The IMFs Influence in Global Financial Governance - Coursework Example

The IMF’s Influence in Global Financial Governance Introduction Dominique Strauss-Kahn, former director of the International Monetary Fund (IMF), once stated that the agency is like a doctor and money is the medicine. However, the countries, who are the patients, have to alter their habits if they want to recover from their “illnesses.” There is no other way around it (Arslanalp and Tsuda, 2012:22). The IMF cautioned the world about the US real estate bubble and its implications, but “politicians never want to hear bad news.” When the crisis took effect in the fall of 2008, as forecasted, it took Europe, which always delays in making decisions, too long to respond. Countries like India and China are growing in importance. They have large markets that have enjoyed lengthy periods of stability and are pertinently powerful (Caprio, 2013:39). Whenever the IMF director visited China and other Asian countries, the leaders there informed him that Europe has been written off from their economic plans. Emerging markets want a strong Europe, but this is difficult to achieve because there is always one region of the world that lags behind. They argue that in the past they were viewed as the stumbling blocks to rapid international development, but now it is Europe. Discussion Officials at the IMF reckon that the world cannot survive without Europe, so it must put in place the necessary measures to ensure that there is balance in international development and in the global economy, and that Europe remains active and influential in global economic affairs (Tucker, 2012:54). The IMF has always been viewed as an agent for European development, the same way the World Bank is seen as an American initiative that supports American interests (Davies and Green, 2013:26). In fact, virtually all of its directors have been European, showing that it is meant to serve the interests of the European continent. However, its role and influence in global development cannot be underestimated. It influences various aspects of global financial governance, and this influence cane be felt across the world depending on its actions and intentions (Lutz and Kranke, 2014:310). Some experts have argued that the IMF wants to institute a new world order, which could make the world a menacing place for those who are unprepared for its attributes. Europe is still convinced that the world revolves around it, but in reality this notion has become quite vague. The biggest question now is whether Europe will maintain its role in a game that has welcomed many players; that is not automatic (Rogers, 2012:71). The United Nations has become less influential and important over time, and its influence in various global issues – especially international financial governance and peace – will continue waning (International Monetary Fund. Finance Dept., 2014:45). It has also become less dynamic and sluggish, and this does not bode well for the future of global financial governance. The world needs a body that can take control of international financial matters and set benchmarks to guide the whole industry at all times. Apart from the World Bank, whose influence is also declining, the IMF is the only option. The UN’s waning influence is accompanied by the United States’ reducing role in international financial governance, just like the World Bank – its economic tool. Previous directors of the IMF and other economic experts have pointed out that it was the United States that responded to the 2007/2008 global financial meltdown not with a long-term plan, but bank by bank (Vitek, 2012:104). It believed that each obstacle was the final one, and stuck to its approach even when it did not seem to be working (International Monetary Fund, 2013:56). This display of ineptitude showed that America and its agencies could not be trusted with the world’s economy and financial governance. The time was right for the IMF to step in and restore some order in international financial regulation. In recent years, the IMF has used the G-20 in the development of solutions to global financial challenges, and the two entities have developed a highly effective working relationship that has given the IMF unprecedented power in global financial governance. For instance, at the height of the 2008 financial crisis the group gave the IMF over $850 billion and the task of solving the crisis (Moschella, 2013:57). This has been heralded as the biggest ever international coordination effort. Some analysts argue that the IMF’s influence in global financial governance during the 2008 financial meltdown officially made it the first post-crisis global government. Although this may sound a little far-fetched, the fact is that the organisation’s influence is growing by the day and it is becoming a major force in global economics (Stone, 2011:43). Outfits like the G-20 do not function as a government, but the IMF does. They were very determined to cooperate during the 2008 crisis, but their impact became more muted from 2009 onwards. The more finance ministers and political leaders believe that the crisis ended completely – whether they are mistaken or not – the more they worry about their own problems and less about agreements and coordination (World Bank Group, 2014:68). As a result, another entity must step in and perform a role that no country or countries seem to be eager to undertake. Ideally, the IMF should be an administrative division of the G-20, a body that attempts to find remedies for national and global problems and creates plans and values. However, its influence has exceeded such miniscule limits and now reaches even the BRICS (Brazil, Russia, India, China, and South Africa). Currently, it seems that the IMF is aiming at more than just the economic and financial standards (Carraway, Rickard, and Anner, 2012:39). The ultimate objective, of course, is global peace via economic stability. This is the way analysts and the IMF’s senior figures view the organisation (Palan, 2013:45). The remarkable thing is that hardly anyone, apart from a few personalities in academia, disagrees with this perspective. Theoretically, the IMF could shape fiscal and monetary policy using many channels, including advice to policymakers, moral hazard it instills in borrowers, and conditionality (Gill, 2012:37). However, what is the true extent of the IMF’s influence in global financial governance? There is proof that involvement in the agency’s Standby-and Extended Fund Facility agreements improves global financial governance. Money allocated and the extent to which a program is enforced does not have much systematic impact. This also applies to future availability of resources as estimated by exhaustion of individual countries’ quota with the agency (Joyce, 2013:47). The agency has come under increasingly intense attacks and scrutiny, with some of the strongest criticisms targeting the ineffectiveness of its conditionality and initiatives. The channels through which it can influence global financial governance, however, have seldom been made public (Clegg, 2014:735). In principle, the IMF influences global financial governance through its allocated or available funds, its policy advice, and the conditions that accompany its loans. The overall impact of the agency depends on the net impact of those channels. Nonetheless, the available literature, thus far, has made few attempts to separate them. The few attempts have focused on the influence of the IMF on economic development in the borrowing nations (Paloni and Zanardi, 2012:26). On compliance, three proxies can be used to measure whether enforcement of the Fund’s conditionality affects economic policies (Kegley and Raymond, 2012:79). Many scholars have combined literature on agency’s economic policy with those covering compliance. When the endogeneity of the agency’s programs is sufficiently managed for, there is some proof that Standby- and Extended Fund Facility Arrangements lower money growth and budged shortfalls (Paloni and Zanardi, 2012:27). In spite of this, this finding is independent of the extent to which the program is enforced, as estimated by permanent program disruptions, the portion of funds agreed upon that is actually allocated, or accordingly, a metric based on the portion of conditions that is respected. IMF loans allocated and available have no impact on economic policy. Measuring the application of the Fund’s conditions is not simple (Gould, 2003:551). Many earlier researches used proprietary data, mainly from the agency’s internal records. These researches show that respect of conditionality is often in the range between forty and sixty percent (Kegley and Blanton, 2014:44). Other studies show that the IMF has canceled 138 programs before expiration, achieving a 60 percent rate. Since the early 1990s, the Fund itself avails data on adherence to conditionality. The agency’s database on MONA (Monitoring Fund Arrangements) has data on the enforcement of structural standards and financial criteria that have been developed under its programs (Paloni and Zanardi, 2012:28). In MONA, compliance is rated as a 0-1 measure per criterion. At each evaluation, the mean for a specific program is computed. When a condition is not complied with, and a waiver is applied, the record remains 0 or “noncompliance” (Paloni and Zanardi, 2012:29). Some studies have used MONA data to provide proof of compliance in nations en route to market economies (International Monetary Fund, 2012:28). In 2004, Unigovskaya and Mercer-Blackman conducted a study that examined the IMF’s impact on global financial governance and economic policy. Out of the 33 nations selected for the investigation, only 17 adopted more than fifty percent of the structural standards attached to their programs between 1993 and 1997. In 2001, the agency reported that compliance with structural standards in fifty-seven percent of all programs between 1987 and 1999 (Spero and Hart, 2012:32). Adherence to performance standards was about 10 points higher. On the other hand, previous interventions have been enforced in 80 percent of the assessed programs (Paloni and Zanardi, 2012:34). The most common estimate of implementation of the IMF’s programs has been a proxy recommended in 1995 by Killick. He used IMF loans disbursed but left unused at the expiry of programs as a measure of performance under a specific program (Lamdany, 2013:53). When twenty percent of the agreed loans left undrawn upon expiry of programs is considered as cut-off, forty-seven percent of the Fund’s programs are completed. Killick’s study showed that compliance was higher between 1979 and 1993 in previous programs as well as in Standby in comparison with EFF (Extended Fund Facility) deals. Other researchers have highlighted the drawbacks of this approach. Loans may not be withdrawn due to economic improvements. In some instances programs are ratified at a precautionary level only, without any motive to withdraw (Paloni and Zanardi, 2012:57). On the other hand, IMF might allocate its loans even though the implementation of requirements has been low. For instance, it might do this if it feels that considerable improvements have been made, and even for political purposes (McDowell, Thrilwell, and Pagliari, 2013:36). In addition, not all programs suspended and renegotiated quickly after are indications of failure. There is another disadvantage of this strategy of gauging compliance: if countries do not adopt conditions at the start of a multi-year deal, loans will be withheld (Chwieroth, 2010:29). In most cases, these funds will be allocated later, after consensus over future conditions has been reached. Although noncompliance could be devastating during important phases of the program duration, the whole amount is ultimately sent, what Killick’s measure could not indicate. The precise degree of noncompliance is, therefore, difficult to measure and, obviously, this variable accommodates various understandings. There are many ways through which the IMF can affect global financial governance (Clegg, 2013:34). First, program ratification is clearly related to a specific amount of funds. The impact of these funds is, however, not pertinent. Although, theoretically, the Fund’s loans are meant to support economic restructuring, in practice the outcome could be the exact opposite. Loans disbursed raise borrowing countries’ leeway, hence reducing the drive to reform. Consequently, countries could pursue wrong policies longer than they normally would (Duffield, 2007:19). Secondly, availability of the agency’s loans may affect economic policy way before it has been allocated. Based on the moral-hazard theory, the Fund’s lending may be seen as a subsidised income buffer against severe shocks (Polanyi, 2001:18). The insurance plan pushes the potential beneficiaries to reduce their precautions against such effects – or even to deliberately create a crisis. There is a lot of evidence that the equilibrium of payment challenges of the agency’s borrowers have been mainly of their own doing and that macroeconomic performance in the inter-program period has been plummeting as the number of previous programs increased (International Monetary Fund, 2012:49). Involvement in IMF programs, therefore, increases the chances of future programs. As shown by some studies, economic policy is actually more expansive in nations with more IMF credit available (as estimated by the nation’s undrawn loans with the agency). Thirdly, the IMF fixes policy conditions to its credit. Those conditions are usually targeted specifically at enhancing monetary and fiscal policy – often by attaching conditions to credit growth. Adoption of these conditions should, therefore, directly reduce monetary growth and the budget deficit (Broome, 2014:34). Moreover, there are indirect implications: many conditions included in IMF programs target institutional and structural changes. Those changes are meant to make future problems less likely and may enable the achievement of more subtle monetary and fiscal policies. Despite this, it has been proven that program disruptions and noncompliance are quite common (Paloni and Zanardi, 2012:69). If conditions are not adopted, obviously, they cannot affect economic policy in any way. A fourth channel through which the Fund can influence global financial governance is its advice. Its advice is usually discussed openly and may affect politics in the long term. According to experts, one of the agency’s biggest contributions to financial reforms is that it sticks consistently with a specific approach to financial regulation (Cottier, 2012:16). Consequently, the impact of the Fund may transcend the immediate impacts of finance and conditions. Its advice to policymakers can, therefore, enhance financial regulation regardless of a direct conditionality (Seabrooke, 2007:259). Mixing the findings of recent studies with the results of previous studies, IMF programs, loans and conditions appear to be inept in achieving structural financial reform that would inspire greater economic growth and freedom (Griesgraber, 2009:179). Other experts argue that the three aspects also breed moral hazard in the borrowing nations. Although monetary growth and budget deficits are reduced in the course of programs, policies do not grow in the long-term but suffer instead. Research has shown that the IMF is an almost constant supplier of financial aid to several developing nations and emerging market countries (Moschella, 2009:854). Failure to adhere to the conditions and spirit of its programs is not adequately reprimanded by the Fund (Gagain, 2012:37). At worst, it cancels programs. After that, discussions for new programs begin immediately, and new loans are agreed upon and allocated. From here, the circle begins again. There are clear policy impacts. Financial regulation could be improved on a more irreversible basis by first creating conditionality on the basis of ex-ante (Paloni and Zanardi, 2012:43). For instance, all member countries in which monetary growth surpasses an n-year moving mean of real GDP increase by more than x% should be exempted from loans. Regarding fiscal policy, a cap on the budget deficit vis-a-vis GDP could be enforced (as is now the case in the European Union) (Stone, 2008:589). More ex-ante conditions may indicate a stable and solvent financial and banking structure, the activities of foreign financial organisations, and the prompt release of accurate data on a specific country’s financial status, the avoidance of fixed exchange rates, and the freedom of entry (Chey, 2014:46). The current practice of the agency’s conditionality is not enough. To enable public scrutiny, the conditions should be straightforward and few and should be documented without exceptions. The IMF should also be obliged to publicise the implementation of the conditions and, if not, why more installments of the loan have been disbursed (Meltzer, 2011:443). The IMF appears to lend to inept and corrupt countries more frequently than to effective governments. Although many deals break down, the agency immediately begins negotiating a new program following the impasse. Previous compliance does not appear to be vital for future loans. The only precondition for IMF credit appears to be (reported) compliance with specific requirements (Boubaker, Nguyen, and Arouri, 2014:19). Some researchers have argued that implementing conditionality on inept governments leads to nothing but failure. Rather than trying to enforce such conditionality, development organisations should only back governments with “good” policies (Breen, 2013:42). More importantly, they must identify and back reform-oriented countries. Ideally, development agencies would back those governments with grants rather than loans, but the question of whether the IMF should actually be a development agency makes this unlikely (Paloni and Zanardi, 2012:56). Since IMF credit does not inspire reforms in structural policies oriented towards growth, recent criticisms are justified. Several governments and scholars have recommended that the IMF scale back its role in order to limit its activities to important areas of specialisation, offering near-term balance of payments loans, and to allow the World Bank to manage development objectives (Clegg, 2014:285). This could be realised by increasing the opportunity costs of borrowing from the IMF. It could also be possible to eliminate the interest rate subsidy (Berg, 2014:29). The interest rate on credit could even be designed to be contingent on adherence to requirements. Poor or lack of adherence to conditions would attract penalty. Replacing the interest rate subsidy with a penalty as suggested by the IFAC would make the fund the last lender countries would want to approach. In the past, it has been the first port of call for governments seeking credit (Paloni and Zanardi, 2012:38). The IMF’s Contingent Credit Line which was in place from 1999 to 2003 enforced part of these recommendations. Specifically, it supported ex-ante conditionality. However, it had been developed in such a way that it could not operate and, actually, it has never been implemented (Baum and Ribeiro, 2012:32). To qualify, potential borrowers had to register in advance, hence indicating that they foresee a crisis and a need for loans. Conclusion To be effective, ex-ante conditionality must be universal and mandatory. However, it would then be very challenging for the Fund’s major stakeholders to abuse its lending for political purposes (Momani, 2004:880). Considering the obvious weaknesses in the design of the Fund’s lending procedure, why is reforming it so difficult? First, as explained by some analysts, those reforms are just not in the interest of people who have to adopt them – the IMF’s employees. Secondly, those reforms are also not in the interest of the major stakeholders of the agency. It is these stakeholders who deal with the major issues in the agency (International Monetary Fund. Finance Dept., 2014:37). A reform of the Fund’s conditionality and lending must, therefore, target decision-makers in G7 nations. However, even if leaders in those nations could be convinced of the beneficiaries of reforms, incentives to really drive reforms are low. Olson’s concept of collective action holds that with a huge number of stakeholders, the share in the rewards from reforming an institution is small (Bird, 2014:27). Consequently, the governments of the member countries are not interested in assessing the performance of the agency, particularly when the costs of convincing other member states that reforms are important are substantial. References Arslanalp, S. & Tsuda, T. (2012) Tracking global demand for advanced economy sovereign debt, Washington, D.C., International Monetary Fund. Baum, A. & Ribeiro, M. (2012) Fiscal multipliers and the state of the economy, Washington, D.C., International Monetary Fund. Berg, A. 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