Output from the Research Project on
Civil Society Networks in Global Governance
The IMF as a Political Institution
By Professor Peter Willetts, City University, London
UNESCO Encyclopaedia of Life Support Systems
Article 18.104.22.168 The International Monetary Fund
The International Monetary Fund was formed to promote exchange rate stability and co-operation in macro-economic policy-making. Initially exchange rates were fixed by the Fund, but since 1973 the major currencies have floated. The highest authority is the Board of Governors, in which every country is represented. Policy implementation is shared between the Staff and a small Executive Board. The number of votes held by the members in each Board is proportional to the size of their economies. This voting system is controversial, because legally a few rich countries can dominate the decision-making. An Interim Committee (since renamed the International Monetary and Financial Committee) was established in 1974, to provide a political forum for finance ministers.
The Fund's basic resources come from members' subscriptions, which are known as their quotas. Various facilities have been created to allow members to draw foreign exchange, when they face financial difficulties. In the 1960s, it was realized that the Fund's resources might be inadequate to handle a financial crisis for one of the larger members. As a result, the General Arrangements to Borrow were established, with ten of the larger countries providing supplementary resources. Following the financial collapse in South East Asia in 1997, the GAB were substantially extended as the New Arrangements to Borrow.
To gain access to resources, a government must submit an economic program for approval by the Executive Board. This conditionality has been highly controversial. Many governments, NGOs and UN bodies became increasingly critical from the mid-1980s of a rigid reliance on the free market model, described as the Washington consensus. The Fund started to adapt in the early 1990s by accepting the need for social safety nets and, in the late 1990s, a wider process of reform to tackle poverty and prevent crises was undertaken.
1 The Creation of the IMF
It is a measure of the importance attached to reform of the global economic system that the Allied Powers convened the International Monetary and Financial Conference in July 1944, more than a year before the end of the Second World War and even before the first multilateral discussion on the formation of the United Nations. This conference took place in a hotel in a remote part of New Hampshire, USA, called Bretton Woods. It produced both the Articles of Agreement of the International Monetary Fund and a similar document for the International Bank for Reconstruction and Development, which is now part of the World Bank. These two organizations, including the later additions to the World Bank, are often referred to jointly as the Bretton Woods Institutions. A third pillar, an International Trade Organization, was intended to support the new system of economic co-operation, but no such body was established until 1995. (See the separate articles on the World Bank and on the World Trade Organization.)
It was generally agreed that financial crises, competitive devaluations, trade wars and the Great Depression in the inter-war years had contributed to the rise of Hitler and hence to the Second World War. Each country – supposedly pursuing its own interests – damaged the common interest and failed to improve its own economy. As early as 1942, White in the USA and Keynes in the UK were circulating formal proposals for a post-war financial institution. These two men provided the main leadership and dominated the discussion right through to the signing of the IMF's Articles. White's main goal was to stabilize exchange rates between currencies, while Keynes wanted to promote international trade and full employment. The result was a powerful supranational institution, supervising stable exchange rates.
2 The Operation of the Gold Exchange Standard
It cannot be emphasized too strongly that the Fund created in 1944 and in operation until 1973 was totally different from the institution operating at the beginning of the twenty-first century. The intellectual and political context in which it operated was also totally different. In this first period of the Fund's history, there was an overwhelming consensus that governments had a major role to play in the economy. They should promote full employment; inflation was of secondary significance; and fiscal and monetary policy should contribute to exchange rate stability. Free trade was a long-term goal, but not an immediate option, and the technology did not even exist to envisage the creation of global capital markets.
The initial exchange rate system was based on each government declaring the central par value of its currency. The US dollar was valued at $35 to one ounce of gold and all other currencies were similarly valued against gold. The dollar had a central role in the system, because of the overwhelming importance of the US economy at that time. In addition, the US government agreed it would in reality exchange dollars for gold at the par value, whereas other governments would not do so. For this reason, the system was known at the time as the gold exchange standard. Now it is more often described as an adjustable peg system. If economic problems meant that the currency could not be maintained within narrow margins, then the country concerned was supposed to seek the approval of the Fund for a change in its par value. Thus markets did not in any direct manner influence short-term or medium-term exchange rates. In the longer-term, market pressures could force a change, but the new rate was established by the government and the Fund.
Immediately after the Second World War, the system was not functioning effectively, because many countries were unable to allow their currencies to be freely convertible. The Articles of the Fund allowed for a transition period of restrictions on international payments and transfers, while post-war recovery to normal economic conditions was achieved. In December 1958, ten West European countries were able to announce that there would be no restrictions on the use of their currencies and in February 1961 eight of them took on the formal legal obligation with the IMF to maintain convertibility. As these eight included France and Britain, with each maintaining a currency union with their former colonies, both the majority of countries and the majority of world trade then came under the Bretton Woods financial system.
The system that had taken so long to bring into operation did not last for very long. Gradually market pressures challenged the valuation of gold at $35 per ounce and the par values of individual currencies: eventually the whole system came under threat. In October 1961, eight central banks agreed to form a Gold Pool, to defend the price of gold on the private markets. Soon afterwards, worries that the IMF would not be able to respond to one of the major countries facing financial difficulties led to the creation of the General Arrangements to Borrow (GAB). Ten countries – Belgium, Canada, Germany, France, Italy, Japan, Netherlands, Sweden, UK and USA – agreed in January 1962 to provide up to $6 bn in supplementary resources to the Fund. Switzerland also contributed from June 1964 and formally joined the GAB in April 1984.
Successive waves of speculation affected the major currencies throughout the 1960s. In November 1967, sterling was devalued from $2.80 to $2.40 to the pound. This was of great significance as sterling had a status close to that of the dollar, with more than forty other currencies tied to the pound in the Sterling Area. In March 1968, the price of gold in the private markets could no longer be kept down and a two-tier system was created, with the official price of gold for intergovernmental transactions maintained at $35 while the market price spiraled upwards. The French franc was devalued in August 1969 and the Germans were forced to float the Deutschmark in September 1969, for four weeks, before fixing at a higher par value. Finally in August 1971 the US Treasury announced that they were no longer willing to exchange dollars for gold. Attempts were made to find a new defensible set of exchange rates, with four months of negotiations culminating in an agreement reached at the Smithsonian Institution in December. As a result, the dollar was effectively devalued, in May 1972, by changing the dollar price of gold. The new par values could not be maintained. In mid-February 1973 a second devaluation of the dollar quickly resulted in all the major currencies floating, with exchange rates determined by the markets. The whole Bretton Woods gold exchange system had been abandoned
3 The Membership of the IMF
At the time of the inaugural meeting of the Board of Governors in March 1946, the Fund had 38 members. The numbers increased thereafter broadly in line with the increase in the membership of the UN. By the end of 2000, there were 183 members, consisting of Switzerland and all the members of the UN, except two communist countries and four micro-countries, (Cuba, North Korea, Andorra, Liechtenstein, Monaco and Nauru).
While it is a requirement for membership of the World Bank that a country should be a member of the Fund, there is no formal link to UN membership. Indeed, there have been some significant differences. There have always been some UN members that are not members of the Fund. The Soviet Union participated fully in the Bretton Woods conference, signed the Final Act and attended the inaugural meeting, but never proceeded to join the Fund. As a result of the Cold War virtually all the communist governments remained outside the IMF until the 1990s. Czechoslovakia, which had been a founder member, changed its par value unilaterally in June 1953 and, as a consequence of the disputes this generated, was expelled from the Fund in January 1955. Cuba also had been a founder member, but, following a period of dispute, withdrew from the Fund in April 1964. Many former colonial territories delayed several years after independence before they joined the Fund. On the other hand, some countries that were not UN members have long been members of the Fund. West Germany joined the IMF in August 1952, but was not able to join the UN until September 1973. Similarly, South Korea joined the IMF in August 1955 and South Vietnam in September 1956. Switzerland joined in May 1992, but still remains outside the UN.
The Articles of the Fund are unusual in specifying the members must be "countries", a term that has no legal significance, but must be assumed to mean "states". Major transnational corporations and other financial entities cannot engage in financial transactions with the Fund or use its resources in any way. It is clearly an intergovernmental organization. Difficult questions may arise about the membership of the countries of the European Union that use the Euro as their currency. Initially, in January 1999, at the start of the transition period to create the Euro, the European Central Bank was granted observer status at the IMF.
4 The Legal Structure of the IMF
The supreme legal authority for the Fund is the Board of Governors. This meets annually, usually in September, with a cycle of two meetings in Washington and one in another capital city every three years. All member countries are represented, usually by their finance minister or the head of their central bank. Legally, the IMF and the World Bank are separate autonomous organizations, but politically this is not the case. The Board of Governors of the World Bank meets at the same time, in the same place, in the same room, as the Fund's Board. Formally, the two bodies publish separate records of their proceedings and pass their own resolutions. In practice it is a single political process, known as the Joint Annual Meetings.
There is also a smaller Executive Board for the Fund that is required to "function in continuous session" in Washington. It does not in any manner overlap with the corresponding Executive Board of the World Bank. It includes five Directors appointed by the countries with the largest quotas. As the quotas are only reviewed every five years and their relative sizes change slowly, they have a semi-permanent right to be on the Board. From 1946 to 1960, the five largest were USA, UK, China, France and India. In 1960, Germany took over the Chinese seat and in 1970 Japan took over the Indian seat. In addition, if the big five do not include the two countries whose currencies have been drawn the most by other members in the Fund's transactions, the relevant countries may also appoint a Director. This provision has been used several times, notably when Saudi Arabia appointed a Director from 1978 until 1992.
The remaining Directors are elected, every two years. It is not an election in the normal sense of the word. The member countries (excluding those who appoint Directors) form themselves into groups, known as constituencies, and choose a person from one of the countries in the constituency to represent them all. Thus members in one constituency have no direct influence at all on who is elected by any of the other groups. The elected Directors have an ambiguous role, in being representatives of their own governments and being required to represent the other members of their constituency. In the Board's work, they cast all the votes of the members that elected them and the Articles state they must be "cast as a unit". A few of the largest countries have enough votes to elect themselves, in a single-member constituency, without having to seek other members to join them. The composition of the constituencies is highly stable and many of the individual countries are always re-elected. Only the addition of new member countries has produced significant regrouping of the constituencies. Belgium, Brazil, Canada, and the Netherlands have had Directors since 1946.
Initially, there were twelve Executive Directors: the five semi-permanent members, two special seats, until 1969, for "the American Republics" and five elected by the remaining members. As more countries have joined the Fund, the number of elected Directors has gradually been increased. The addition of seats has reflected the size of the economies of the new members rather than the number of countries joining. In 1992, the Board reached a total of 24 members, with extra seats being provided that year for Russia and Switzerland. Since 1992 the Executive Board has been composed as follows
Overall there is an equal number of seats for the rich OECD countries and the other developing and transition countries, but there is an overwhelming bias towards the countries with the larger economies from each part of the world.
Since 1946, an informal convention has allocated the post of Managing Director of the Fund to a European and the President of the World Bank to an American. The Managing Director has greater authority and status than is normal for the top civil servant in an intergovernmental organization. He chairs the meetings of the Executive Board, participates in the meetings of the Board of Governors and has the hypothetical power to cast a deciding vote in the Executive Board. The wording of the Articles is very similar to the UN Charter, in protecting the independence of the staff. The difference from the UN is that this wording is generally observed and most of the professional staff have doctorates. The independence of the Fund and its staff is helped by the fact that it does not have to ask governments for its budget, which is financed by its operational activities. The Annual Report for 2000 showed a wide geographical spread among the staff. However, US, UK and Canadian nationals are over-represented, while the main under-representation is for the Japanese. There is a much higher imbalance in the gender distribution of the staff. Women constitute over 80 per cent of the support staff and less than 30 per cent of the professional staff, with even lower proportions among the economists and the managerial staff.
Under the Articles of Agreement of the IMF, the Governors have exclusive legal authority over most major questions that define the nature of the Fund – its membership, allocation of quotas and amendments to the Articles. They also have authority over virtually all other questions, but may delegate to the Executive Directors. In normal circumstances, the Executive Directors only determine one major question: they choose the Managing Director. When the Articles were first amended in July 1969 to provide for the creation of a new international reserve asset, special drawing rights (SDRs), it was specified that decisions on their allocation or cancellation would be made "by the Board of Governors on the basis of proposals of the Managing Director concurred in by the Executive Board". This is the only type of decision in which authority is formally shared by the three organs.
These legal arrangements are unusually vague, with the relationships between the different organs poorly defined and many of the articles simply specifying that "the Fund" shall engage in various activities. Whether the actual decisions are taken by the Governors, the Directors or the staff has become a matter of practice that has evolved over time. Broadly speaking the overall principles on which policy should be based is decided by the Governors, the legislation of the policy framework is decided by the Directors and the implementation with respect to particular countries is decided by the staff, under the supervision of the Directors. The staff negotiate all arrangements for currency transactions, but the decisions must be formally endorsed by the Executive Board and, when the staff are negotiating with governments, they do so bearing in mind Directors' reactions to previous agreements.
5 The Political Structure of the IMF
The structure of the Fund is somewhat different when considered from a political rather than a legal perspective. The Articles make no mention of the International Monetary and Financial Committee of the Board of Governors (IMFC – formerly, known as the Interim Committee) nor the Joint Ministerial Committee of the Boards of Governors of the Bank and the Fund on the Transfer of Real Resources to Developing Countries (known as the Development Committee), which were both established in October 1974, in the aftermath of the collapse of the original Bretton Woods system. Neither committee has any formal legal authority, other than to "advise and report to the Board of Governors", but politically they have become the most important organs of the IMF. They meet twice a year: the "Spring Meetings" take place in Washington, usually in April, and the "Fall Meetings" take place immediately before the Joint Annual Meetings of the Boards.
The countries represented on the IMFC match the composition of the Fund's Executive Board, except that groups may decide to nominate a different member of the group to take their seat on the IMFC. The Development Committee has a similar membership, but its composition alternates every two years between reflecting the Executive Board of the Fund and that of the Bank. These two committees are important because each country is represented at the ministerial level. For the Fund, the IMFC has become the main political forum for reviewing changes in the international financial system and how the Fund should respond to them. It is a smaller body that can handle difficult negotiations on political principles and provide leadership for the Board of Governors. Because it has no authority, it has no procedure for voting. The Chairman is expected to "seek to establish a sense of the meeting" and, if unanimity cannot be reached, "all views" must be reported.
The system of voting in the Fund is a matter of great controversy. In the United Nations every country, however large or small, has one vote. On the other hand, in international economic organizations it is usual to make the number of votes for each country proportional to the size of the country in terms of the relevant economic activity. The Fund combined these two principles in 1944 by giving every country 250 votes, which embodies the principle of equality, plus one vote for every $100,000 of its quota, which embodies the principle of economic weighting. (In 1978, the measurement of quotas was changed to SDRs instead of dollars, but the voting formula was not changed.)
In the Board of Governors, these diverse weights determine how many votes each country can cast. They range from five Pacific Islands countries, each having 0.01 per cent of the votes, to the United States, having over 17 per cent of the votes. The USA even has more votes than the next three largest countries, Japan, Germany and the UK, combined. Many of the major types of decisions require majorities of 85 per cent, so the USA has a veto on such decisions. The Group of Ten countries (see below) together hold more than 53 per cent of the votes, so they have more votes than all the other 172 members and have a collective veto on all decisions. In the Executive Board, each Director casts the votes of the countries that appointed or elected him/her. As was noted above, the votes must be cast as a block, so the influence of the larger countries, who hold the seats, is even further enhanced. The United States has both a policy veto and a constitutional veto, as the 85 per cent majority is required not only for the major financial questions but also for any amendment of the Articles and any change in the quotas.
In the early years, votes were formally taken on some issues in the Executive Board. Now it would be very surprising for either the Governors or the Directors to force any question to a vote. Both organs aim to operate by consensus and this is usually achieved. When very divisive questions arise, either the IMFC negotiates a compromise or such questions are carried forward for further debate without being formally tabled at the Fund. The absence of voting in any of the organs does not mean that a true consensus has been achieved, with an equal contribution from all members. It could be described as a 'weighted consensus', those with the greatest number of votes do tend to have a much greater influence on the outcomes.
The Fund is often seen as being dominated by the US government. The Fund's headquarters are in Washington and most of the staff have been trained in US universities. Its approach has been based on isolating macro-economics from wider issues of social welfare, the environment, gender equity, human rights and development, as opposed to GNP growth. The weighted voting system gives a simple image of US dominance. As a result of all these factors, the Fund along with the WTO has become the focus of anti-globalization campaigns. The first major demonstrations were at the Berlin Joint Annual Meetings in 1988 and the fiftieth anniversary celebrations in 1994 were countered by a long campaign by a coalition of NGOs, under the banner of Fifty Years is Enough. Since then, particularly since the demonstrations against the WTO in Seattle in December 1999, the IMF Spring and Fall Meetings have been met by large-scale demonstrations, with some violence from minority elements.
In reality, it is not possible to see the Fund as being dominated by a single entity called the United States. The President, the Treasury Secretary, the two houses of Congress and their various committees, along with the commercial banks, environmental lobbies, trades unions and think-tanks, all battle to influence US policy and hence IMF policy. In addition, there are significant external influences on US policy. The other richer countries have a much stronger commitment to international co-operation and to assisting the developing countries. The developing countries also have collective influence and, in as much as they are united, they can have a collective veto over the major decisions.
These external pressures are expressed through a variety of caucus groups of countries that are not any part of the official structure of the IMF. The Group of Ten, consisting of the countries providing funds under the GAB (see above), was the main forum from 1962 until the mid-1970s for the rich Western countries. In the mid-1970s, a sub-group within the G10, the Group of Five, became more important. They consisted of USA, UK, France, Germany and Japan, the five countries whose currencies define the value of the SDR. In 1975 the leaders of seven largest industrial countries started meeting for an annual economic summit. Gradually, the G5 finance ministers met more often with the two other countries, Canada and Italy, so that the G7 replaced the G5 from the mid-1980s. The developing countries formed the Group of 77 at the first UNCTAD conference in June 1974. In response to the turmoil surrounding the breakdown of the original Bretton Woods system, the second Ministerial Meeting of the G77 in Lima in November 1971 decided they should create their own financial forum to challenge the dominance of the G10. They formed a sub-group, the Group of 24, consisting of eight countries from each of the three regions, Africa, Asia and Latin American and the Caribbean. The first meeting was held in Caracas in April 1972 and since then it has been the main caucus for the developing countries in IMF politics. The G7 and the G24 meet several times a year at the level of officials. At both the Spring and the Fall meetings, the G10 and the G24 hold preliminary discussions at the ministerial level and issue communiqués covering the main issues.
6 Quotas and their Significance
Each country at the Bretton Woods conference was assigned a quota, which was supposed to reflect their relative position in the world economy. The first estimates of appropriate quotas were calculated from a complex formula involving national income, gold and dollar reserves, export variability, the level of imports and the ratio of exports to national income. As there was not comparable data available for all countries, no automatic application of the formula was possible. In addition direct political factors made an impact, notably substantial increases were made to the figures for China and the Soviet Union to reflect their political importance. This need to balance objective measures, derived from economic data, with political considerations has determined all decisions on quotas since then.
The quotas define several aspects of a country's relations with the IMF. Firstly, they are a measure of the subscription to the Fund's resources that is required from each member. Initially 25 per cent of the subscription had to be paid in gold (if they had enough) and 75 per cent in their own currency. Since the demonetarisation of gold the first 25 per cent has had to be paid in SDRs or the major reserve currencies. Secondly, we have seen that the quotas determine each country's voting power. Thirdly, the quotas are the basis for assessing how much a member may draw from the Fund's resources when they have balance of payments difficulties. Fourthly, when an allocation of SDRs is made, the share each member receives is the same as its share of all the quotas.
The total quotas have increased since 1946 by the addition of new members, by increases for all members under the General Review of Quotas held approximately every five years and by existing members arguing that the change in their position in the world economy requires an exceptional increase. Sometimes the negotiations of the reviews have been contentious and complex, taking more than two years to complete. On each occasion, including the decisions in 1950 and 1955 not to propose any increase, a major factor affecting the outcomes has been the difficulty in obtaining authorization from Congress for an increase in the US quota. Despite the fact that the general increases have usually been around 50 per cent, the overall levels have not kept pace with the growth in world trade, let alone the increased scale of global financial flows.
In the early 1960s several developing countries applied individually for increases in their quotas on the grounds that they were insufficient to meet the variability in their export earnings. This resulted in studies by the staff of the problems facing small countries. The first results in November 1962 showed that the quotas for the smallest countries were half what they should be if they were to have the same protection from export variability as the G10 countries. Further work led the staff to suggest alternative approaches to calculating quotas, increasing the weights for trade and for export variability. No decision was made to change the methodology, but it was agreed by the Executive Board in June 1963 that these alternative formulae would also be considered in all future decisions on quotas. In 1983, GDP replaced national income, the reserves variable was re-introduced and the weight for export variability was reduced.
In June 1999 a Quota Formula Review Group was formed. Its report was released in September 2000, recommending that quotas should simply be proportional to GDP and to vulnerability. The latter concept sought to update the quotas to respond to the effects of globalization, by including variability in net long-term capital flows as well as variability of current receipts. The staff comments released at the same time criticized the exclusion of short-term capital flows and the arbitrary impact on the formula of the presence or absence of crises during the measurement period. It was clear the proposals would meet stiff opposition, because the main effect was to increase the relative position of a handful of the larger and richer countries at the expense of everybody else.
7 The Availability of Financial Resources
It was planned at Bretton Woods that the Fund's total quotas, and hence subscriptions, would be $8.8 bn. Initially there was little use of the Fund's resources, so increases were solely due to the admission of new members. The first general increase in quotas was decided in December 1958, but even at this point they were falling behind the growth in world trade. Then the arrival of convertibility increased the demand for drawings. As was explained above, the General Arrangements to Borrow made more resources available in January 1962. A further increase in quotas of 25 per cent for most members came into effect in February 1966. During the negotiations for this increase, there were substantial difficulties over the ability of some countries to supply the gold tranche of their subscription and special complex arrangements had to be made.
The simplest way to deal with the general need for greater international liquidity and, in particular, the shortage of gold would have been to make a large increase in the official price of gold in all currencies. There were several problems with this approach. In particular, it would have given a substantial economic boost to South Africa and the Soviet Union. The answer was to create a new reserve asset, Special Drawing Rights (SDRs), which was popularly known as "paper gold". Under the First Amendment to the Articles of Agreement that came into effect in July 1969, allocations of SDR3 bn per year were made in January 1970, 1971 and 1972. The allocations added to international reserves without any member having to provide either their own currency or gold. A second set of allocations of SDR4 bn per year was made in January 1979, 1980 and 1981. The total allocation for the six occasions was only SDR21.4 bn and so the SDR has not fulfilled the hopes that it would become the principal international reserve asset. Its main significance now is as the unit of account for all the IMF's transactions.
Initially the value of the SDR was defined by specifying that SDR35 were equal to one ounce of gold and hence one SDR equaled one dollar. When the par value system collapsed, there was no point in continuing to value the SDR in terms of the dollar and the official price of gold, because that would cease to mean the SDR was a benchmark. It would simply devalue, or upvalue, in line with the dollar. In June 1974, the value of the SDR was first of all redefined in terms of a basket of sixteen of the major currencies, calculated on a daily basis. Then in January 1981 this was simplified to a weighted average of the market rates of the five major currencies, the dollar, the Deutschmark, the French franc, the yen and the pound sterling. When the Euro was created in January 1999, it replaced the Deutschmark and the franc in the SDR basket.
A variety of efforts have been made to increase the IMF's resources. There have been regular increases in quotas, usually around 50 per cent overall. Sales started in June 1976 to auction one third of the Fund's stock of gold. Borrowing agreements have been signed with individual governments, notably when in May 1981 the Saudi Arabian Monetary Agency made SDR8 bn available for the medium term. The GAB was revised and enlarged in December 1983. The GAB was supplemented in January 1997 by the New Arrangements to Borrow with a wider group of members providing funds: Australia, six smaller West European countries and seven Asian countries brought the total up to 25 countries. Large-scale off-market gold transactions were conducted in late 1999 and early 2000. However, none of these efforts have halted the relative financial decline of the IMF. Despite as many as seven general increases since 1965, when the Eleventh General Review of Quotas came into effect in January 1999 the authorized total only came to the relatively-minor sum of SDR212 bn and the GAB and NAB together only provided access to a further SDR34 bn. These figures only put the IMF in the same league as the largest transnational companies. The Fund cannot from its own resources offer levels of support commensurate with the financial problems of any members other than the small developing countries. Quotas corresponded to 20 per cent of the level of world trade when the IMF was formed. They dropped to 10 per cent in the 1960s, but since the mid-1970s each general increase has simply maintained the quotas at around 5 per cent of world trade. The quota increases have in no way matched the increases in global capital flows. The main significance of the IMF providing financial support is political and not economic.
8 Credit Tranches, Stand-By Arrangements and Conditionality
The Fund was ready to start financial operations in March 1947 and in the next few years developed its policies on the provision of funds. Technically it does not make loans. Members draw the currencies of other members, hence gaining foreign exchange, by paying in their own currency. Later they must repurchase this currency by providing other acceptable currencies. On this basis the Fund's total financial resources are not changed: just the relative proportions of different currencies change. Nevertheless, the drawings are often referred to as loans by people outside the Fund, especially as interest is charged on drawings.
It will be recalled that members only provide 75 per cent of their subscription in their own currency. The remaining 25 per cent was originally provided in gold and later in SDRs and/or other foreign exchange. This means that a first drawing of up to 25 per cent of the quota is merely taking back resources the member has provided. If the member's currency has been purchased by other countries in their dealings with the Fund, a drawing of more than 25 per cent will still leave the Fund only holding 100 per cent of quota in the member's currency. Any such drawing used to be referred to as the gold tranche and is now the reserve tranche. No interest is charged, withdrawal is of right, subject to there being a genuine balance of payments need, no conditions are attached and there is no time limit for repurchases.
Further drawings taking the Fund's holding of a member's currency up to 200 per cent of the quota may be made. The first 25 per cent is referred to as the first credit tranche and the remaining three amounts of 25 per cent are the higher credit tranches. In June 1952 it was agreed that drawings did not have to be made immediately, but authorization could be given for drawings up to six months ahead. Now the periods are normally one to two years, but they can be up to three years. This is referred to as a Stand-By Arrangement. There is a charge on credit tranche drawings, from the day on which funds are received. The charge is based on the interest rate for use of SDRs, which itself is based on short-term market rates for the currencies that define the SDR. Repurchases are normally made between three to five years after the drawings. Use of the credit tranches is dependent upon the member demonstrating it will pursue policies that should eliminate the balance of payments difficulties.
The terms of a Stand-By Arrangement or drawings on other facilities discussed below are agreed by a small team from the staff of the IMF negotiating with the finance ministry in the capital city of the country concerned. Officially the government designs changes in macro-economic policy and sets performance targets for the period of the drawings, receiving expert advice from the IMF staff. The structural adjustment program (SAP) is set out in a Letter of Intent, which is sent to the Executive Board with the request for the drawings to be authorized. According to this view of the proceedings the government retains its sovereignty and is free to decide whether to apply to the IMF and what the SAP should contain. In practice the staff are able to argue that if their advice is not followed a drawing will not be authorized. While this might not matter greatly because the sums are so small, a dispute with the Fund has many unacceptable indirect consequences. Receipt of Official Development Assistance may be delayed or reduced; commercial lending may become difficult to obtain or more expensive; eligibility for debt relief is lost; and, at the extreme, the willingness of others to engage in direct trade may be threatened. Nationalist politicians in developing countries and NGO activists argue that the IMF dictates impractical and immoral political policies in the guise of technical economic advice.
The terms set out in the Letter of Intent are known as the conditionality of the drawing. The conditions are imposed both by the need to obtain the approval of the Executive Board for the arrangement to be established and by the need to meet the performance targets in the program before the drawings may be made at regular intervals. The SAPs typically contain measures to liberalize trade, devalue the currency (if it is not freely floating), reduce government expenditure, increase taxes and charges for government services, reduce subsidies and eliminate regulatory measures. In many countries, one of the early measures has been to end subsidies on food and/or fuel. Large scale protest demonstrations, sometimes with widespread looting and substantial violence, have often been the immediate effect. They have become known as IMF riots. In the medium term, cuts in education and health expenditure have been seen as damaging the core of the development process. A report by UNICEF, Adjustment with a Human Face, published in 1987, had a major impact on the debate about the legitimacy of IMF policies, because it argued that inappropriate SAPs could contribute to increased infant mortality rates. Later it was argued by various NGOs that SAPs reduced employment, increased gender inequities and promoted environmental damage. Much harm was done to the reputation of the IMF by the long delay before these concerns were acknowledged, let alone addressed. The arrogant reliance on a free-market ideology that isolated economic policy from all other politics came to be dismissed contemptuously as the "Washington consensus".
9 The Variety of Financial Facilities
In February 1963, the Fund introduced the first of several very different facilities to meet specific balance of payments problems. This was the Compensatory Financing Facility and it was designed to help developing countries meet sudden shortfalls in their export earnings due to circumstances beyond their control. Drawings could be up to 50 per cent of quota and, if the member also had higher credit tranche drawings, there could be a waiver on the normal limit of 200 per cent to the total holding of the member's currency (see above). All the new facilities involved the possibility of a waiver and therefore increased the total drawings that could be made. The role of the CFF was gradually widened, first of all by treating workers' remittances as export earnings and then in May 1981 adding a provision to cover sudden rises in the costs of cereal imports, with the quota limit increased to 105 per cent. With a further widening in August 1988 to include other unexpected external shocks to the current account, it was renamed the Compensatory and Contingency Financing Facility (CCFF). In June 1969, a Buffer Stock Facility was added, to assist developing countries with the costs of joining international commodity organizations, but after the collapse of the International Tin Council it was never used again and was withdrawn in January 2000. In June 1974, an Oil Facility was introduced and subsequently used by several countries, but it was phased out in the 1980s. From September 1999 to March 2000, a Y2K Facility was available, in case the 'Millennium bug' disabled computers processing financial information. No drawings had to be made on this facility.
The triple crisis in 1973 of the dollar devaluation, the rise in the price of oil and the rise in the price of wheat led to a series of special financial arrangements to fund the Extended Fund Facility that could provide drawings in larger amounts and for longer periods than under previous policies. In the 1980s with "Enlarged Access", this permitted drawings up to 400 per cent beyond the credit tranches, plus up to 150 per cent under the CCFF and Buffer Stock Facilities, giving a theoretical maximum of 650 per cent of quotas. In November 1992, when the Ninth General Review of Quotas came into effect, the limit on the Extended Fund Facility was reduced from 400 to 200 per cent.
Events in the 1990s again led to further adjustments in the IMF's financial role. In April 1993, a Systemic Transformation Facility providing up to 50 per cent of quotas was established to help the former communist countries to engage in the transition to market economies. Exceptionally large drawings by Mexico in February 1995 and Russia in March 1996 led to the approval of the New Arrangements to Borrow in January 1997. The financial crash of 1997 in South East Asia led to the Supplemental Reserve Facility being approved in December 1997 and being activated the next day to support a record Stand-By Arrangement for Korea of SDR15.5 bn. Because of the way in which financial crises had been spreading from one country to another, in April 1999, a policy of Contingent Credit Lines was adopted, to provide support, not for tackling existing problems, but to prevent hypothetical contagion effects in a sound economy.
10 Developing Countries and the Debt Crisis
In August 1982, the Mexican government shocked the world by saying that it had no further foreign exchange and could not meet the debt repayment obligations that were currently due to commercial banks. Until then it had been naively assumed that 'countries cannot go bankrupt'. The shock was particularly great because Mexico had only recently become a major oil exporter, at a time when oil prices were exceptionally high, and it was seen as a case of successful economic development. Complex and protracted negotiations ensued, to reschedule Mexico's debt obligations. In the following couple of years many countries went through such rescheduling negotiations and several had to have new negotiations each year.
The crisis had arisen because sharp increases in interest rates and reductions in inflation increased the burden of debt servicing. At the same time, reductions in growth in the industrialized countries, causing reduced demand for commodities and a fall in commodity prices, decreased the ability to service debts. Furthermore, the existence of the crisis brought the flows of new funds to developing countries virtually to a halt. In some countries such as Mexico, poor investment decisions, corruption and capital flight added to these problems. It was a crisis for the developing country governments, because they had to find some way to resume normal financial activities. It was a crisis for the commercial banks because their reserves were not big enough to write-off the debts and hence they faced bankruptcy. It was a crisis for the industrialized countries' governments, because they were threatened with the possibility of one major bank collapsing and bringing down the global financial system. It was also a crisis for the ordinary people in developing countries, because the economic and political consequences drastically reduced their standards of living. However, they had no direct voice in the negotiations.
The status and the political role of the IMF were greatly enhanced. Commercial banks could not order supposedly-sovereign governments to follow particular economic policies and developing country governments could not negotiate separately with each of the banks. The negotiations were conducted by the banks, sometimes up to 200 of them, forming a representative committee chaired by one of the largest lenders. Then the IMF acted as the mediator between the committee and the government. In each case, the rescheduling of the commercial debt was directly linked to a drawing from the Fund. The Fund's conditionality gave the banks an assurance that policy would be changed to increase foreign exchange earnings to provide debt servicing. The Fund's approval of the rescheduling agreement also supported the governments by depriving the banks of any ability to argue for better terms. Overall everybody, except the poor, could pretend that normality had been restored.
In March 1986, the Fund established a Structural Adjustment Facility to provide support for low-income developing countries on concessional terms. Repayment could be over 5½10 years and the interest rate would only be 0.5 per cent. In December 1987, greater resources were mobilized and by the early 1990s the access limit was brought up to 250 per cent of quota. In January 1999, when the Eleventh General Review of Quotas came into effect, the access limit was reduced to 140 per cent, but this kept the limit in terms of actual drawings about the same. For the 62 eligible developing countries, the SAF and the ESAF effectively replaced the Stand-By Arrangements. The same policies of conditionality are applied, except that, under ESAF, monitoring of financial and structural benchmarks and reviews of policy and performance criteria are more comprehensive.
11 Global Political Change and Reform of the IMF
It was the SAPs adopted under these facilities that brought the IMF into the limelight and generated high levels of controversy. There can be no doubt that disastrous conditions of poverty were created in many developing countries in the 1980s and 1990s. However, it is difficult to assess how much this was due to the drop in earnings from commodities, the drain of resources into debt servicing, ethnic strife, corruption, bureaucratic inefficiency, excessive military expenditure or IMF policies. Whatever the reality may be, the IMF was certainly blamed more and more for creating poverty from the mid-1980s onwards.
The Fifty Years is Enough campaign was stronger and more radical in the USA than anywhere else. In 1994-95, it contributed, along with right-wing isolationism, to there being US opposition to a quota increase in the Tenth General Review. Then, in 1998, there was a ferocious battle, over the conditions under which a 40 per cent increase in the US quota under the Eleventh General Review would be approved by Congress. Members of both houses sought to increase the availability of information about the IMF, involve the private sector in responsibility for dealing with financial crises, and use IMF conditionality to promote good governance, reduce military expenditure, increase social equity, promote core labor standards, discourage ethnic strife and recognize the relationship between macro-economic and environmental policies. The main policies embodied in the Act were a mix of those advocated by US banks, by NGOs and by trades unions.
In Europe and in developing countries, the emphasis of NGOs was on reducing the burden of debt servicing, alleviating poverty and achieving people-centered growth. They wanted greater, not less, resources for the World Bank and the IMF and sought reform of the SAPs. Broadly speaking this was supported by their governments as well. Opposition to IMF policies, from these sources and from within the UN system, focused on the World Summit for Social Development, in Copenhagen in March 1995. The resulting Copenhagen Declaration contained ten 'commitments', all of which implicitly challenged the orthodoxy of the Washington consensus. Commitment 8 was the most direct: it stated
We commit ourselves to ensuring that when structural adjustment programmes are agreed to they include social development goals, in particular eradicating poverty, promoting full and productive employment, and enhancing social integration.
The IMF sought to defend its position by taking the unusual step of addressing the summit in one of its regular publication series (Pamphlet No. 47). It argued that social safety nets and good governance, including participatory development, were two of the four dimensions of its policies for "high-quality growth". For the critics, this was – at best – too little and too late.
The crisis in South East Asia in 1997-98 was a major factor in forcing change at the IMF. The most important aspect of the crisis was that it resulted from a failure of market mechanisms, thus delegitimizing complete reliance on markets. Secondly, the IMF was discredited by its failure to foresee any sign of an impending crisis. Lastly, the resulting turmoil and the overthrow of President Suharto of Indonesia unquestionably demonstrated the links between economic policy, social welfare and political stability.
Over the same time period a new NGO campaign developed increasing impact. In April 1996, an idea generated by two individuals in Britain that the year 2000 should be celebrated by the Biblical tradition of jubilee, the forgiveness of debts, was launched as a British NGO, Jubilee 2000. It soon mushroomed into a global campaign, calling for the cancellation of the debt of low-income developing countries. Churches and development NGOs took the lead in mobilizing a wide range of groups in the international Jubilee 2000 Coalition. Significant demonstrations were targeted on each of the G7 summit meetings.
In response to the global debates, in the late 1990s, the IMF went through a major process of reform. The first big change was the recognition that existing policies would never solve the debt crisis for the poorest countries. In September 1996, the Fund and the World Bank jointly launched the Heavily Indebted Poor Countries Initiative. It provided for a first stage of three years, in which bilateral official debt would move towards a sustainable level by being reduced by up to 67 per cent of its net present value. In a second stage, also of three years, the reduction could reach 80 per cent and the Fund and the Bank would make a comparable reduction. This approach was criticized for being too slow, too cumbersome and for offering too little relief. In September 1999, the HIPC Initiative was enhanced by defining sustainability as a debt-to-exports ratio of 150 per cent rather than 200-250 per cent, by eliminating the rigid timeframe and by expanding the number of countries expected to gain relief from 29 to 36.
In the next month, a change in the overall approach to policy was symbolized by the Executive Board replacing the Enhanced Structural Adjustment Facility with the Poverty Reduction and Growth Facility. The financial terms were not changed, but the goals of adjustment policies were supposed to be radically changed, to encompass poverty reduction. A new mechanism was established to help produce different policy outcomes. The Policy Framework Papers were replaced by Poverty Reduction Strategy Papers and their production should involve active participation by the civil society, "in which the voices of the poor are heard". The PRSP were to be produced by the developing country government, in consultation with all stakeholders including the Fund and the World Bank. The primary responsibility for advice on tackling poverty was given to the Bank..
The late 1990s also saw a range of different reforms designed to prevent financial crises. The new financial facilities have already been mentioned. A Special Data Dissemination Standard was designed to enhance awareness of changes in financial markets. Members were encouraged to make public all the Executive Board papers covering their economic policies. Codes of good practice on the transparency of fiscal and monetary policies have been developed. Improved banking regulation was promoted and, for the first time in its history, the IMF started official dealings with the private sector, in order to increase their involvement in preventing and resolving crises. Increased emphasis was given to more effective, more frequent and broader use of the staff surveillance of developments in each member country. Finally, the renaming of the Interim Committee as the International Monetary and Financial Committee was meant to "strengthen and reform" it. The mandate was not changed, but provision for preparatory meetings of 'deputies' should enhance its work. Collectively, these measures were referred to as strengthening the international financial architecture.
To anybody who adopts a holistic approach, it is obvious that macro-economic policy, social welfare and environmental conservation are intimately related to each other and to political processes. Indeed, the everyday concept of sustainable development was coined to encompass that integration. To an economist, it is difficult to see those links, because the epistemology of economics is reductionist and the methodology is quantitative. For a subject that claims to be a theory of value, there is a remarkable inability to handle non-material values, such as the social values of equity and justice or values central to environmental policy, namely biodiversity, health and beauty. In 1990, in light of the forthcoming UNCED Earth Summit, the IMF prepared an internal review of the relevance of environmental questions to its work. It acknowledged that environmental degradation could have negative economic consequences, but seemed unable to countenance the possibility that 'sound' economic policies could have negative environmental consequences.
The World Bank has found it necessary to make environmental impact assessments an essential requirement for approval of a project, because the direct cause and effect links between economic activity and environmental outcomes are obvious at the micro-level of completing a local project. Since 1999, the preparation of Poverty Reduction Strategy Papers has given direct responsibility to the World Bank for the poverty aspects of the IMF policy framework. This includes ensuring the active participation of civil society and hence the need to address environmental questions. If the Fund really does make poverty reduction its priority, it is difficult to see how there will not be an all-pervasive impact. Very diverse questions will arise, such as the impact of fiscal policy on gender equity and resource usage, or the social and environmental effects of using the best quality land for agricultural export commodities.
In as much as the IMF does begin to consider the empirical reality of the plight of the poor and in as much as the new policy papers are drawn up in genuine consultation with civil society, the IMF will in the future be forced to consider the impact of macro-economic policy upon life support systems. The pessimists believe such an outcome is so improbable that the IMF should be abolished. Some optimists believe a process of reform is possible. The crucial question is whether the World Bank influences the Fund rather than the Fund influencing the Bank. It remains to be seen whether the institutional changes will lead to the IMF starting to internalize the need to integrate environmental perspectives, social welfare and poverty reduction with macro-economic policy.
Cornia G. A., Jolly R., and Stewart F. (eds.), Adjustment with a Human Face, Vol. I Protecting the Vulnerable and Promoting Growth, Vol. II Country Case Studies, (Oxford: Clarendon Press, Vol. I, 1987 and Vol. II, 1988). [The first major challenge to the Fund's policies.]
Reed D. (ed.), Structural Adjustment, the Environment, and Sustainable Development, (London: Earthscan, 1996). [Analyzing the impact of the Fund's policies on the environment, with nine case-studies.]
Annual Report of the International Monetary Fund, gives comprehensive discussion and statistics for each year's work.
IMF Survey, a fortnightly newsletter, available in print and on the IMF website.
www.imf.org – The official website of the IMF, containing documents, research papers and news releases.
www.brettonwoodsproject.org – The website for a small think-tank established by a network of UK NGOs to monitor and provide information on the IMF and the World Bank. Its bi-monthly bulletin, Bretton Woods Update, is particularly useful for current issues.
www.oneworld.org – A gateway, giving access to many NGOs concerned with the IMF.
www.foei.org/campaigns/IFI/IFI.htm – The website for the International Financial Institutions Program of Friends of the Earth International.
www.jubilee2000uk.org – The website for Jubilee 2000, including a history of its work.
Peter Willetts has a personal chair as a Professor of Global Politics at City University, London. He has written two books on the Non-Aligned Movement, two books on NGOs and many articles or book chapters both on NGOs and on aspects of the UN system. In 2000, he was funded for two years by the UK Department for International Development to study what procedures might provide formal participation rights for NGOs at the IMF and the WTO.
Copyright Peter Willetts, February 2001.
This text may be freely used provided that the author and this website, www.staff.city.ac.uk/p.willetts/CS-NTWKS/INDEX.HTM, are acknowledged.
For further materials on the IMF and the World Bank - click here
Centre for International Politics, School of Social Science, City University, Northampton Square, London EC1V 0HB.
Page maintained by Peter Willetts
Page created on 8 October 2001.
Copy-edited on 8 January 2002.