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The IMF Beyond Its Time
The IMF Beyond Its Time
September 27, 1999
Originally published in The Washington Times
Recent scandals involving the International Monetary R Fund have prompted Congress to seek ways to reform the IMF's lending practices. Rather than applying another bandage to the chronically ill patient, however, Congress should pull the plug. The IMF's ostensible mission, to aid in the economic development of countries, will always rail because it encourages risky financial behavior and bad macroeconomic policy A federal money laundering investigation conducted by the U.S. Attorney's office in Manhattan has 'uncovered the possibility that billions of dollars of IMF, funds may have been diverted to Russian mobsters and government officials. If true; it's not surprising. Corrupt foreign rulers have been diverting development aid to their private bank accounts, for decades. The IMF has also discovered, in the process of approving a $4.5 billion debt-rescheduling loan to Russia, that the Russian Central Bank lied about its foreign exchange reserves, giving a false picture of its creditworthiness. These scandals, though serious, should not distract Congress from the IMF's deeper, irresoluble problems.
The IMF gives loans to countries that are experiencing economic difficulties. These loans are given for a variety of reasons but primarily they are meant to lure foreign investment into countries with troubled economies. The problem with this scheme is that IMF money shores up a country's reserves without improving the fundamental soundness of the economy. IMF loans come with conditions that require the country to implement sound fiscal policies (whether the IMF's advice is sound or not is another hotly debated issue) in an attempt to create a stable economic environment for investors. Unfortunately, recipient countries frequently violate the loan conditions with few or no consequences. Generally, the IMF simply waives or modifies the conditions.
Some members of Congress have strongly criticized the IMF for inadequate monitoring and enforcement of loan conditions. But the IMF has little incentive to enforce such agreements. Strict enforcement of loan conditions would have two effects that would be unpalatable to the IMF. First, enforcement would requite the IMF to stop giving money to countries out of compliance. This is the only enforcement mechanism available to the IMF. The threat is not credible, however, because it is in the IMF's interest to continue lending money, since that is what it does. Second, the IMF would have to admit that debtor countries are in default on past obligations. The IMF claims that no country has ever defaulted on its loans. They accomplish this, however, by ignoring noncompliance, renegotiating conditions and rescheduling or refinancing debt.
IMF money also lessens the incentives for foreign governments to act.. responsibly. Even corrupt governments have an interest in seeing some economic growth in their countries. Economic growth means that there is more wealth to confiscate. By providing an outside source of wealth, the IMF eliminates the need for, economic growth. Moreover, to qualify for
IMF loans a country must be experiencing economic difficulties, a sure-fire incentive for poor economic performance. According to Harvard University economist Robert Barro, IMF loans to Russia "provided an excuse to avoid making tough political decisions. Instead of cutting public outlays or increasing tax collections, under-' taking efficient privatizations or enacting legal reforms, the government counted on foreign bailouts to hold things together!"
With the Mexico bailout in 1995, the IMF began a dangerous game of rescuing countries whose governments make bad macroeconomic' policy. This act sent a strong signal to lenders to foreign countries that if a government runs its economy into the ground, it would cover their losses. Economist and Nobel laureate Milton Friedman has argued that this implied guarantee to investors led to the financial crisis in Asia.
According to Mr. Friedman, when investors saw Asian countries pegging their currencies to the dollar they invested heavily hoping the peg would hold, but knowing "that if it didn't the IMF would do something, as indeed it did!' Moreover, said Mr. Friedman, these bailouts don't help the poor who are suffering from recession, but "the bankers in New York and in London, and Berlin'? who make loans to these countries.
In tackling the IMF problem, Congress should look at the history of reform in other. .international lending institutions. A few years ago, the World Bank, another international bureaucracy that loans money to foreign governments, came under heavy attack for funding environmentally destructive projects. That culminated in the creation of a new appendage to the
World Bank, 'the Global Environment Facility, and billions in new funding, with no noticeably improvement in environmental: practices.
Congress should heed this lesson and not allow IMF reform to turn into more funding fora failed instil tution. The only real solution, as, Milton Friedman has proposed, is to abolish the IMF.