Role and Policy Conditionality of the International Monetary Fund - Research Paper Example

Financial Crisis The first decade of the twenty-first century has seen a series of severe financial crises, including the dot-com bubble burst, the financial crisis of 2007-2011, the Great Recession of 2007-2008, and the European sovereign debt crisis of 2010. Apart from being in the twenty-first century and the availability of technological tools to detect and rectify financial crises, these economic downturns still occur with some devastating magnitude. Furthermore, there are financial institutions such as the International Monetary Fund (hereafter IMF) purposely established to deal with financial crises. However, the frequency and severity of recent economic downturns, such as the Great Recession of 2007-2008 and the European sovereign debt crisis of 2010, have led to queries and criticism concerning the role and policy conditionality of the IMF (Khor, 2008). In this regard therefore, the IMF faces a legitimacy crisis with the public, credibility problems in relation to recipient countries, erosion of confidence within confines of major shareholder countries, as well as a contentious debate on the strategy and policy of financial body. In mid 2000s, the management of IMF embarked on making recipient countries own policy conditions more stringently than before. However, genuine ownership only results from the participation of recipient countries in designing and implementing policies, which is rarely the case as IMF imposes policies to governments and people often against their will. Moreover, policies would be acceptable if they proved workable. However, majority of the IMF policies have failed, making recipient countries experience stagnation and even debt entrapment instead of growth, recovery, and debt repayments. The main problem is democracy in the process of policymaking by IMF and the subsequent appropriateness of the policies (Pop-Eleches, 20009). Without resolving these issues, pressure and persuasion will not institute genuine ownership. Evidence from recent events shows that a crisis is also present in the development paradigms and development thinking, but the future holds changes. In the past, the IMF operated on bias purely relying on state for development. This, however, changed to the extreme of total reliance on globalization and in the private sector. With the recent economic downturns, the pendulum seems to be swinging back. Experts argue that the emerging openness concept may have good and bad effects, depending on the development stage and condition of a country. Economic experts have pointed numerous problems in the crisis management of IMF and the substance and process of IMF conditionality. These flaws and asymmetries call for better management (Dyran, 2011). The current crises management system has numerous problems, discussed here in brief. The first and most significant problems eminent in crisis management are absence of well-designed debt resolution systems, thus positioning the debtor countries at the losing end. Currently, debtor countries do not have any form of organization amongst themselves. As a result, most financial crises often catch them unaware, without sufficient knowledge to plan and think properly. Creditor countries, on the other hand, have well-defined organizations, thus are able to plan effectively to achieve maximum returns from debts. Consider the scenario of the Europe debt crisis. It is evident that a system in which creditor and debtor countries come together within a well-defined framework to design and coordinate responses in a fair and orderly manner. Rather, there is often a stampede created by the exit of investors and creditors (Pop-Eleches, 20009). Therefore, the debtor countries face enormous capital flight by both locals and foreigners, particularly in absence of capital outflows controls. There is need for a comprehensive system of debt workout and arbitration. This may be through a debt standstill declaration by the indebted country as well as an international procedure for debt review presided by an international panel or court. This procedure would perhaps involve a fair and orderly workout of debt, including rescheduling of loans, provision of new loans to promote recovery, and writing down some loans. In this manner, the financial is shared between the creditor and debtor based on established procedures and criteria. The body should also promote “bailing in”, which essentially means that the private sector incurs a fair share of the loss and rescheduling of loans (Copelovitch, 2010). The second problem involves flaws in the process of IMF conditionality. Despite the signing of letters of intent by governments in recipient countries, past evidence shows that recipient countries do not have adequate space to negotiate for reshaping or removal of some conditions. With the limited participation and the fact that the recipient does not confer to most of the conditions, genuine national ownership is difficult to achieve. In the event that national authorities agree genuinely to these conditions, some groups may oppose the policies. The third problem relates to the quality and content of the policies. There are numerous indicators of failure of IMF policies. Majority of the countries that became indebted to the traditional mode after the dot-com bubble burst of 2000 (primarily through current and trade account deficits as well as problems with repayment of public sector loans) faced conditional policies (Dyran, 2011). Majority of them did not experience social development or economic growth or exit from debt crisis prior to the Great Depression of 2008. Statistics indicate that more than 80 developing countries in the aftermath of the Great Depression had per capita incomes far off compared to the previous decades. Moreover, these statistics indicate that the decline in most developing countries was longer and deeper than the Great Depression of the 1930s. Furthermore, about fifteen countries that were performing exceptionally well all fell victim to the Great Recession, particularly because the crisis was a result of the capital account development. Experts widely believe that the IMF policies for these countries were inappropriate. The criticism for the IMF conditionality policies infers three major reasons. First, experts argue that the conditions tend to be intrusive (over-reaching) in that they have became wide in range to incorporate structural policies not necessary for managing the crisis. Second, the competence of financial and core economic areas of the IMF prove inappropriate due to the contradiction and lack of growth (Khor, 2008). Last, the design of the policies does not accommodate social impacts, thus the impact of adjustment significantly impacts the developing countries at the expense of public and social services. The other problems of the system of crises management include the broad scope of conditionality, problems with the core competences of IMF policies, and poor design of IMF policies that exclude the social development perspective. Adverse social impacts result from several mechanisms and policies. The contract-like fiscal and monetary policies cause retrenchment, negative or low growth rates, higher unemployment, and recessionary pressures similar to the Great Recession of 2008. One of the policy of IMF during financial crises is to advice governments to reduce spending, thus leading to reduction in funds for education, health, and other important public services (Copelovitch, 2010). This impact of switching provision and financing in developing countries has negative impacts, and may result to a hike in the cost of living. Consequently, this leads to higher unemployment, income loss, reduced accessed to essential public goods and services, and poverty. References Copelovitch, M. (2010). The International Monetary Fund in the Global Economy: Banks, Bonds, and Bailouts. Cambridge: Cambridge UP. Dyran, M. (2011). Financial Crisis Management and the Pursuit of Power: American Pre-eminence and the Credit Crunch. Surrey: Ashgate Publishing Limited. Khor, M. (2008). A critique of the IMF’s Role and policy Conditionality. Retrieved on March 30, 2012, from: http://www.twnside.org.sg/title2/ge/ge04.pdf Pop-Eleches, G. (2009). From Economic Crisis to Reform: IMF Programs in Latin America and Eastern Europe. Princeton, New Jersey: Princeton UP. Read More