A New Role For the IMF?

05/25/2011 02:20 pm ET
  • Mark Weisbrot Co-Director, Center for Economic and Policy Research, Washington, D.C.


Bill Murray, Deputy Chief of Media at the IMF, posts a comment below. My response to these comments:

The first paragraph is just rhetoric, with words like "misleading," "inaccurate," etc., but nothing to back it up. He then writes:

Murray: "A few more facts: "IMF forecasts were consistently more pessimistic--and not, as CEPR claims, overly optimistic--when compared to market consensus"

MW: CEPR did not write anything about how IMF projections fared as compared to any "market consensus"

Murray: "Policies were quickly relaxed in Fund program to adjust to the rapidly deteriorating outlook."

MW: This is true in some cases and was acknowledge in our paper. However, most of the damaging (pro-cylical) policies were implemented in 2008; Murray ignores these. Since it takes at least four to six months for a review, and often longer, these policies can be expected to have worsened the economic downturn in the countries where they were applied.

Murray: "Fiscal policy in 2009 will be expansionary in all but one of the 15 emerging market Stand-by Arrangements."

This depends on the definition of "expansionary;" as the IMF shows in its September 14 "Review of Recent Crisis Programs," on which this statement is based, in 8 of the 15 countries the governments fiscal stance was actually tightened. (See http://www.cepr.net/documents/publications/imf-response-2009-10.pdf for further discussion).

But even if we ignore this question of what is "expansionary," Murray's statement can only be sustained by ignoring the policies implemented in 2008. It also ignores monetary policy.

Murray: "CEPR fails to acknowledge that large and upfront financing, together with a supportive macroeconomic policy mix, has allowed most emerging market countries under IMF programs to avoid costly currency overshooting and widespread banking problems--the hallmark of past crises.
Significantly, the avoidance of currency overshooting has not required large interest rate hikes as seen in the past."

MW: This is true. However, it does not justify imposing contractionary fiscal or monetary policies in countries that are suffering from an economic downturn.

For a comprehensive discussion of these issues including Mark Weisbrot of CEPR and the IMF, including video and further written analysis, see http://www.cepr.net/documents/publications/imf-response-2009-10.pdf and http://www.cepr.net/index.php/events/events/imf-supported-macroeconomic-policies-and-the-world-recession/ .
Original post:

Rescued from a state of near-irrelevance by the world recession and an infusion of hundreds of billions of dollars (mostly from the U.S., Europe, and Japan), the International Monetary Fund (IMF) is now thinking of expanding its role into previously uncharted territory. In Istanbul for the fall meetings of the IMF, Managing Director Dominique Strauss-Kahn said: "Given the costs associated with reserves accumulation, there is clearly a need for reliable emergency financing and hence for a global lender of last resort. The fund has the potential to serve as an effective and reliable provider of such insurance."

Strauss-Kahn is correct to point out that developing countries pay a substantial price for accumulating foreign exchange reserves in order to "self-insure" against a financial crisis.
But can the IMF play this role of the world's central banker? Contrary to much news reporting, the IMF has not historically played the role that a national central bank plays as lender of last resort. The Federal Reserve, for example, provides liquidity to the financial system in a time of crisis, in order to prevent a more generalized collapse - as it did with hundreds of billions of dollars in a series of interventions after the collapse of Lehman Brothers last year. But the IMF did not play this role in the major developing country financial crises that preceded this most recent one: e.g. the East Asian financial crises of 1997-98, or the Argentine crisis of 2001-2002. More often it has tried to assist foreign creditors in collecting their debt, as in the above mentioned crises, as well as attaching various, often unpopular and sometimes harmful conditions to its lending.

To its credit, the Fund has this year made available for borrowing some $283 billion dollars to all member countries. While most of this is allocated to the rich countries who will not need or use it, a substantial part will go to developing countries, with some $20 billion to low income countries (although most of the latter cannot really afford to take on more debt). But this move is unprecedented in IMF history, since the loans are without conditions, and it does bring the IMF closer to the central bank function of lender of last resort, providing liquidity during a deep world recession.

But the problem remains that most of the IMF's lending is not of this type. My colleagues and I looked at 41 countries that have current loan agreements with the IMF. We found that in 31 of the 41 countries, the agreements had imposed what economists call pro-cyclical macroeconomic policies. That is, as these countries' economies were slowing sharply or falling into recession, the agreements called for tightening fiscal policy (e.g. cutting spending) or tightening monetary policy (raising interest rates or curtailing money supply growth). These are policies that we in the United States or other rich countries would not adopt in a downturn (witness the 11.2 percent of GDP budget deficit in the U.S. and near-zero policy interest rates). Nor does the IMF recommend such policies in the high-income countries.

In a number of countries the IMF made such recommendations on the basis of projections that underestimated the impact of the world recession on developing country economies, and in some cases the recommendations were subsequently changed. Still, there was damage done, and if it was just based on forecasting errors then there were way too many of them.

IMF spokesperson Bill Murray reacted angrily to the criticism: "The main point of this report is that growth forecasts were too optimistic when programs were designed, leading to excessively tight fiscal and monetary policies. Reality is quite the opposite."

While there may be some room for disagreement on a particular country's policies, it is hard to see what he gains by denying the Fund's forecasting errors, which are a matter of public record and documented with links in the paper.

The Fund has privately told others that its policies should be judged not on whether they made the downturn worse in borrowing countries, but on whether these countries would have been even worse off if they didn't get any aid at all. This seems too low a bar. If you go to a doctor with a badly infected foot, and he saves your life by amputating it, you are better off as a result of the treatment. But if you could have been cured by available antibiotics, this is not competent medicine.

And in some countries, for example Latvia - where the IMF projects a GDP decline of 18 percent this year - the people probably would have been better off refusing aid and allowing the currency to devalue. Current policy, supported by the IMF and EU, is dedicated to maintaining the country's fixed, overvalued exchange rate. This is very important to Western European creditor banks who have loaned enormous amounts in Euros to Latvia and other Central and Eastern European countries. Maintaining the exchange rate means that the country's current account deficit must be adjusted through shrinking the economy (and therefore imports) and real wages. This is the same mistake that the Fund supported in Argentina in its deep recession from 1999-2002. After the peso collapsed and Argentina defaulted on most of its foreign debt, the economy contracted for just three months before entering a six-year period of rapid (more than 60 percent) growth.

The IMF now also hopes to play a greater role in monitoring the economic policies of all countries - high income as well as low- and middle-income -- and this is something that is more likely to materialize in the near future. But the Fund missed the two biggest asset bubbles in world history - the U.S. stock market bubble of the late 1990s and the more recent housing bubble, both of which caused recessions when they burst (the latter being our worst recession since the Great Depression). Given this track record and the long, continuing history of imposing inappropriate macroeconomic policies on developing countries, should the IMF be given more power - as is currently being proposed - to help decide when governments should reverse their current expansionary policies and shift to tighter macroeconomic policies as the world economy recovers?

Macroeconomic policy is just one area where the IMF influences growth and development in low-and-middle income countries, through its loan agreements and more importantly through its role as gate-keeper for other sources of credit. It also influences policy in the areas of trade, financial liberalization, privatization of state-owned enterprises, the size and role of the public sector, and more. Does anyone think that South Korea - which was as poor as Ghana in 1960 but now has living standards on a par with some Western European countries - would have succeeded if it had been under IMF/ World Bank tutelage during these decades?

To be fair, the IMF is controlled by the governments of the rich countries, with the U.S. Treasury Department as its most important overseer. But that is exactly the problem: these governments are just beginning to acknowledge some of the failures of neoliberal policies in their own countries, although they are still quite far from reforming them. They have not even recognized the failure of their policies in the rest of the world, despite the long-term growth and development failure in the vast majority of low- and middle-income countries. Concentrated, unaccountable power is generally bad; it's even worse when it is also misguided.

This column was published by The Guardian Unlimited on October 8, 2009