Global Policy Forum

Booming Economy Leaves the


With Fewer Global Deadbeats, the Agency Loses Clout, and a Source of Income

By Matt Moffett and Bob Davis

Wall Street Journal
April 21, 2006

When world finance ministers gather here tomorrow for the International Monetary Fund's spring meeting, the agency that has confidently dispensed advice to countless governments in distress will be searching hard for answers to its own identity crisis.

For much of its 61 years, the 184-member-nations IMF has acted as the fire brigade for the global financial system. When economic crises flared up in countries ranging from Mexico to Turkey, the IMF would try to snuff them with emergency loans. In return for cash, economically troubled countries were compelled to undertake harsh new policies -- often cuts in government spending or interest-rate increases -- to try to fireproof their economies.

Now the IMF faces a novel predicament: A robust global economy, growing at a 4% clip since 2003, has left the IMF with a dearth of financial firestorms to manage, and fewer countries willing to borrow from it and heed its dire lending conditions. Flush with cash and eager to regain control over their economic policies, 10 countries, from Russia to Brazil to Argentina, have repaid loans to the IMF ahead of schedule in recent years. The IMF's current loan portfolio of $35 billion is its smallest since the 1980s.

The effect is twofold: A shrinking loan portfolio greatly diminishes the IMF's influence over global economic policy. IMF loan disbursements are conditioned on the enactment, within defined time frames, of measures including privatization of state-owned companies, budget cuts, interest-rate increases and stiffer financial regulation. Once IMF loans are ended, the momentum for economic reform in one-time borrowers may fizzle. That's a worry in Latin America, especially where populist politicians are winning power across the continent.

Fewer loans also means less interest income, and thus fewer dollars in the IMF coffers. In an irony that has provoked tittering among many emerging-market finance ministers, the agency that has long preached belt-tightening now must practice it itself. Over the next three years, the IMF figures it may sustain operating losses of nearly $600 million, and have to dip into its nearly $9 billion in cash reserves to cover the shortfall. To reduce the red ink, the Fund has already capped personnel levels at 2,800 and is planning budgets that would lag behind the rate of inflation. It may start charging nations for technical advice that the IMF now provides free. If that doesn't work, it may have to tap its vast gold hoard of 103 million ounces, valued at $63.5 billion at today's prices and held in the vaults of IMF member nations.

To be sure, the global good times have been powered by low interest-rates, U.S. consumer spending and Asian demand for commodities -- a combination that could come to a halt, and plunge developing countries into crises and knocking on the IMF's door again. But for now, thanks to the vast sums of capital sloshing around the world's economy, developing nations are enjoying more freedom than ever before to chart more individualistic courses. From 2001 to 2005, the key emerging economies in Asia, led by China, have seen their reserves grow about 2.5 times to $1.7 trillion. In Latin America, reserves of the largest economies nearly doubled over the same time period to $223 billion, according to ABN-Amro.

The IMF is trying gamely to change the way it does business, from lender to "confidential adviser," as Rodrigo de Rato, the IMF's managing director, puts it. That entails a mixture of sound economic advice, outreach to one-time opponents -- and a splash of public relations. Arm-twisting is out; persuasion is in. When Mr. de Rato visited Tegucigalpa, Honduras, in February, he not only went to see the president and finance minister, but also trekked to the rough-and-tumble Campo Cielo barrio. He toured a project where social workers were removing gang-insignia tattoos from youths and the IMF even sent some money later.

"We were amazed that the big banker would visit the barrio," says Pedro Chico, a Roman Catholic educator who works with disadvantaged Tegucigalpa youths. A little bit of apple polishing certainly didn't hurt Mr. de Rato while he was trying to nudge the newly elected government of Manuel Zelaya to control government salaries to meet deficit targets. At tomorrow's meeting, finance ministers from around the world will start mapping out directions for the IMF's future at the Fund's plush headquarters, with its polished granite floors and 14-story atrium complete with waterfall.

The Fund is being pulled in several different ways by key members. The U.S. wants the IMF to police foreign-exchange rates with an eye to prodding China into strengthening its currency to ease the gaping U.S. trade deficit. The central bankers of the United Kingdom and Canada are pressing the Fund to stiffen its monitoring of the economic policies and fiscal health of developing and industrialized nations.

Meanwhile, the IMF's chief economist, Raghuram Rajan, is pushing to have the Fund offer a kind of "insurance" to developing countries. So long as their policies meet IMF standards they would be assured easier access to IMF funds in emergencies. In a frank speech last month, Mr. Rajan complained of the "ebbing spirit of internationalism," and said no reform plan will work unless the major economies recapture the shared sense of purpose that inspired the Fund's creation. "Unfortunately, paying attention to the global community is seen as weakness today rather than responsible global citizenship."

Mr. de Rato is seeking a middle ground and is looking for ways to monitor Chinese foreign-exchange rates, American fiscal and trade deficits and European economic lethargy. He hopes that regional sessions on these so-called imbalances -- an IMF form of group therapy -- would push countries to make adjustments. The IMF was conceived in July 1944 by founders determined not to repeat the mistakes that led to the Great Depression. Besides stepping in as emergency lender to wealthier countries facing balance-of-payment problems, the Fund also set up a system of "surveillance," or monitoring, to advise countries on their economic policies.

Many important decisions by the Fund require 85% approval by shareholder nations, with votes apportioned to each country based on its general position in the world economy. The largest single shareholder, the U.S., accounts for about 17% of the total vote, giving it effective veto power on issues such as expanding the Fund's financial base or changing voting shares.

Over the decades, the Fund's focus shifted to developing nations. When oil prices fell and Mexico ran out of money to pay its lenders in 1982, the IMF had to step in and lead a bailout of Mexico and several emerging countries to avert a global-banking meltdown. The IMF led rescue packages to Asia in the late 1990s and supported the former Soviet Union and its Eastern Europe client states in making the transition from communism.

But the IMF's harsh austerity policies, and perception that it was insensitive to their impact on working people, have caused deeply ingrained ill-will. In South Korea, which went through a financial crisis in 1997-1998, critics bitterly remarked that the Fund's initials stood for "I'M Fired." Indonesia's 1997 IMF program was perhaps the most intrusive and listed 140 conditions the country needed to meet, including boosting reforestation and disbanding its clove monopoly, to dismantle what economists called "crony capitalism." An IMF requirement that the Indonesia government cut fuel subsidies, which the government slashed faster than the IMF called for, led to the rioting that prompted the resignation of President Suharto in 1998.

The memory of that harsh medicine is hindering the IMF today as it tries to nudge Indonesia to clean up its state-owned banks, which account for about 40% of all lending, and privatize them. The idea is facing resistance both inside and outside the government. Indonesia's Minister for State Enterprises Sugiharto, who oversees privatization plans, is an economic nationalist who has declared publicly that Jakarta can manage its own affairs and need not heed IMF advice.

The IMF has been careful not to push too hard. "One of the lessons learned from the Asian crisis is that if a government is not itself committed to policies, the likelihood of its following through with implementing them is very limited," says Stephen Schwartz, the Fund's senior representative in Jakarta. The Fund also can't afford to lose many more clients: Indonesia is the IMF's No. 2 borrower after Turkey and accounts for about 22% of the IMF's loans outstanding -- and some Indonesians have talked about paying off the IMF early to get it off the country's back.

Many developing countries are inspired to distance themselves from the IMF by the example of Argentina, which announced the payback of its $9.8 billion debt to the Fund in December, closing the books on a long tortured chapter in its history. Beginning in the early 1990s, the IMF had provided financing supporting Argentina's risky strategy to keep its peso pegged one-to-one to the dollar. The IMF overlooked warning signals that the government deficit and debt levels were expanding too much to support the currency, a 2004 IMF audit concluded.

After the economy collapsed in 2001, Argentina flouted many of the IMF's recommendations to get the country on its feet -- and has grown rapidly nonetheless. When Argentina finally attained the wherewithal to pay off the Fund last December, jubilant Argentine demonstrators released balloons saying "Ciao IMF." Contempt for the Fund runs so high in Argentina that it inspired a popular Monopoly-like board game, "Eternal Debt," in which the object is "to defeat the IMF."

Yet, Argentina's outlook is increasingly precarious. Inflation has been surging and Argentine President Nestor Kirchner has been trying to suppress it with increasingly erratic measures. He recently imposed a ban on beef exports to try to spur domestic supply and lower the price. Argentina has kept natural gas and electricity prices artificially low; the result is that there's been a dearth of investment, raising fears of potentially disastrous energy shortages.

Without a lending program, there is little the IMF can do to convince Argentina to change course. Argentina still receives a couple of visits a year from IMF delegations and is subject to critiques in an annual review. But Claudio Loser, a former IMF chief for Latin America, thinks the Fund's advice will fall on deaf ears. "With this government, hearing the word IMF is like hearing a curse," he says.

Bolivia is another example of the IMF's fading influence in the region. One of Latin America's poorest nations, Bolivia has borrowed repeatedly from the Fund, which has pressed the government to fight inflation through budget cuts and to encourage foreign investment through modest taxation. In mid-February, Anoop Singh, the Latin America chief, and his top lieutenants flew to Bolivia to meet with the new regime of President Evo Morales, a leftist indigenous leader who has been critical of the IMF and has threatened to re-nationalize the energy industry. The IMF team held a town meeting with labor and indigenous leaders decked out in traditional Bolivian bowler hats. Mr. Singh, a 55-year-old Indian native, joked with the crowd that he was sorry he didn't know how speak Spanish despite "being 'Indian' himself." He parried concerns about IMF influence by informing the crowd that the Fund had written off nearly all the country's loans.

But not all of the Bolivians who attended were convinced of the IMF's good intentions. Donato Duran, a union leader, says he still believes that "the IMF only cares about rich nations and rich Bolivians." Bolivia's IMF program expired at the end of March, and Mr. Morales's critics worry that the IMF will now have little influence over the government.

IMF officials say their methods have enjoyed better success in Brazil. In August of 2002, a couple of months before presidential elections, Brazil faced an imminent financial meltdown sparked by investor fears of the economic agenda of the front-running leftist candidate, Luiz Inacio Lula da Silva. The IMF stepped in with a $30 billion aid package, structured to offer Mr. da Silva, an ex-union leader who had long criticized the IMF, a carrot to pursue sound policies. Brazil got part of the money right away, but the bulk would be disbursed only if the incoming government continued policies to control spending.

Since taking office, the da Silva government has won over investors with a disciplined budget policy. Brazil recently paid off its $15.5 billion debt to the IMF without strain. After announcing the payback, Mr. da Silva employed colloquial Portuguese, bragging that Brazil once again was "owner of its nose."

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FAIR USE NOTICE: This page contains copyrighted material the use of which has not been specifically authorized by the copyright owner. Global Policy Forum distributes this material without profit to those who have expressed a prior interest in receiving the included information for research and educational purposes. We believe this constitutes a fair use of any such copyrighted material as provided for in 17 U.S.C § 107. If you wish to use copyrighted material from this site for purposes of your own that go beyond fair use, you must obtain permission from the copyright owner.