IMF Executive Board Discusses the Adequacy of the Fund’s Precautionary BalancesPress Release No. 14/75
March 7, 2014
On February 5, 2014, the Executive Board of the International Monetary Fund (IMF) reviewed the adequacy of the Fund’s precautionary balances.1
Precautionary balances are one element of IMF’s multi-layered framework for managing financial risks. These balances, comprising retained earnings held in the Fund’s reserves and the Special Contingent Account (SCA-1), are ultimately available to absorb possible financial losses, thereby helping protect the value of reserve assets represented by member countries’ positions at the Fund and underpinning the exchange of international reserve assets through which the Fund provides assistance to countries with financing needs.
This review of the adequacy of the Fund’s precautionary balances took place on the standard two-year cycle. In conducting the review, the Executive Board made use of the framework agreed in 2010. This framework provides an indicative range, linked to developments in IMF total credit outstanding, that is used to guide decisions on adjusting the target for precautionary balances over time.
Executive Board Assessment2
Executive Directors welcomed the opportunity to review the adequacy of the Fund’s precautionary balances on the standard two-year cycle. They emphasized that an adequate level of precautionary balances remains essential to help mitigate credit risks and protect the value of members’ reserve positions in the Fund. They considered the adequacy of precautionary balances a key element of the Fund’s multi-layered framework for managing credit risks, which includes the strength of the Fund’s lending policies and its preferred creditor status.
Directors generally agreed that the current rules-based framework for assessing the adequacy of precautionary balances, adopted in 2010, remains broadly appropriate. At the same time, they reiterated the continued importance of judgment and Board discretion in light of a broad assessment of financial risks facing the Fund. They saw a need to keep the framework under review and refine it as warranted by experience in its application.
Directors observed that, while the overall balance of risks facing the Fund remains broadly unchanged since the last review, some risks have moderated, reflecting the small decreases in credit outstanding and the forward-looking credit measure, and the decline in market perceptions of correlated risks. Directors noted, however, that the Fund still faces large concentrated exposures, mainly to euro area countries, and that this regional concentration is expected to remain high for some time, given the lengthening of the average maturity of Fund credit. A number of Directors noted that, while the situation in the euro area appears to have improved since the time of the last review, recent developments in emerging markets deserve more attention in assessing the adequacy of precautionary balances.
In light of these developments, Directors broadly supported retaining the current indicative target for precautionary balances of SDR 20 billion. They noted that this target is close to the mid-point of the updated indicative range derived from the framework. A few Directors, however, favored setting a target closer to the upper end of the range, noting continued uncertainties over global economic conditions and the possibility that Fund lending could increase rapidly. Some Directors saw the benefits of complementing the current assessment by linking the precautionary balance target more closely to the Fund’s credit capacity, which has increased further as a result of the 2012 bilateral borrowing agreements, while a few other Directors did not view credit capacity as a useful indicator for setting the target.
Directors reiterated the importance of maintaining a minimum floor for precautionary balances to protect against an unexpected increase in credit risks, particularly after periods of low credit, and to ensure a sustainable income position. They agreed that this floor should remain at SDR 10 billion for the time being, although a few would have preferred a higher floor. Directors noted that this issue should be revisited in the future now that reserves have exceeded the floor for the first time under the framework, and as the longer-term evolution of credit becomes clearer and the implementation of the Fund’s new income model progresses.
Most Directors agreed that commitments under precautionary arrangements should continue to be taken into account judgmentally when setting the specific target for precautionary balances. A number of Directors remained of the view that these commitments should instead be included in the calculation of the credit measure, or be taken into account more explicitly under the framework. Many Directors urged staff to continue to monitor this issue, including at the time of the next review, in light of experience.
Directors noted the projected steady increase in reserve accumulation. They looked forward to the forthcoming discussions of policies that can affect the pace of reserve accumulation.
1 This press release summarizes the views of the Executive Board as expressed during the February 5, 2014 Executive Board discussion based on the paper entitled “Review of the Adequacy of the Fund’s Precautionary Balances.”
2 An explanation of any qualifiers used in summings up can be found here: http://www.imf.org/external/np/sec/misc/qualifiers.htm.