If There Were No Imf, They'd Have To Invent One

In recent weeks, critics from the right and from the left have launched strident attacks on International Monetary Fund efforts to stem the financial crisis that has swept through Asia like a typhoon. Critics on the right oppose using taxpayers' money to prop up foreign economies that compete with the U.S. They believe that government intervention will mess up the workings of the global financial markets (although the Asian experience reveals that private actors can create quite a mess themselves). Critics on the left see the IMF as the agent of international capitalists, seeking protection from heavy losses caused by their greed and stupidity. They are also outraged by assistance to governments that violate U.S. norms of human rights.

These questions will be hotly debated as Congress considers the Clinton Administration's request for $18 billion in additional resources for the IMF. But as usual, the political debate threatens to shed more heat than light on the real policy issues. Although the IMF has made mistakes as it struggles with a crisis whose causes and remedies are not fully understood by anyone, it has played a responsible role in bringing Asia, and the world, back from the brink of a full-fledged financial collapse. Examining the facts, not the slogans, is the best way to evaluate the IMF's actions in this crisis and to develop recommendations for improving future policies.

HEFTY RISKS. Without question, the most serious concern about the IMF's intervention is that it contributes to the so-called moral hazard problem, whereby economic actors reap the benefits of their decisions when things go well but are protected when things go poorly. If borrowers and investors do not suffer the costs of bad decisions, won't they be encouraged to make more bad decisions in the future? If the system spares the financial market rod, won't it spoil the financial market child? To some extent, the answer is yes.

Creditors' expectations of being rescued by the IMF may have engendered greater risk-taking than is desirable. But the fact remains that investors and lenders are paying dearly for their behavior. According to Federal Reserve Chairman Alan Greenspan, Asian equity losses outside of Japan have amounted to more than $700 billion since June, 1997, with additional losses in bonds and real estate. Foreign banks are now carrying billions of dollars of bad loans from their Asian activities. Under pressure from the IMF and the U.S., they reluctantly agreed to reschedule South Korea's short-term debt and are negotiating a similar deal with Indonesia. If investors anticipated that they would be largely insulated from the costs of their risky decisions in Asia, they have been sorely disappointed.

LESSER EVIL. A second area of concern is the deflationary effect of the IMF's restrictive monetary and fiscal policy conditions. Won't such conditions cause bank and business failures, trigger a deeper recession, and limit government spending to help the poor? Once again, the answer is yes. But is there a viable alternative? Imagine how foreign investors would have reacted to the IMF advising Asian governments to boost deficit spending and relax monetary policy. The fund prescribed slightly tighter fiscal policy and higher interest rates to stop the free fall of currency values. By the time the Asian economies turned to the IMF, there was little else to do.

Once the panic took hold, prudence dictated that Asian currencies should be allowed to float, at least till confidence in the market was restored. The depreciations of the Asian currencies are not by IMF design. Nor do they reflect market fundamentals. Values have fallen to levels that are understandable only in the context of a sudden shattering of market confidence. Any attempts to support exchange rates during a period of panic are doomed to failure, depleting government reserves and necessitating even bigger infusions of IMF funds. That's why the IMF advised the Asian economies to float their rates, and that's why the IMF strongly opposes the introduction of a currency board in Indonesia at this time.

There is room for improvement in fund practices and policies. The fund must find better ways to bind creditors in, rather than bail them out. And it should do more to fashion its programs to reduce their impact on the poor. But if the world did not have an institution like the IMF to offer temporary financial assistance and technical expertise and to exert multilateral pressure for reform, it would be necessary to invent one. In the meantime, the global economy would run the risk of another contagious financial collapse such as the one in the 1930s that motivated the IMF's creation in the first place.

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