The Role of the IMF|
Financing and Its Interactions with Adjustment and Surveillance
No attempt is made here to quantify the scale of increase in IMF quotas that might be needed in the relatively near term; that specific task requires separate analytical treatment. In addition, as noted in the introduction, no detailed consideration is given to the role of technical assistance to developing countries and transition economies. Technical assistance can in important ways provide support for the IMF's policy advice by helping to address medium-term structural imbalances and to ensure that an adequate infrastructure is created. Thus, it is a necessary complement to the IMF's surveillance and financing roles.
Industrial countries have made no use of upper credit tranche IMF facilities for almost two decades. This situation appears likely to continue as long as industrial countries generally maintain unimpaired access to private capital flows as a means of financing their international payments imbalances. In addition, some industrial countries may be able to draw on regional support mechanisms in times of difficulty, as has happened in the past.23 Nevertheless, it cannot be excluded that industrial countries may make more active use of their reserve tranches or that some industrial countries may need to make use of IMF credit. And, if industrial countries do need to make more active use of IMF resources, it will likely be in circumstances of general stress in the international monetary system. Accordingly, prudence dictates that the IMF should continue to maintain adequate liquidity to meet possible drawings by creditor countries and should keep in place (and possibly strengthen) the General Arrangements to Borrow (GAB)24 as a mechanism to help meet the contingency of large-scale drawings, particularly by participants in the GAB.
Among the transition economies, there are important
differences in their paths of economic development, and,
correspondingly, there are likely to be significant differences in
their need to make use of IMF resources. Some countries have already
achieved a substantial degree of macroeconomic stabilization and
structural reform. The need for these countries to use IMF resources
to assist in dealing with balance of payments problems may well be
less in the future than it was in the initial phase of their
stabilization efforts. Some of these countries have already begun to
establish favorable access to private capital markets, and one
country has already completely repaid its borrowings from the IMF.
Transition economies that are less well advanced in their stabilization efforts and in their development of relations with creditors and donors seem likely on average to have a greater need for IMF resources in the years immediately ahead. These countries generally do not enjoy assured access to private capital flows, and the opportunities to catalyze sources of balance of payments financing other than IMF resources appear generally less favorable than for other countries. The time span during which many transition economies will require IMF support in conjunction with their macroeconomic stabilization efforts may turn out to be somewhat longer than has been the case with IMF-supported balance of payments adjustment programs, and the amount of cumulative financial support somewhat larger. After many years of operating as centrally planned economies, many transition economies face unusual difficulties in establishing the basic institutions and patterns of behavior that are essential for macroeconomic stability and for reasonable balance of payments viability. These special circumstances, however, should not override the fundamental principle that IMF financial support should be temporary.
For middle-income developing countries, this increased openness to international trade and international financial markets has been a very important positive development of recent years. Such increased openness contributes to the growth and welfare both of these countries and of their partners in trade and capital market transactions. However, as previously discussed, increased openness generally makes developing countries more vulnerable to disturbances affecting their balance of payments, including shifts in world capital market conditions and in investor sentiment toward emerging markets. Many developing countries appear to have responded to this increased vulnerability by holding higher levels of international reserves. However, as recent events have demonstrated, with the openness to international capital flows, even large reserve holdings can be rapidly exhausted in circumstances of balance of payments difficulties. Some higher-income developing countries have established track records of continued access to private capital markets, even during periods of general economic stress. This situation, however, cannot soon be expected to prevail for the bulk of developing countries. These countries will remain vulnerable to potential withdrawals of access to private financing precisely in those circumstances when other factors are likely to generate balance of payments difficulties. Accordingly, the IMF will continue to play an important role in providing balance of payments financing in support of members' adjustment programs.
The poorest developing countries, many of which have heavy debt burdens and face constraints on development assistance, also merit IMF support for strong adjustment programs to restore external viability. Given the magnitude of the structural imbalances in many of these countries, the adjustment period for correcting payments imbalances has typically been longer than for other developing countries. Moreover, concessional assistance to these countries is generally needed to help deal with balance of payments problems if their debt-servicing burdens are not to be made worse. This situation implies use of the ESAF, the interest rate on which is only 1/2 of 1 percent, rather than of the IMF's general resources. The nature of the problems facing these countries also implies that the IMF has an especially important role to play in providing technical assistance and in coordinating its efforts with other international financial institutions and regional development banks. Unlike the work of the World Bank Group, however, continued IMF involvement rests on the provision of temporary balance of payments financing and macroeconomic policy advice, rather than project lending and development assistance. Thus, the character of, and justification for, its involvement with the poorest developing countries are the same as for other member countries.
The existence of contagion effects among developing countries makes it essential to promptly attend to emerging crises. Given the IMF's responsibilities in the international monetary system, it is natural that it have a central role both in seeking to avert crises through strengthened surveillance and in containing crises through conditional financing for countries that are experiencing balance of payments difficulties. By limiting potential contagion effects, forceful action at the early stage of crisis may well reduce the ultimate demands on IMF resources. Moreover, the need for IMF financing would presumably be short to medium term, provided the commitment of IMF resources in support of a strong adjustment program was successful in calming the crisis.
However, one of the key difficulties in assessing the potential needs for IMF financing is the apparent "monsoonal" character of the balance of payments difficulties faced by developing countries and their linkage to general disturbances in the world economy. The monsoonal effect means that balance of payments disturbances for major groups of developing countries tend to be bunched in time and correlated with general economic conditions in industrial countries. In the late 1970s, the economic recovery in the industrial countries, the surge in world commodity prices, the negative real interest rates in important industrial countries, and the easy availability of loans from international banks encouraged and facilitated large-scale borrowing by many developing countries. In the early 1980s, the deep recession in the industrial countries, the collapse of world commodity prices, the sharp increase in real interest rates, and the curtailment of lending by international banks all contributed to the debt crisis that simultaneously afflicted a significant number of developing countries and triggered an extended period of economic difficulties.
During the early 1990s, a qualitatively similar but less violent cycle of events has affected the economic and financial situation of many developing countries. However, there can be no guarantee that cyclical disturbances to the world economy will generally be as mild as has characterized the experience of the past few years--which is a significant outlier in comparison with the broader range of historical experience.25 Accordingly, prudent planning should be guided by the possibility that future disturbances to the world economy may generate substantial simultaneous requirements from a large number of developing countries for use of IMF resources in support of balance of payments adjustment programs.
The example of Mexico suggests that the IMF can act quickly to provide financing in crisis situations by using existing facilities. The Mexican case is clearly exceptional in terms of the size and circumstances of support, relative to the scale of the IMF's resources. However, even with the likelihood that IMF financing in individual cases would be significantly smaller than in the case of Mexico, the possibility that a number of countries might need substantial balance of payments financing more or less simultaneously raises concerns about the adequacy of procedures and the scale of IMF resources. Consistent with this view, the Halifax Summit of the Group of Seven industrial countries (International Monetary Fund (1995d)) recommended in June 1995 that the IMF "establish a new standing procedure--[an] 'Emergency Financing Mechanism'--that would provide faster access to IMF arrangements with strong conditionality and larger up-front disbursements in crisis situations." A related question is the adequacy of IMF quotas and the availability and modalities for use of other financing sources (including an expanded GAB).
Whatever modalities might be developed to improve the timeliness and effectiveness of the IMF in providing financial support to members facing balance of payments difficulties and undertaking suitable adjustment programs, IMF surveillance also clearly has an important role to play in limiting the likelihood and severity of difficulties calling for such support. At least three important dimensions to this surveillance responsibility influence the potential requirements for IMF financing.
First, as experience clearly demonstrates that large-scale financing needs arising simultaneously from a number of countries are most likely to occur in circumstances of general stress to the world economy, IMF surveillance should focus on the causes of such general economic stress and on the policies that will help to avoid it. In this key area, it is not primarily surveillance over the most likely users of IMF support, but rather over the countries of greatest systemic importance, that is most vital. The IMF is in a unique position to exercise multilateral surveillance over its members and to identify policy problems with potential regional and global impact. Thus, strengthening surveillance over the major industrial countries and the larger developing countries--although they may be unlikely to draw on IMF resources--can contribute to reduced overall financing needs.
Second, effective surveillance that provides early diagnosis and motivates timely adjustment can diminish the likelihood and severity of maladjustments in the balance of payments of IMF members. Accordingly, such surveillance should reduce both the likely scale of IMF financing that may be needed in individual cases and the risk of major crises with widespread contagion effects.
Third, surveillance that addresses vulnerabilities in countries' financial systems and associated financial policies (including debt management) can help to identify situations in which correcting balance of payments difficulties will amplify the adverse effects on an economy. For example, a restrictive monetary policy might endanger an already fragile banking system. Strengthening these systemic weaknesses should ease the task of correcting balance of payments maladjustments and reduce the scale of needed financing.
These recommendations are consistent with a number of recent initiatives that have been taken to strengthen the IMF's surveillance role. In particular, the Interim Committee at its April 1995 meeting agreed that IMF surveillance should be strengthened in a symmetrical manner, as follows:
23Apart from its normal mechanisms for fiscal transfers to lower-income members, the European Community (now the European Union) has previously provided large-scale financial support to Italy and to Greece to assist in dealing with balance of payments difficulties. The European Commission has generally cooperated with the IMF in surveillance over member states, but the European Union has preferred to have its members rely on financing within the Community rather than approach the IMF.
24A facility that enables the IMF to borrow from the largest industrial countries (the Group of Ten countries) and associates.
25 Although the U.S. economy has experienced only a mild cyclical fluctuation (by historical standards) since the mid-1980s, some other industrial countries had quite deep recessions in the early 1990s. However, recessions in different industrial countries have been somewhat out of phase, and fluctuations in the combined activity of all industrial countries have been subdued. Also, in contrast with earlier experience, developing countries as a group maintained strong growth during the early 1990s, despite the sluggishness in the industrial countries.