The real cost of IMF rescue deals
The money has to come from somewhere - either from Western taxpayers or their central banks
Monday 16 November 1998
But at the very same moment that the IMF has been critical to the health of the world system in this regard, a powerful political and intellectual assault on the institution is being mounted, especially in the United States. This raises huge question marks about the future role of the organisation, and indeed whether it has any real future at all.
The present structure of the IMF is a relic of the reconstruction of the world financial system which immediately followed the Second World War. Learning the lessons of the 1930s, the great Western powers decided that free trade should be made central to the new world economic order and, because of the risk of competitive devaluations, they decided that this would not be compatible with an era of floating exchange rates. Under the Bretton Woods system, the major exchange rates were therefore fixed, both against gold and against each other, subject only to infrequent adjustments when "fundamentals" changed irrevocably.
The key role of the IMF in this system was to provide a multilateral source of temporary liquidity for countries which ran into balance of payments difficulties. By providing such liquidity, the IMF could give troubled countries more time in which to adjust their domestic economic policies in response to international trade problems, thus maintaining political support for the free trade/fixed exchange-rate system.
With the break-up of the fixed exchange-rate system in the early 1970s, the Fund increasingly focused its attention on the emerging world. Initially, the bulk of this work related to traditional balance of payment financing for countries which hit problems on their trade balances. But, by the 1990s, the massive increase in the scale of private sector capital flows into the emerging world meant that the IMF inevitably became enmeshed in problems on the capital account of the balance of payments, rather than on the trade account.
This soon entailed a wide range of new dangers and pitfalls. In the 1994/95 Mexico crisis, and in the 1997/98 Asian and Latin American crises, IMF lending to troubled economies has had little to do with the traditional task of smoothing the process of trade adjustment, but instead has been intended to prevent widespread defaults in the financial system. The provision of liquidity to help countries with trade problems had been transformed into a form of bridge lending for countries with insolvent financial systems.
In the rare instance that the IMF has bungled in this new role - notably, Russia 1998 - the consequences for the world's financial system have been extremely disturbing. However, according to many economists, the deeper long-term consequences of the IMF packages themselves, even where successful, have been equally disturbing. For example, it is clear in retrospect that the allocation of IMF funds to Korea last year had the effect - whether intended or not - of bailing out the Western banking system. International money sent to Korea was immediately used to pay down foreign bank debt which would otherwise have been subject to a high risk of default. As the chart shows, the swing in bank lending to the five Asian crisis economies amounted to around $70bn between 1996 and 1997. It is highly unlikely that Western banks would have been able to withdraw funds on this scale in the absence of IMF packages.
Up to a point, this result was to be highly welcomed. The Russian example shows that the alternative to IMF action - major defaults on bank debt, leading to a much greater risk of recession in the world economy - would have been much worse in the short term. But the IMF programmes inevitably involve major disadvantages, and it is disingenuous to deny this.
First, the money has to come from somewhere - in point of fact, either from taxpayers in Western economies or from the central banks which they ultimately own. Typically, though, these taxpayers have no idea that their money is being spent in this manner.
Admittedly, the vast majority of IMF lending is repaid in full, and at attractive rates of interest for the lending country. But sometimes (for example, in the recent case of Russia), these loans are not repaid, disappearing instead into Swiss bank accounts. And, in all cases, IMF programmes imply that taxpayers are assuming risks that the private sector is not willing to assume. This means that there is an implicit transfer of wealth away from the taxpayers of the lending countries.
Who are the beneficiaries of this implicit transfer? Obviously, the most direct beneficiaries are the shareholders of Western banks, who would otherwise suffer much larger write-offs on their emerging market loan books. This transfer from the general taxpayer to the bank shareholder almost certainly implies gains by the rich at the expense of the poor. It is not difficult to imagine what would happen if a political party openly proposed such a programme to its electorate, which is perhaps why governments are generally at pains to disguise these effects of IMF programmes.
This is not all. Within the emerging nations themselves, the arrival of the IMF is typically used as the excuse needed by governments to raise taxation in order to "recapitalise" their domestic banking industries. Once again, this involves taxing the general population to bail out bank owners, who are usually mega-rich industrial oligarchs. These transfers within the emerging nations have recently been of truly herculean scale, amounting to 25 per cent of GDP or more.
Many economists would argue that these latter transfers have little to do with the IMF, since they would be necessary anyway in order to rescue the banking systems in countries like Mexico or Thailand. But there is a genuine issue here. Why have these bank losses recently become so extraordinarily large? When bank failures were common in the industrial countries during the last century, the losses rarely amounted to more than a few per cent of GDP. Even the widespread bank failures in the US in the 1930s cost no more than 4 per cent of GDP. So what has suddenly happened to produce a position in which bank losses have increased almost tenfold?
It is hard to avoid the conclusion that the massive growth in international bank lending from the OECD economies to the emerging world has been central to this process. After all, in the Asian crisis economies, foreign bank debt had grown to 25 to 45 per cent of GDP just before the storm broke. And it is hard also to escape the suspicion that Western banks were willing to take on such huge exposures partly because they expected IMF help to be available in case of problems. The 1995 Mexican bailout certainly encouraged this belief.
If Western governments subsidise risk-taking activities, they can hardly be surprised when levels of risk rise to intolerable levels. This is a problem that needs to be addressed as soon as the present crisis subsides.
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