional Paper no. 6 (March 2007): 3. 87 Charles Wyploz, “The Foreign Exchange Reserves Buildup: Business as Usual?” paper prepared for the Workshop on Debt, Finance, and Emerging Issues, London, March 6–7, 2007, http://www.un.org/esa/ffd/ events/2007debtworkshop/Wyploz.pdf, accessed January 2008; and Dani Rodrik, “The Social Cost of Foreign Exchange Reserves,” International Economic Journal 20, no. 3 (September 2006): 254. 88 Stephen Jen and Charles St-Arnaud, “EM Currencies: Excess Official Reserves,” July 13, 2007, http://www.morganstanley.com/views/gef/archive/2007/20070713-Fri.html#anchor5178, accessed January 2008. 89 Rodrik, “The Social Cost of Foreign Exchange Reserves,” p. 258. 90 Rodrik, “The Social Cost of Foreign Exchange Reserves,” p. 258. 91 Rodrik, “The Social Cost of Foreign Exchange Reserves,” p. 261. 25 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. 708-035 The International Monetary Fund in Crisis 92 Lauro Alfaro and Fabio Kanczuk, “Optimal Reserve Management and Sovereign Debt,” HBS Working Paper no. 07-010 (2006), p. 1. 93 Financial Policy Forum, “IMF Managing Director Selection Process Must Be Reformed and Made More Inclusive and Transparent,” March 23, 2004, http://www.financialpolicy.org/IMFDemocracy/032304press release.htm, accessed January 2008. 94 Ariel Buria, “The IMF at Sixty: An Unfulfilled Potential,” in The IMF and the World Bank at Sixty, ed. Ariel Buria (London: Anthem Press, 2005), p. 7. 95 Buria, “The IMF at Sixty,” p. 7. 96 Edwin M. Truman, “Rearranging IMF Chairs and Shares: The Sine Qua Non of IMF Reform,” in Reforming the IMF for the 21st Century, ed. Edwin M. Truman (Washington, DC: Institute for International Economics, 2006), p. 202. 97 “IMF Quota Reform Poses Risks to Developing Countries,” Bretton Woods Project, 2006, http://www. brettonwoodsproject.org/art-545872, accessed January 2008. 98 Santiago Fernandez de Lis, “IMF Quota Reform: The Singapore Agreements (ARI),” Real Instituto Elcano, January 2006, www.realinstitutuelcano.org/analisis/1079.asp, accessed January 2008. 99 Dominique Strauss-Kahn, “My Vision for the IMF,” Wall Street Journal, September 6, 2007, http://online.wsj.com/article/SB118902878300018561.html?mod=opinion_main_europe_asia, accessed January 2008. 100 “Crisis Comes to the IMF: The International Monetary Fund Needs Restructuring, and Maybe a Bailout,” Washington Post, October 19, 2007, p. A20. http://www.washingtonpost.com/wp-dyn/content/article/2007/ 10/18/AR2007101802012.html, accessed January 2008. 101 As quoted in Brett D. Schaefer and Anthony B. Kim, “Leaner IMF,” National Review, November 1, 2007, http://article.nationalreview.com/?q=M2I4YmI2ZGJlMmUwZmIwZjliYzkyYzIwNjkyYjNlNzI=, accessed January 2008. 26 This document is authorized for use only in admin's MIM520 - 19FC-1 at Colorado State University - Global Campus from Sep 2019 to Mar 2020. The International Monetary Fund in Crisis Harvard Business School Case #292040 #708035 Case Software # XLS-853 Copyright © 2010 President and Fellows of Harvard College. No part of this product may be reproduced, stored in a retrieval system or transmitted in any form or by any means—electronic, mechanical, photocopying, recording or otherwise—without the permission of Harvard Business School. may be reproduced, stored in al, photocopying, recording or Exhibit 1 Schedule A – Quotas as Determined at Bretton Woods, 1944 (in millions of U.S. dollars) Australia Belgium Bolivia Brazil Canada Chile China Colombia Costa Rica Cuba Czechoslovakia Denmark* Dominican Republic Ecuador Egypt El Salvador Ethiopia France Greece Guatemala Haiti Honduras Iceland 200 225 10 150 300 50 550 50 5 50 125 * 5 5 45 2.5 6 450 40 5 5 2.5 1 India Iran Iraq Liberia Luxembourg Mexico Netherlands New Zealand Nicaragua Norway Panama Paraguay Peru Philippine Common wealth Poland Union of South Africa Union of Soviet Socialist Republics United Kingdom United States Uruguay Venezuela Yugoslavia 400 25 8 0.5 10 90 275 50 2 50 0.5 2 25 15 125 100 1,200 1,300 2,750 15 15 60 *The quota of Denmark shall be determined by the Fund after the Danish Government has declared its readiness to sign this Agreement but before signature takes place. Source: International Monetary Fund, "Articles of Agreement of the International Monetary Fund: Schedule A – Quotas," http://www.imf.org/external/pubs/ft/aa/sched_a.htm, accessed Jan., 2008 19 Exhibit 2 IMF Managing Directors Name Country of Origin Dates of Term Dominique Strauss-Kahn Rodrigo de Rato Horst Köhler Michel Camdessuss Jacques de Larosière H. Johannes Witteveen Pierre-Paul Schweitzer Per Jacobsson Ivar Rooth Camille Gutt France Spain Germany France France Netherlands France Sweden Sweden Belgium November 1, 2007– July 7, 2004 – October 31, 2007 May 1, 2000 – March , 2004 January 16, 1987 – February 14, 2000 June 17, 1978 – January 15,1987 September 1, 1973 – June 16, 1978 September 1, 1963 – August 31,1973 November 21, 1956 – May 5, 1963 August 3, 1951 – October 3, 1956 May 6, 1946 – May 5, 1951 Source: Adapted from International Monetary Fund, "IMF Managing Directors," http://www.imf.org/external/np/exr/chron/mds.asp, accessed Jan., 2008. Exhibit 3 IMF Rescue Packages Amount Agreed Mexico (1995) Thailand (1997) Indonesia (1997) Korea (1998) Brazil (1998) Russia (1998) Uruguay (1999-2001) Turkey (1999-2002) Argentina (2000-01) Brazil (2001-2002) $ billion % of Recipient GDP 18.0 3.9 11.3 20.8 18.4 15.1 2.7 33.8 22.1 35.1 4.4 2.2 5.0 4.0 2.3 3.5 14.5 17.0 7.8 6.9 Total Disbursed $ billion 13.1 3.7 11.3 19.4 13.4 5.1 2.2 23.1 12.7 30.1 % of Recipient GDP 3.2 2.0 5.0 3.7 1.7 1.2 11.7 11.4 4.5 5.9 Source: Adapted from Noriel Roubini and Brad Setser, Bailouts of Bail-ins? (Washington DC: Council of Foreign Relations, 2005), p. 8. Exhibit 4 Official Reserve Assets, Selected Countries, 2001 and 2006 End of 2001 ($ billion) End of 2006 ($ billion) Brazil India Russia China 37.5 48.1 34.5 219.0 85.8 176.7 416.0 1046.0 U.S. Germany Japan 68.7 82.2 403.9 65.9 111.6 895.3 Source: Compiled from 2002 and 2007 IMF Article IV Consultations with each country; The Federal Reserve Board, "U.S. Reserve Assets," (January, 2007), http://www.federalreserve.gov/RELEASES/bulletin/0107assets.htm, accessed Jan., 2008; and International Monetary Fund, "Times Series Data on International Reserves and Foreign Currency Liquidity," http://www.imf.org/external/np/sta/ir/topic.htm, accessed Jan., 2008. Exhibit 6 Overrepresentation and Underrepresentation in IMF Voting, Selected Countries GDP 2006 at market exchange rates, share of world total (%) GPD 2006 PPPadjusted, share of world total (%) Executive Board Votes (January, 2008) Share of Total (%) China India Brazil 5.53 1.88 2.21 13.99 6.17 2.58 81,151 41,832 30,611 3.66 1.89 1.38 Total 9.62 22.74 153,594 6.93 Austria Belgium Denmark Finland Norway Sweden Switzerland 0.67 0.81 0.57 0.43 0.64 0.80 0.79 .44 .53 .30 .26 .31 .44 .39 18,973 46,302 16,678 12,888 16,967 24,205 34,835 0.86 2.09 0.75 0.58 0.77 1.09 1.57 Total 4.71 2.67 170,848 7.71 Source: Compiled from Econstats, "GDP Based on PPP Share of World Total," http://66.221.89.50/weo/V012.htm, accessed Jan., 2008; World Bank, "Total GDP 2006," http://siteresources.worldbank.org/DATASTATISTICS/Resources/GDP.pdf, accessed Jan., 2008; and International Monetary Fund, "IMF Executive Directors and Voting Power," Jan. 14, 2008, http://www.imf.org/external/np/sec/memdir/eds.htm, accessed Jan., 2008.
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