Why we need the IMF

Part 1: What's making IMF less relevant

IMF surveillance focusses on two related issues: the sustainability of a country's policies and their external effects.  While the exchange rate is at the heart of the IMF's mandate for surveillance, the level of the exchange rate is just one of the gauges of the appropriateness of policy.

Why do we need the Fund to analyse the sustainability of a country's policies? In the past, one hurdle used to be that countries simply did not have the high quality personnel or the wealth of data and country experience the Fund staff had. Increasingly, though, our member countries recruit officials with qualifications comparable to those of Fund staff, and have access to the same databases that the Fund uses. While they do not usually have the wealth of cross-country experience we have, countries do talk to each other.

A number of observers have offered valuable suggestions on improving the quality of Fund surveillance - sharpening Fund advice, adopting a medium-term framework for Fund advice with some kind of a scorecard on how well the Fund's advice has been adhered to, being more explicit on disequilibrium exchange rates, making surveillance more "independent", etc.

Many of these imply subtle shifts in emphasis in what the Fund does rather than radical changes. While I would be the last to say the quality of Fund advice cannot be improved upon, let us be clear about where the problem really lies.

The suggestions are likely to have only marginal impact unless our members - especially those with the most systemically important economies - decide they truly want to listen to the Fund, they truly care about multilateralism.

And multilateralism begins at home - for example, industrial countries cannot press in public for the need for Fund transparency and candour, while discouraging the Fund, when it comes to their own countries, from holding a press conference to disseminate its findings at the end of a surveillance mission.

I do not have any illusion that the spirit of internationalism will suddenly be reawakened. But there is reason for hope. Surveillance is likely to be most effective when countries use it as a basis for constructive give and take, and not as a means of censoring each other.

As industrial countries recognise they are affected by policies in advanced emerging markets like the BRICs (Brazil, Russia, India, and China), they want to be able to influence those policies.

But the advanced emerging markets no longer need funding - at least for the foreseeable future. They are unwilling to be lectured to. At the same time, they too want influence over the policies of the industrial countries, for these have serious external effects.

If the Fund can re-engage both groups more, it will not only be the natural and legitimate forum for much needed multilateral dialogue (given its near universal membership), it will also be a more effective one. And it will be better able to serve its poorest members.

The obvious countries to re-engage first, in my view, are the advanced emerging markets. I argued earlier that the advanced emerging markets still have vulnerabilities - such as underdeveloped financial sectors - that are being papered over by massive reserve holdings. As I have just suggested, the underlying imbalances driving the reserve build-up may reverse in the future.

As the reserves of advanced emerging markets fall, they may well want to re-engage with the Fund, but on their own terms. They will be open to some kind of insurance from the Fund, but will be wary of the creditor-biased conditionality that they believe accompanies it. Some industrial countries do not want to offer automatic access for fear of encouraging lax policies or moral hazard.

Is there any way to satisfy both potential debtors and creditors, draw the advanced emerging markets back to the Fund, and in the process give industrial countries more of an incentive to engage?

A proposal for future Fund 'insurance' to emerging markets

Let me speculate on what a potential solution could be. The more automatic access a country wants to financing in the case of crisis, the more pre-screening is necessary. One way to offer this is to condition a country's automatic access to Fund financing on the quality of its policies, as determined by regular Fund surveillance. If a country's policies are judged to be sensible, its access to automatic financing in case it is hit by an unexpected shock improves.

Access to automatic financing then becomes a precise, meaningful, and continuous signal of a country's policies. Precise because it is a number, meaningful because it implies automatic access, and continuous because it is constantly updated based on a country's policies. Such a system of "ex ante" conditionality would give countries added incentive to stay on the straight and narrow, even outside normal Fund programs.

Industrial countries may be reluctant to provide financing for such a scheme. But there may be ways of minimising the call on their purse. The range of innovative possibilities that would give advanced emerging markets more of a say over Fund policies, a greater role in financing, and more attractive insurance facilities from the Fund, is large and is well worth further examination. Indeed, the Managing Director has called for such an examination in his strategic review.

With advanced emerging markets more engaged, perhaps industrial countries will also see more value in the Fund as a forum for dialogue, and the spirit of internationalism will be rekindled once more.

Let me conclude. A little over 60 years after Bretton Woods, it is legitimate to ask whether the Fund indeed has a role. I have no doubt that it has, but the role is not the same as the one that was envisaged at the time of its founding. The times have changed.

So has the Fund, and more change will be needed. The Fund is not perfect, and we have a host of critics - well-meaning and otherwise - to remind us of that. But in my view the greatest danger to the Fund, and to other multilateral organisations, is not that its superb, highly motivated, and qualified long-time staff will be found lacking, but that the spirit of internationalism that abounded when it was set up is faltering.

As emerging markets grow and gain economic power, they do not seem as interested in multilateral dialogue, or in combining forces to mould multilateral institutions in ways they think appropriate.

Growth and increasing self-confidence are leading to disengagement. Industrial countries do not help by holding on to archaic power structures, or by attempting to exercise the influence of an era that is long past. We have precious few multilateral institutions. We owe it to the generations that bequeathed these strong institutions to us, as well as to the generations that will follow, that we rediscover the spirit of internationalism.

(Concluded)