Wednesday, September 22, 1999 Published at 13:37 GMT 14:37 UK
Business: The Economy
Reforming the IMF
The IMF has come under sharp criticism this year
The International Monetary Fund (IMF) is the lender of last resort to countries in financial trouble.
Just as central banks provide funds for big commercial banks who might otherwise go bust because they have lent too much, so the IMF supplies funds to countries with balance-of-payments difficulties - where the country's borrowings or spending abroad is greater than its income.
The IMF rules, which it can enforce by withholding further aid, are also useful to private lenders like banks. They see it as a "seal of approval" making it safe for them to renew lending as well.
But the experience of the world financial crisis over the past year has cast serious doubt on the IMF model, and has left its credibility damaged.
The basic problem with the IMF model was that the latest financial crisis had its origin in the private sector, not in the government overspending. Banks and private investors lent too much money under too little supervision to fast-growing developing countries, then pulled the money out in panic.
Political criticism has mounted about the effectiveness of IMF intervention, which in many cases failed to stabilise their currencies or restore the country's economic well-being.
Third World charities like Oxfam have questioned the IMF's programmes, which they argue hurt the poor by their financial orthodoxy.
Right-wing critics, especially in the US Congress, argue that the IMF has should not be bailing out mistakes made by the private sector, and should let the market take its course in setting exchange rates.
And the IMF itself has begun reforming both the way it operates and the conditions it imposes.
It has pledged to become more open in the way it operates, publishing the agreements it makes with countries about their economic performance (so-called Letters of Intent) and its own evaluations.
It wants to encourage more openness among developing country governments, with common standards of regulation and disclosure, which might give private sector investors more warning of potential problems.
The IMF changes, although generally welcomed, do not go far enough for its critics.
They believe that the IMF should fundamentally rethink its role in forcing governments to open markets.
They believe that countries should be allowed to introduce short-term capital controls in order to limit the flow of speculative investments - such as happened in Chile and Malaysia.
And they believe that the high interest rates the IMF has imposed as a condition of aid damaged the crisis-torn Asian economies even further.
Surprisingly, perhaps, chief economist Joseph Stiglitz of the World Bank, the IMF's sister institution, shares some of these views.
Mr Stiglitz has criticised the macro-economic policies of the IMF for pushing up interest rates in the midst of the financial panic, for example in Thailand, saying that it produced the worst of both worlds, with "workers who are going to be put out of jobs" paying the price of austerity.
He says more emphasis should have been placed on strengthening institutions, like banking regulation, both in Asia and Russia.
The IMF argues that as the lender of last resort, it has to impose conditions which will make its policies credible with the financial markets.
But it has acknowledged that it has made mistakes in underestimating the severity of the downturn. It has already moderated some of its conditions in response to criticism, for example in lending to Indonesia.
From the other side of the political fence, other critics also question the IMF's current role.
They believe that markets should set exchange rates, and no matter how many billions the IMF lends, it cannot work against market sentiment.
The example of Brazil, which was forced to devalue its currency despite a large IMF aid programme, is often cited by these critics.
The US government has some sympathy with that view. It has insisted that the IMF should not intervene to support any fixed-currency peg, for example in Hong Kong where currency is fixed to the US dollar.
These critics also argue that IMF intervention bails out regimes which are corrupt and which should be allowed to fail. The example of Russia, which is the largest borrower from the IMF but stands accused of money laundering on a vast scale, is often cited.
And finally, they argue that the likelihood of IMF intervention means that private banks and investors are not careful enough with their money, because they know that if anything goes wrong they will always be bailed out.
The IMF has sought to address this "moral hazard" question by making lending available to countries before the crisis hits to reassure investors that it prefers pre-emptive action to prevent a currency collapse.
It has also sought ways to involve the private sector in any rescue package, but that has proved controversial.
There are fears that any restrictions on private investment will dry up the flow of funds to emerging markets.
'Just say no'
A report from the influential Institute for International Economics says that the IMF should scale down its role and ambitions.
The task force, which includes former Fed chairman Paul Volker and hedge fund manager George Soros, says the IMF should be wary of big financial rescue packages and should intervene only if the crisis had serious implications for the world financial system.
The report also says the IMF should do more advance lending to countries that are taking the right steps to reduce financial vulnerability.
The series of financial crises in the last two years stretched the IMF to its financial and political limits. A return to a limited agenda may be just what the organisation itself would now prefer.
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