An IMF Just for Emerging MarketsSimon Johnson
Fresh from its annual meeting in Istanbul on Oct.6-7, the International Monetary Fund is taking a moment to celebrate itself. The IMF rediscovered its role as a lender of last resort in the global crisis (with Iceland a notable rescue). Earlier this year it got an extra $500 billion from member countries to triple its lending capacity. And it is positioned to manage the G-20's much-hyped peer review of countries' monetary, fiscal, and financial policies.
But below the surface, problems are intensifying: The IMF's ability to stabilize the global economy may hit a wall because of resentment among emerging economies. Developing nations have long complained about the extent to which the U.S. and Western Europe dominate the 186-member group—and about the austerity the fund traditionally imposes on borrowers.
Increasingly, many of these nations are reluctant to borrow from the fund. Instead, they run current account surpluses—exporting more than they import and holding the extra proceeds as foreign exchange reserves. Forex reserves are now more than 15% of global gross domestic product, up from less than 5% in 1993—with emerging economies counting for most of the change. Hanging on to this cash depresses global trade and makes it harder to sustain a recovery. (It also lowers U.S. export levels.)
The solution? Developing nations should form an Emerging Monetary Fund, or EMF.
The structure of the IMF made sense when it was set up after World War II. The U.S. (the main creditor) and European nations (the likely borrowers) were the major countries of the capitalist world, with voting rights balanced between the two. Over the next 50 years, colonies gained independence, communism fell apart, and—most important—some fast-growing East Asian economies became part of world financial markets. But the IMF is still dominated by the U.S. and Europe.
By the early 1980s this was irksome to the developing world, leading to accusations that the IMF helped banks over borrowers in the Latin American debt crisis (in the case of Bolivia, for example). It became more than irksome in the Asian financial crisis of the late 1990s, when the IMF backed deeply unpopular policies, including severe fiscal austerity for South Korea, Thailand, and Indonesia. And last year anger surfaced over the hands-off approach to problems in the U.S. and Europe. Argentina's IMF board representative, Hector Torres, argued publicly that the IMF failed to spot the subprime crisis because it doesn't hold the U.S. to the standards it applies to emerging markets.
To be effective, an international lending organization must be trusted by potential borrowers. If a fire breaks out in your house you want the firefighters to put it out as soon as possible, not insist you clean the basement first. And you don't want the firehouse to be run by a group with a self-serving agenda.
An Emerging Monetary Fund—an idea supported by such experts as Arvind Subramanian, a senior fellow at the Peterson Institute for International Economics—wouldn't have the U.S. and Western Europe at the table. But it would have little trouble funding itself. Brazil has more than $200 billion in hard currency reserves. Russia has some $400 billion; China an eye-popping $2 trillion.
As for loan policy, at first the group could copy the design of the Flexible Credit Line, a new IMF loan with few strings attached. So far the loan has only three takers—Poland, Mexico, and Colombia—because other eligible countries, particularly in Asia, are still wary of the fund. An EMF version would likely draw dozens of customers and immediately play a stabilizing role.
Since an EMF would be open to all countries in Latin America, Africa, and Asia, it could easily reach 100 members. And it could work with the IMF, which could specialize in very difficult cases. The EMF would be your friendly neighborhood physician or pharmacy; the IMF could run intensive care.
An EMF would create a much needed buffer in a world of turbulent capital flows. And the U.S., which sees big trade surpluses in China and other nations as destabilizing, would benefit. Until emerging nations have a lender they feel they can rely on, they'll continue to build currency reserves. They need a fund they can trust.
Jack and Suzy Welch are off while Jack recovers from a back infection.