The International Monetary Fund (IMF), long criticized as being populated by disconnected technocrats and overly favorable towards the industrial countries, has taken on a role of greatly increased importance in the world economy since the financial crisis erupted last year. As the dust from the crisis settles, many are calling for IMF restructuring to reflect the rising influence of emerging markets around the world.
Carnegie sponsored the second Twenty Roundtable meeting to address the role of the IMF in the changing world economy, and to foster dialogue among Washington’s senior diplomats around the questions:
- Has the IMF changed?
- Can it carry out its mandate of providing international financial stability?
- What can we expect from IMF reform?
- Does the IMF have the necessary tools?
In response to the global recession, leaders at the recent G20 summit in London committed to large increases in IMF resources, prompting a worldwide debate on the need for IMF reform.
Agreement that IMF reform is needed
A general agreement was evident on several points, most notably that some form of IMF reform is needed:
- The IMF must alter its governance structure to reflect the rise of emerging markets. However, political constraints hamstring the IMF’s capacity for comprehensive reform. Heads of state, and not just financial leaders, must put their weight behind reform efforts. The upcoming G20 meeting is a critical point in determining the future of the Fund.
- Nevertheless, if the IMF’s reputation is to improve, there must be tangible results from its reform agenda; otherwise, the IMF will lose credibility and further alienate important constituencies in emerging markets.
- The IMF needs increased resources to deal with this crisis or the next, and must be more flexible in its lending criteria. It also should pay more attention to the social impact of the measures it recommends. The Fund’s managing director should be selected on merit, not on nationality.
IMF reform is already underway
Several points were raised as evidence that the IMF is already making the necessary changes. Arguments in favor of current IMF lending practices were also made, contending that an uneven governance structure has not prevented the IMF from being even-handed.
- The IMF has already made a number of adjustments in recent months to become more flexible and transparent. Countries with sound policies and economic fundamentals now have access to essentially unconditional IMF credit lines, nonconcessional loan limits have been doubled, and conditionality has been streamlined to focus on the essentials of crisis-fighting.
- The assumption that quotas (yearly fees that determine voting power) are divorced from economic reality is inaccurate. Using purchasing power parity exchange rates, the world economy is roughly half emerging markets and half advanced markets. Only slightly less than sixty percent of IMF quotas are from advanced economies.
- These changes have started down the slow and bumpy road to inevitable reform. The only questions that remain relate to the speed and smoothness of this transition.
- Expectations of rapid change are unrealistic, given the enormous political obstacles that comprehensive IMF reform faces.
- After the financial crisis, the IMF quickly called for fiscal stimulus of 2 percent of GDP in those countries that had financial room for spending, not simply for rich countries. Spain and Italy, despite being among the biggest economies in the world, were excluded from the list of countries recommended to enact fiscal stimulus.
- Discrepancies in policy recommendations for poor countries and policy practices for rich countries exist because the IMF only has the power of persuasion over countries that are not borrowers, not because the IMF favors wealthy economies. The IMF recommended that South Korea reduce its fiscal deficit and let its banks fail during the Asian financial crisis because it was the best policy action given South Korea’s means at the time; the IMF endorsed the United States bail out of its banks because the United States had the ability to fund such measures.
- The IMF may sometimes recommend painful policy prescriptions to countries in crisis, but the Fund’s role is similar to that of a doctor performing necessary, but nevertheless painful, surgery. The IMF does what it can to reduce the pain of a crisis, but expectations that crises can be dealt with painlessly are unrealistic.
The new IMF, same as the old IMF?
Other participants argued that there have been no substantive changes to the IMF, and it remains a “EuroAtlantic” organization. Furthermore, the IMF is unlikely to change.
- Regardless of internal reforms, the IMF faces a basic problem of legitimacy because of its antiquated governance structure. Unless the IMF corrects the uneven distribution of authority within the Fund, it will never represent a truly “international” constituency.
- Though the distribution of voting power between emerging countries and developed countries may not be as skewed as many think, it is clear that many countries are severely underrepresented, and the Europeans are hugely overrepresented. Europe’s overrepresentation could be solved by consolidating it into a single voting bloc.
- Without comprehensive reform, the IMF’s lending practices till continue to lack objectivity and evenhandedness. Developed economies and countries in Eastern Europe will continue to be favored over emerging markets and Asia, as the IMF’s recent program in Latvia proves. Despite a huge current account deficit, Latvia was not required to devalue its currency, unlike many Asian countries during the Asian financial crisis.
- A lack of representation breeds feelings of division and uneven treatment, creating a stigma around the organization. In contrast to developing countries in the European periphery (most of them economies in transition), emerging economies believe that they have been mistreated by the IMF, discouraging them from turning to the Fund in times of need. Even during the current crisis, Asian countries have been reluctant to apply for IMF loans.
- Only the unlikely ceding of power by Europe and the United States (which effectively holds a veto on important decisions) would deal with the Fund’s legitimacy problem.
- Unfortunately, the sense of urgency generated by the recent crisis has nearly passed, and reform via “evolution” is highly improbable.
Despite its efforts to change, the IMF still faces a perceived legitimacy gap. The IMF’s legitimacy gap is not an isolated instance—many international organizations and informal groups face the same problem: governance structures that were designed by today’s rich countries and are perceived to neither adequately reflect the needs of developing countries, nor their rising weight in today’s globalized economy.
Carnegie's Twenty Roundtable provides senior Washington representatives of the G20 nations with a forum for discussing key economic and political issues confronting their countries as they deal with the global financial crisis.