[Senate Hearing 106-657]
[From the U.S. Government Publishing Office]
S. Hrg. 106-657
THE MELTZER COMMISSION: THE FUTURE OF THE IMF AND WORLD BANK
=======================================================================
HEARING
BEFORE THE
COMMITTEE ON FOREIGN RELATIONS
UNITED STATES SENATE
ONE HUNDRED SIXTH CONGRESS
SECOND SESSION
__________
MAY 23, 2000
__________
Printed for the use of the Committee on Foreign Relations
Available via the World Wide Web: http://www.access.gpo.gov/congress/
senate
U.S. GOVERNMENT PRINTING OFFICE
66-721 CC WASHINGTON : 2000
COMMITTEE ON FOREIGN RELATIONS
JESSE HELMS, North Carolina, Chairman
RICHARD G. LUGAR, Indiana JOSEPH R. BIDEN, Jr., Delaware
CHUCK HAGEL, Nebraska PAUL S. SARBANES, Maryland
GORDON H. SMITH, Oregon CHRISTOPHER J. DODD, Connecticut
ROD GRAMS, Minnesota JOHN F. KERRY, Massachusetts
SAM BROWNBACK, Kansas RUSSELL D. FEINGOLD, Wisconsin
CRAIG THOMAS, Wyoming PAUL D. WELLSTONE, Minnesota
JOHN ASHCROFT, Missouri BARBARA BOXER, California
BILL FRIST, Tennessee ROBERT G. TORRICELLI, New Jersey
LINCOLN D. CHAFEE, Rhode Island
Stephen E. Biegun, Staff Director
Edwin K. Hall, Minority Staff Director
(ii)
C O N T E N T S
----------
Page
Bergsten, Dr. C. Fred, member, International Financial
Institution Advisory Commission; director, Institute for
International Economics, Washington, DC; prepared statement.... 47
Calomiris, Dr. Charles W., member, International Financial
Institution Advisory Commission; Paul M. Montrone Professor of
Finance and Economics, Columbia University's Graduate School of
Business; and visiting scholar, American Enterprise Institute,
Washington, DC................................................. 12
Prepared statement........................................... 17
Levinson, Dr. Jerome I., member, International Financial
Institution Advisory Commission; professor, Washington College
of Law, American University, Washington, DC.................... 26
Prepared statement........................................... 29
Meltzer, Dr. Allan H., chairman, International Financial
Institution Advisory Commission; professor of Political
Economy, Carnegie Mellon University; and visiting scholar,
American Enterprise Institute, Washington, DC.................. 3
Prepared statement........................................... 7
(iii)
THE MELTZER COMMISSION: THE FUTURE OF THE IMF AND WORLD BANK
----------
TUESDAY, MAY 23, 2000
U.S. Senate,
Committee on Foreign Relations,
Washington, DC.
The committee met at 3:05 p.m., in room SD-419, Dirksen
Senate Office Building, Hon. Chuck Hagel, presiding.
Present: Senators Hagel, Chafee, and Wellstone.
Senator Hagel. Good afternoon. This afternoon, the Foreign
Relations Committee will continue to exercise its oversight
authority over U.S. participation in various international
financial institutions. We will hear from three members of the
International Financial Institution Advisory Commission, which
recently issued majority and minority reports on what kinds of
reforms should be made in these international financial
institutions.
In October 1998, Congress voted an $18 billion
replenishment for the International Monetary Fund. The money
was predicated on reforms of the IMF that included, among other
provisions, improved fund transparency and market-based lending
rates for borrowing nations. Congress also decided to
commission a thorough review of the world's international
financial institutions.
The International Financial Institution Advisory Commission
was tasked with studying seven international financial
institutions: the International Monetary Fund, the World Bank,
the Inter-American Development Bank, the Asian Development
Bank, the African Development Bank, the World Trade
Organization, and the Bank for International Settlements.
The Commission was chaired by our first witness, Professor
Allan Meltzer. He is the Allan H. Meltzer Professor of
Political Economy at Carnegie Mellon University and is a
visiting scholar at the American Enterprise Institute. From
1988 to 1989, Dr. Meltzer served as an acting member of the
President's Council of Economic Advisers. He was also a member
of the President's Economic Policy Advisory Board and has
advised and consulted for central banks, governments, and
international financial institutions. Welcome, Doctor.
Dr. Meltzer. Thank you.
Senator Hagel. Our second witness is Professor Charles
Calomiris. Dr. Calomiris is a Professor of Finance and
Economics at the Columbia University Graduate School of
Business, and also teaches at Columbia University School of
International and Public Affairs. He co-directs the Project on
Financial Deregulation at the American Enterprise Institute and
is a research associate of the National Bureau of Economic
Research. Doctor, we welcome you as well.
Dr. Calomiris. Thank you.
Senator Hagel. Our third witness is Professor Jerome
Levinson. Dr. Levinson is one of the authors \1\ of the three-
person minority report that disagreed with the major
recommendations contained in the majority report. Dr. Levinson
is presently the Distinguished Lawyer in Residence at American
University's Washington College of Law, where he has been for
the last 5 years. Professor Levinson has a long, distinguished
public service career. He served as chief counsel to Senator
Church's subcommittee on the Senate Foreign Relations Committee
and was general counsel to the Inter-American Development Bank.
Sir, welcome to you as well.
---------------------------------------------------------------------------
\1\ Dr. C. Fred Bergsten, a co-author of the minority report, was
scheduled to testify but was unable to attend due to personal reasons.
His prepared statement, which includes the full dissenting statement,
begins on page 47.
---------------------------------------------------------------------------
Dr. Levinson. Thank you.
Senator Hagel. As policymakers and in concert with our
fellow members of these organizations that were included in the
study, it is Congress' responsibility to translate the
Commission's thoughtful recommendations into appropriate
policies and procedures.
There were certain basic reforms that received consensus
support on the Commission. These included a sharp distinction
between lending programs of the IMF and World Bank, greater
transparency in the programs of the international financial
institutions, the need for stronger banking systems in
developing countries, and support for debt relief for highly
indebted poor countries [HIPC]. These are the kinds of reforms
that have broad support both in the Congress and in the
administration.
However, the Commission was sharply split on several more
controversial recommendations. The Commission's majority report
also called for changes in the most basic structure and
programs of the IMF and the World Bank. These included turning
all IMF loans into extremely short-term loans with maturities
of no longer than 240 days. It called for permitting the IMF to
lend only to countries that prequalified, no matter what kind
of financial crisis the world was facing. Finally, it called
for getting the World Bank out of the lending business and
transforming it into a grant-making institution.
The committee looks forward to a discussion of these
recommendations and gaining a better understanding of what
reforms are achievable, what are relevant and could gain
consensus support within the United States and among our G-7
country allies.
Before turning to our panel, I want to again thank each of
you for taking your time, for your service to this country, and
especially for the time that you all devoted in this study. We
on this committee, as you know, have primary jurisdiction over
most of these issues and we work in conjunction with the Senate
Banking Committee and other tangential, sequential jurisdiction
committees, but it is the primary responsibility for this
committee to understand better what these recommendations are
and how we might, in fact, benefit in actually implementing
what you have done and what you are suggesting and take the
time required, working with Treasury and other important parts
of our Government, to in fact weave into the IMF these kinds of
important and relevant recommendations based on the relevant
challenges of our time.
I have said, when we have had oversight committee hearings
before, that international financial institutions should be, in
fact, relevant to the challenges of our day, and what has
occurred in this amazing world of ours over the last 50 years,
since the days of Bretton Woods and the institution of IMF and
the World Bank, have brought us to a point where we have come
to ask people who have spent lifetimes in your business how
best we can use these institutions and how best we can apply
the infrastructure, the resources to these new challenges of
this new dynamic world.
So, that in essence is something that I think this
committee is primarily interested in hearing from you. Most of
us on this committee and our staffs have had an opportunity to
get through those recommendations. I would hope that the effort
that your Commission made will not end up like so many efforts
of so many commissions around here: We have two or three more
hearings and then we never hear from it again. I think it is
more important than that, and I would hope that you could dwell
and focus on that practical aspect of what you have come
forward with and how it could be incorporated and woven into
this realistic pursuit of helping nations.
So, again, thank you all, and Dr. Meltzer, I would ask you
to begin.
STATEMENT OF DR. ALLAN H. MELTZER, CHAIRMAN, INTERNATIONAL
FINANCIAL INSTITUTION ADVISORY COMMISSION; PROFESSOR OF
POLITICAL ECONOMY, CARNEGIE MELLON UNIVERSITY; AND VISITING
SCHOLAR, AMERICAN ENTERPRISE INSTITUTE, WASHINGTON, DC
Dr. Meltzer. Thank you very much. Of course, the last part
of your remarks, Senator, are dear to our hearts. Having done
this work, we certainly hope that it will have some impact on
the way in which these organizations function, not just because
we did the work, but because we believe so many of these
recommendations are in the interest of the United States, as
well as the broader interest of the United States in its role
in the global community.
It is a privilege to testify before this distinguished
committee on the report of the International Financial
Institution Advisory Commission. Although the Commission was
charged with making recommendations on seven different
institutions, I will confine my remarks to two, the IMF and the
World Bank, although I will be glad to answer questions about
the others.
The Commission's report became available almost 3 months
ago. It has been discussed and appraised extensively in the
press both here and abroad, by the U.S. Treasury Department,
foreign governments, and central banks, in public discussion
and in the Congress. I believe this is the fifth hearing that
Congress has held on the report, a recognition not only of the
importance of the issues but the widespread recognition that
reforms are needed.
I have followed discussion of the Commission's report
closely. While there are many counter-currents, I believe it is
fair to say that there is a very broad agreement that the IMF
and the World Bank should be reformed and that the Commission's
report is a proper starting point for such reform. The same
bipartisan approach that was present within the Commission now
characterizes many discussions of our conclusions.
The two most important problems that the Commission faced
were, one, how to make the world economy more stable, less
subject to the frequent, deep, and widespread economic crises
that the world economy experienced in the 1980's and 1990's,
and two, how to make more effective development aid to
impoverished people while improving their opportunities and
living standards. A subsidiary but important issue was reform
of the institutions to make them more transparent, more
accountable, and more efficient.
I will spend most of my time on the IMF. The main questions
about the IMF are: Why have crises become more frequent and
deeper, affecting many more countries in the last 20 years?
What could a restructured IMF do to make crises less frequent,
less severe, and less widespread? Before answering these
questions, I will comment on why these questions are important
to Americans and why the Congress, the administration, and the
public have a major stake in the answers.
Many commentators talk about the IMF's successful
performance. The Latin American debt crisis took most of a
decade to resolve. Asia recovered much faster. Does the IMF
deserve full credit for the speedy recovery in Asia?
I submit that the answer is no. The United States played a
major role. We became, once again, the importer of first resort
in a crisis. U.S. imports of goods soared; our exports fell in
1998 and grew very slowly in 1999. The U.S. current account
deficit rose from about $150 billion in 1997 to a current
annual rate of $400 billion. That $250 billion swing is a key
way we helped to strengthen the world economy.
I have distributed a chart,\2\ that is in my paper, which
shows what happened to the current account deficit. It looks as
though someone tied a rock to the bottom of the line with a
heavy weight and pulled it down. The chart shows what happened
to net exports of goods and services. Unwinding this swing will
be a major challenge to the U.S. and other economies in the
next few years.
---------------------------------------------------------------------------
\2\ The chart referred to is in Dr. Meltzer's prepared statement on
page 9.
---------------------------------------------------------------------------
Let me leave no doubt. I believe that running the
extraordinary trade deficit and allowing the dollar to
appreciate against other currencies was the proper policy under
the circumstances we faced then. Preventing or restricting
imports would have been counter to both our narrow interest and
our broader interest in general prosperity.
For some Americans, this policy was costly, however.
Farmers are an example. Sugar and soybeans, wheat, and other
commodities are priced worldwide in dollars. When Brazil
devalued against the dollar, Brazilian soybeans and sugar
became cheap temporarily compared to the U.S. produced sugar
and soybeans. Canadian, Australian and other growers of wheat
gained a temporary advantage over U.S. farmers growing wheat
when their currencies depreciated against the dollar. The same
is true for industrial producers. Appreciation of the dollar
permits U.S. manufacturers to buy components or assemblies more
cheaply from foreign suppliers, reducing their cost, but it
also reduces sales by domestic manufacturers of these same
inputs. U.S. exporters face tougher competition when selling
abroad, while foreign producers increase their share of the
U.S. market.
To reduce the U.S. role as importer of first resort in a
crisis, we must change the role of the IMF. It must go from
managing crises to preventing them or, since complete
prevention is unlikely, making them less virulent, less
widespread, less harmful, and less frequent.
The commission addressed this problem by proposing an
incentive-based system that encourages and rewards countries
with good behavior. It began by identifying three major causes
of deep and prolonged crises. They are, one, the collapse of
the exchange rate, requiring substantial devaluation; second,
collapse of the financial system, requiring large loans to
shore up the remnants; and three, the long-term delay, often
months, before the IMF and the desperate country agree on the
many conditions that the country must accept to get assistance.
Since the agreed conditions are often not met in practice,
replacing the long negotiation with preconditions is an
improvement.
The commission proposed four preconditions, reforms that
countries must complete to qualify for immediate assistance in
crises. The four preconditions require countries to strengthen
their financial systems, improve their fiscal or budget
policies, and provide timely information about their
outstanding sovereign debt. Countries would have 5 years to
phase in the conditions. Countries that met the preconditions
would be less subject to crises.
I must admit that I am disappointed and disheartened by the
Treasury's initial response. On the positive side, they have
agreed that the preconditions are desirable. But they have
spoken repeatedly about how only a small number of countries
would adopt the conditions. They fail to notice that 50
countries, nearly a third of the IMF's membership and many of
its larger members, already meet or accept one of the
politically most difficult conditions, requiring full access of
foreign financial institutions to the country's markets.
Equally disturbing, the Treasury's position would keep the
U.S. as importer of first resort. It fails to protect the U.S.
economy from the temporary losses to U.S.-based producers from
the flood of imports and the loss of exports during the
adjustment to exchange rate changes. This neglect or oversight
is particularly surprising because in the last 2 years the
Congress has given substantial assistance to affected groups,
such as farmers and most recently sugar producers. This
assistance compensates for some of the losses these groups
sustained during this most recent crisis.
Further, the Treasury fails to recognize the improved
incentives that countries and lenders would face under the
proposed reforms. Once the preconditions have been phased in,
the IMF would list the countries that met the conditions and
those that did not. Countries meeting the conditions would have
much greater opportunities to borrow in the capital markets
and, because they would be less risky, they would borrow on
more favorable terms. Countries that failed to meet the
preconditions would receive less capital and would have to pay
higher rates of return to compensate for their higher risk. In
this way, markets would work to encourage reform.
All countries would not meet the standards. Let me suggest
some examples of countries that are unlikely to do so. Ecuador
and Pakistan have not been able to maintain a stable
government. They have not had sufficient political stability to
enact reforms like the preconditions. Some governments are
venal and corrupt. It is unfortunate but true. They promise the
IMF that they will make changes, but they are either unwilling
or unable to do so. Ukraine and Russia are examples, but they
are not alone.
Under the Commission's proposals, the IMF would not bail
out countries like Ecuador, Pakistan, Russia, and Ukraine until
they put in place reforms that strengthen their financial and
fiscal systems. The acceptance and implementation of reform,
not the promise of reform, works to increase economic stability
and reduce crises. After the 5-year phase-in has passed,
lenders to highly risky countries should expect to take the
losses their positions imposed on them. That is why they
received high returns. There is no problem of bailing them in.
They are bailed in. The question is should they be bailed out?
The answer of the Commission is no. They took the risk. They
should be allowed to suffer the consequences. In a crisis,
however, the IMF would lend, as needed, to countries affected
by the crisis, but it would not generally lend to the crisis
country if it has not met the preconditions. In a system-wide
crisis, the Commission proposes to suspend the rules, lending
as needed to stem the crisis.
Under Secretary Geithner, testifying before the Senate
Banking Committee, said that the last process, permitting the
IMF to waive the rules, would mean that the Commission's
proposals might not differ from current practice. This
statement is remarkable for two reasons. First, it fails to
recognize that the U.S., the IMF, and the G-7 cannot force
countries to reform. Reforms may be imposed, but they do not
last unless the country chooses to maintain them and works to
do so. Second, it fails to recognize that many countries would
choose reform so as to attract foreign lenders and investors.
Foreign lenders are the principal suppliers of capital. A
country that fails to reform, and knowledge that the lender
truly bears the risk of loss, would reduce a country's access
to capital. Very little capital flows to sub-Saharan Africa.
Very little, if any, went to Peru prior to the reforms
instituted by the first Fujimori government. Lenders make
mistakes, but they do not fail to recognize risk or fail to
charge a premium for bearing it.
We, the United States, have a major interest in global
stability. We must insist on reform of the international
financial system. I note quickly that the Commission made other
recommendations for changes at the IMF. It should improve the
quantity, quality, and timeliness of information about member
countries. It should improve transparency about its own
operations. An ordinary person should be able to read the
amount of loans it has outstanding, how much it has available
in usable currencies to lend, and how much it costs to operate
the institution. Further, the Commission agreed unanimously
that the IMF should stop long-term lending and close the
Poverty Reduction and Growth Facility, as you mentioned
earlier.
I have reviewed the draft of S. 2382, the Technical
Assistance, Trade Promotion, and Anti-Corruption Act of 2000. I
find few of the needed reforms. S. 2382 would do little to
reduce the risk of financial and economic crises or the role of
the United States as importer of first resort in a crisis, or
the cost of crises to American farmers, manufacturers, and
workers.
Let me turn to the World Bank. Long-term loans for emerging
market economies should be the responsibility of the
development banks. The Commission shares the World Bank's view
that its mission and the mission of other development banks
should be reduction of poverty in developing countries.
The Commission report asks four major reforms of these
banks because they are ineffective and greatly overstaffed.
Many of the professionals are dedicated to their tasks. The
problem is to change the incentives under which they operate to
improve their performance. In his testimony before the
Commission, President Wolfensohn agreed on the need for
improved performance.
The Commission proposed three main tasks for the
development banks: one, to supply global public goods such as
elimination of tropical diseases or improvements in tropical
agriculture; two, promote economic and social development using
an incentive-based system that subsidizes institutional reform
and gives incentives for implementing and maintaining reforms--
and I want to emphasize maintaining reforms--and three, use
grants instead of loans to improve the quality of life in the
poorest countries by inoculating children, providing sanitary
sewers, bringing potable water to the villages, and in other
ways.
The Commission proposed that the grants would be paid
directly to service providers, on evidence of completion
furnished by independent auditors. Grants would bypass corrupt
governments; auditing results would improve performance. This
is a much more effective mechanism for reform than is proposed
in S. 2382.
The Commission believes that a very important first step
toward reform of the bank would be an independent audit of the
bank's performance. The bank provides almost no information
about the success or failure of its projects after final
disbursement of its loans. S. 2382 calls for a financial audit.
This is a good first step, but it is not enough. Although the
Commission did not propose an independent performance audit of
the development bank's operations, I urge the Congress to
require such an audit as a condition for additional U.S.
assistance.
Finally, the Commission agreed unanimously that the present
HIPC debts be written off completely in all countries that
adopt and implement effective development programs.
Thank you.
[The prepared statement of Dr. Meltzer follows:]
Prepared Statement of Dr. Allan H. Meltzer
It is a privilege to testify before this distinguished committee on
the report of the International Financial Institution Advisory
Commission. Although the Commission was charged with making
recommendations on seven different institutions, I will confine my
remarks to two--the IMF and the World Bank.
The Commission's report became available almost three months ago.
It has been discussed and appraised extensively in the press both here
and abroad, by the U.S. Treasury Department, foreign governments and
central banks, in public discussion, and in the Congress. I believe
this is the fifth hearing that Congress has held on the report, a
recognition not only of the importance of the issues but the widespread
recognition that reforms are needed.
The IMF and the Bank are now more than fifty years old. They have
evolved and changed in response to events, without any systematic
thinking about what they do well, what needs to be done, what should be
left to private sector institutions, and what governments or
multinational institutions can and should do.
I have followed discussion of the Commission's report closely.
While there are many counter-currents, I believe it is fair to say that
there is very broad agreement that the IMF and the Bank should be
reformed and that the Commission's report is a proper starting point
for such reform. The same bipartisan approach that was present within
the Commission now characterizes many discussions of our conclusions.
The two most important problems that the Commission faced were: (1)
how to make the world economy more stable, less subject to the
frequent, deep and widespread economic crises that the world economy
experienced in the 1980s and 1990s, and (2) how to make more effective
the development of aid to impoverished people while improving their
opportunities and living standards. A subsidiary but important issue
was reform of the institutions to make them more transparent, more
accountable, and more efficient.
imf
I will spend most of my time on the IMF. The main questions about
the IMF are: why have crises become more frequent and deeper, affecting
many more countries in the last twenty years? What could a restructured
IMF do to make crises less frequent, less severe, and less widespread?
Before answering these questions, I will comment on why these questions
are important to Americans and why the Congress, the administration,
and the public have a major stake in the answers.
Many commentators talk about the IMF's successful performance. The
Latin American debt crisis took most of a decade to resolve. Asia
recovered much faster. Does the IMF deserve full credit for the speedy
recovery in Asia?
I submit that the answer is no. The United States played a major
role. We became, once again, the importer of first resort in a crisis.
U.S. imports of goods soared; our exports fell in 1998 and grew very
slowly in 1999. The U.S. current account deficit rose from about $150
billion in 1997 to a current annual rate of $400 billion. That $250
billion swing is a main way we helped to strengthen the world economy.
The chart that I distributed [see following page] shows what happened
to net exports of goods and services. Unwinding this swing will be a
major challenge to the U.S. and other economies in the next few years.
The U.S. economy expanded rapidly during these years. Imports were
cheap relative to the cost of domestic production, so, as a nation, we
could help the world economy to recover while enjoying rapid growth
with low inflation. Our rapidly growing economy, our innovative
enterprises and rising worker productivity encouraged foreign
investment in our plants, equipment, bonds and shares. The stock market
soared, attracting foreign capital and bringing home as investment the
extra dollars we spent for goods and services abroad. The capital
inflow appreciated the dollar compared to other currencies.
Devaluations and currency depreciation by many crisis countries, and
others, also appreciated the dollar.
Let me leave no doubt. I believe that running the extraordinary
trade deficit and allowing the dollar to appreciate against other
currencies was the proper policy under the circumstances. Preventing or
restricting imports would have been counter to both our narrow interest
and our broader interest in general prosperity.
For some Americans, this policy was costly, however. Farmers are an
example. Sugar and soybeans, wheat, and other commodities are priced
worldwide in dollars. When Brazil devalued against the dollar,
Brazilian soybeans and sugar became cheap compared to U.S. produced
sugar and soybeans. Canadian, Australian and other growers gained a
temporary advantage over U.S. farmers when their currencies depreciated
against the dollar. The same is true for industrial producers.
Appreciation of the dollar permits U.S. manufacturers to buy components
or assemblies more cheaply from foreign suppliers, reducing cost, but
also reduces sales by domestic manufacturers of these inputs. U.S.
exporters face tougher competition when selling abroad, while foreign
producers increase their share of the U.S. market.
To reduce the U.S. role as importer of first resort in a crisis, we
must change the role of the IMF. It must go from managing crises to
preventing them, or since complete prevention is unlikely, making them
less virulent, less widespread, less harmful and less frequent.
The Commission addressed this problem by proposing an incentive-
based system that encourages and rewards countries with good behavior.
It began by identifying three major causes of deep and prolonged
crises. They are (1) collapse of the exchange rate, requiring
substantial devaluation, (2) collapse of the financial system,
requiring large loans to shore up the remnants, and (3) the long-time,
often months, before the IMF and the desperate country agree on
conditions that the country must accept to get assistance. Since the
agreed conditions are often not met in practice, replacing the long
negotiation with pre-conditions is an improvement.
The Commission proposed four pre-conditions, reforms that countries
must complete to qualify for immediate assistance in crises. The four
pre-conditions require countries to strengthen their financial systems,
improve their fiscal or budget policies, and provide timely information
about their outstanding sovereign debt. Countries would have five years
to phase-in the conditions. Countries that met the pre-conditions would
be less subject to crises.
I must admit that I am disappointed and disheartened by the
Treasury's initial response. On the positive side, they have agreed
that the conditions are desirable. But, they have spoken repeatedly
about how only a small number of countries would adopt the conditions.
They fail to notice that 50 countries, nearly 1/3 of the IMF's
membership and many of its larger members, already meet or accept one
of the politically most difficult conditions, requiring full access of
foreign financial institutions to the country's markets.
Equally disturbing, the Treasury's position would keep the U.S. as
importer-of-first-resort. It fails to protect the U.S. economy from the
temporary losses to U.S. based producers from the flood of imports and
the loss of exports during the adjustment to exchange rate changes.
This neglect or oversight is particularly surprising because, in the
last two years, the Congress has given substantial assistance to
affected groups, such as farmers and most recently sugar producers.
This assistance compensates for some of the losses these groups
sustained.
Further, the Treasury fails to recognize the improved incentives
that countries and lenders would face under the proposed reforms. Once
the preconditions have been phased-in, the IMF would list the countries
that met the conditions and those that did not. Countries meeting the
conditions would have much greater opportunities to borrow in the
capital markets and, because they would be less risky, they would
borrow on more favorable terms. Countries that failed to meet the pre-
conditions would receive less capital and would have to pay higher
rates of return to compensate for their higher risk. In this way,
markets would work to encourage reform.
All countries would not meet the standards. Let me suggest some
examples of countries that are unlikely to do so. Ecuador and Pakistan
have not been able to maintain a stable government. They have not had
sufficient political stability to enact reforms like the pre-
conditions. Some governments are venal and corrupt. They promise the
IMF that they will make changes, but they are either unwilling or
unable to do so. The Ukraine and Russia are examples, but they are not
alone.
Under the Commission's proposals, the IMF would not bail out
countries like Ecuador, Pakistan, Russia and Ukraine until they put in
place reforms that strengthened their financial and fiscal systems. The
acceptance and implementation of reform, not the promise of reform,
works to increase economic stability and reduce crises. After the five-
year phase-in has passed, lenders to highly risky countries should
expect to take the losses their positions imposed on them. In a crisis,
the IMF would lend, as needed, to countries affected by the crises, but
it would not generally lend to the crisis country if it has not met the
preconditions. In a system-wide crisis, the Commission proposes to
suspend the rules, lending as needed to stem the crisis.
Under Secretary Geithner, testifying before the Senate Banking
Committee, said that the last process--permitting the IMF to waive the
rules--would mean that the Commission's proposals might not differ from
current practice. This statement is remarkable for two reasons. First,
it fails to recognize that the U.S., the IMF, and the G-7 cannot force
countries to reform. Reforms may be imposed, but they do not last
unless the country chooses to maintain them and works to do so. Second,
it fails to see that many countries would choose reform so as to
attract foreign lenders and investors. Foreign lenders are the
principal suppliers of capital. A country that fails to reform, and
knowledge that the lender truly bears the risk of loss, would reduce a
country's access to capital. Very little capital flows to sub-Saharan
Africa. Very little, if any, went to Peru prior to the reforms
instituted by the first Fujimon government. Lenders make mistakes, but
they do not fail to recognize risk or fail to charge a premium for
bearing it.
We, the United States, have a major interest in global stability.
We must insist on reform of the International Financial System. I note
quickly that the Commission made other recommendations for changes at
the IMF. It should improve the quantity, quality, and timeliness of
information about member countries. It should improve transparency
about its own operations. An ordinary person should be able to read the
amount of loans it has outstanding, how much it has available in usable
currencies to lend, and how much it costs to operate the institution.
Further, the Commission agreed unanimously that the IMF should stop
long-term lending and close the Poverty Reduction and Growth Facility.
I have reviewed the draft of S. 2382, the Technical Assistance,
Trade Promotion, and Anti-Corruption Act of 2000, I find few of the
needed reforms. S. 2382 would do little to reduce the risk of financial
and economic crises or the role of the United States as importer of
first resort in a crisis, or the cost of crises to American farmers,
manufacturers, and workers.
the world bank
Long-term loans for emerging market economies should be the
responsibility of the development banks. The Commission shares the
World Bank's view that its mission, and the mission of other
development banks, should be reduction in poverty in developing
countries.
The Commission report asks for major reform of these banks because
they are ineffective and greatly overstaffed. Many of the professionals
are dedicated to their tasks. The problem is to change the incentives
under which they operate to improve their performance. In his testimony
before the Commission, President Wolfensohn agreed on the need for
improved performance.
The Commission proposed three main tasks for the development banks:
(1) to supply global goods--such as--elimination of tropical diseases,
or improvements in tropical agriculture; (2) promote economic and
social development using an incentive-based system that subsidizes
institutional reform and gives incentives for maintaining reforms; and
(3) use grants instead of loans to improve the quality of life in the
poorest countries by inoculating children, providing sanitary sewers,
bringing potable water to the villages, and in other ways.
The Commission proposed that the grants would be paid directly to
contractors, on evidence of completion furnished by independent
auditors. Grants would bypass corrupt governments; auditing results
would improve performance. This is a much more effective mechanism for
reform than is proposed in S. 2382.
The Commission believes that a very important, first step toward
reform of the Bank would be an independent audit of the Bank's
performance. The Bank provides almost no information about the success
or failure of its projects after final disbursement of its loans. S.
2382 calls for a financial audit. This is a good first step, but it is
not enough. Although the Commission did not propose an independent
performance audit of the development banks' operations, I urge the
Congress to require such an audit as a condition for additional U.S.
assistance.
Finally, the Commission agreed unanimously that the present HIPC
debts be written off completely in all countries that adopt and
implement effective development programs.
Senator Hagel. Dr. Meltzer, thank you very much.
Dr. Calomiris, thank you.
STATEMENT OF DR. CHARLES W. CALOMIRIS, MEMBER, INTERNATIONAL
FINANCIAL INSTITUTION ADVISORY COMMISSION; PAUL M. MONTRONE
PROFESSOR OF FINANCE AND ECONOMICS, COLUMBIA UNIVERSITY'S
GRADUATE SCHOOL OF BUSINESS; AND VISITING SCHOLAR, AMERICAN
ENTERPRISE INSTITUTE, WASHINGTON, DC
Dr. Calomiris. Thank you, Mr. Chairman. It is an honor and
a pleasure to be here today to discuss the recommendations of
the Meltzer Commission. I would like to summarize my written
statement and ask that it be included in the record as well.
Senator Hagel. It will be included.
Dr. Calomiris. Since our report was published, it has
become clear to me that two separate debates are being waged
over the new so-called financial architecture--a narrow,
visible debate over the technical aspects of specific proposals
for designing mechanisms to achieve well-defined economic
objectives, on the one hand, and on the other hand, a broader,
less visible debate over whether the IMF, the World Bank, and
other development banks should have narrowly defined economic
objectives or alternatively should be used as tools of ad hoc
diplomacy. Until we settle that second broader political
debate, we cannot seriously even begin constructive dialog over
how best to achieve economic objectives. Although open
opposition to the Meltzer report generally focuses on its
details, and much of that is sincere, behind closed doors many
critics are candid about their primary reason for objecting to
our proposals: ``Forget economics; it's the foreign policy,
stupid.'' For proposed reforms to succeed, they must face the
challenges posed not only by economic logic, but by the
political economy of foreign policy.
The Commission's recommendations make sense as economics;
that is, they were derived from evidence in a sensible way.
Just as important, the principles on which they are based are
valid ethically and politically, specifically, most
importantly, our premise that the World Bank and the IMF should
not and cannot continue to serve the ad hoc political purposes
of broad foreign policy.
The Meltzer report begins with a well-defined set of
economic objectives and political principles and suggests
mechanisms that would accomplish those objectives within the
confines of those principles. The economic objectives include:
one, improving global capital market liquidity, two,
alleviating poverty in the poorest countries; three, promoting
effective institutional reforms in the legal and financial
systems of developing countries which will spur development;
and four, providing effective public goods, for example,
through programs to deal with global problems of public health,
particularly malaria and AIDS, and environmental risks in
developing countries; and fifth, collecting and disseminating
valuable economic data in a uniform and timely manner. The
Commission viewed liquidity provision during crises,
macroeconomic services, and data collection and dissemination
to be appropriate missions of the IMF and saw poverty
alleviation, the promotion of reform long term, the provision
of global public goods, microeconomic data collection and
dissemination, and related advisory services as the central
missions of the development banks.
We also identified six principles that any credible reform
strategy should satisfy and which underlie our proposals: one,
respecting member countries' sovereignty; two, clearly
separating tasks across institutions; three, setting credible
boundaries on goals and discretionary actions by those
institutions; four, judging policies not by their stated
objectives alone but by their effectiveness; five, ensuring
accountability of management through clear disclosure,
accounting, internal governance rules, and independent
evaluation of performance; and six, sharing the financial
burden of aid through these institutions fairly among
benefactor countries.
We began by evaluating the performance of the IMF, the
World Bank, and the other development banks against the
touchstone of these goals and principles and found these
institutions quite deficient. They often failed to achieve
their goals, even by their own internal measures.
Why is the IMF so ineffective? For one thing, the IMF's
crisis lending mechanism is not designed to fulfill the role of
providing effective liquidity assistance. Liquidity crises
happen quickly. There is not time to enter into protracted
negotiations or to demonstrate that one is an innocent victim
of external shocks, as the IMF's stillborn contingent credit
facility would mandate. If the IMF is to focus on liquidity
assistance, and if the liquidity assistance is to be effective,
there is no viable alternative to having countries prequalify
for lines of credit. The current IMF formula of taking weeks or
months to negotiate terms and conditions for liquidity
assistance and then offering that assistance in stages over a
long period of time simply is a non-starter if the goal is to
mitigate or prevent liquidity crises.
IMF and development bank lending, which entails substantial
subsidies to borrowing countries, does, however, manage to
transfer resources to debtor countries during severe economic
crises through the implied interest rate subsidies. But those
transfers do not seem to improve securities markets in those
countries or spur growth on average; rather, they are put to
use for less laudable goals apparently, most notoriously, for
shady transactions in Russia or the Ukraine. But it is the
legitimate uses of IMF and development bank emergency loan
subsidies that are even more troubling in my view, especially
their use in facilitating the bailouts of insolvent domestic
banks and firms and international lenders, which ultimately are
financed mainly by taxes on domestic residents.
Consider the current IMF program being established with
Ecuador. Ecuador has been suffering a deepening fiscal crisis
for several years. As yet, there is no consensus for reform in
Ecuador, and there is no reason to believe that reforms will be
produced by a few hundreds of millions of IMF dollars. Why in
the world is the IMF sending money to Ecuador? Some observers
claim that IMF aid to Ecuador is best understood as a means of
sending political payola to the Ecuadoran Government at a time
when the United States wishes to ensure continuing use of its
military bases there monitoring drug traffic. Will that sort of
IMF policy be likely to produce the needed long-run reforms in
fiscal and bank regulatory policy? Has the IMF not learned
anything from the failure of its lending to Russia in 1997 and
1998?
Argentina, perhaps more than any other country, has
depended on IMF conditional lending over the past several years
to maintain its access to international markets. It is now
widely perceived as possibly on the verge of a public finance
meltdown, which many commentators blame, in part, on the IMF
and the U.S. Treasury. IMF support, in retrospect, was
counterproductive because it put the cart of cash ahead of the
horse of reform. Now Argentina is faced with a growing and
possibly an unsustainable debt service burden. Furthermore, at
the IMF's behest, Argentina substantially raised its tax rates
last year, choking off its nascent recovery. Instead, Argentina
should have cut government expenditures. The notion that tax
hikes are an effective substitute for expenditure cuts as a
means of successful fiscal reform appears to be an article of
faith at the IMF but, unfortunately, one that is simply at odds
with the evidence. The chronology of policy failure in
Argentina is aptly summarized in a recent financial markets
newsletter that I would like to quote. ``Between 1996 and 1999,
the IMF and IDB all but led the marketing effort for Argentina
bonds. The two institutions voiced strong endorsements each
time that there was a confidence crisis in Argentina. The IDB
went so far as to dispatch its most senior economist to New
York last summer to recommend that U.S. portfolio managers buy
Argentine bonds. At the same time, the Street,'' meaning Wall
Street, ``came to realize that the U.S. Treasury was the real
force behind the IMF and IDB support for Argentina. It was
never clear why there was such unwavering support. The
motivation could have been geo-political. Argentina was a
staunch supporter of U.S. political policies around the world
and across the region. Argentina was also the poster-child of
the so-called Washington Consensus. Therefore, the U.S. needed
Argentina to succeed. At the beginning of the year, when the
Machinea team traveled to Washington to seek a revised Standby
Facility, the team met first with the U.S. Treasury before
meeting with the IMF and the World Bank. These actions sent
clear signals to the market that the country had an implicit
guarantee from Washington. Otherwise, it would have been
irrational for any creditor to lend so much money to such a
leveraged country with such little flexibility.''
Again, this is a newsletter from what I regard as the best
Latin American bond market news daily.
How Argentina will extricate itself from its current debt
trap is unclear. What is clear, however, is that the U.S.
Treasury/IMF-sponsored debt inflows and tax hikes over the past
several years have put Argentina into this risky position. More
market discipline, less U.S. Treasury/IMF assistance and less
debt at an earlier date would have encouraged the needed
reforms of government expenditures and labor market
regulations.
The World Bank's record and the records of the regional
development banks in sponsoring successful programs are also
poor. The World Bank's internal evaluations of performance,
which are made shortly after the last disbursement of its
funds, identify more than half of its projects as failing to
achieve ``satisfactory, sustainable'' results.
The multilaterals do not follow the principle of separation
either. The IMF's mission warrants short-term lending, yet the
IMF typically makes long-term loans. Seventy-three IMF member
countries have borrowed from the IMF in more than 90 percent of
the years in which they have been members of the IMF. The
development banks participate, on the other hand, in short-term
emergency lending, despite the fact that this is not consistent
with their long-term focus on development, and even though
their managements sometimes privately complain about having to
do so.
There is little disclosure of relevant information about
accounting or decisionmaking within this institutions, too. In
the case of the IMF, its own staff admits that its accounting
system is an exercise in obfuscation. Quote. This is by an IMF
staff member. ``The cumulative weight of the Fund's jerry-built
structure of financial provisions has meant that almost nobody
outside, and, indeed, few inside, the Fund understand how the
organization works, because relatively simple economic
relations are buried under increasingly opaque layers of
language. To cite one example, the Fund must be the only
financial organization in the world for which the balance sheet
contains no information whatsoever on the magnitudes of its
outstanding credits or its liquid liabilities. More seriously,
the Fund's outdated financial structure has been a handicap in
its financial operations.''
The Meltzer Commission's recommendations for reform follow
directly from the perceived gap between actual performance of
these institutions and the combination of bona fide objectives
and principles that I summarized at the beginning. With respect
to the IMF, the Commission unanimously voted to end long-term
lending. The 8 to 3 majority went further, recommending that
the IMF focus on maintaining liquidity for emerging economies.
By providing lines of credit to countries in general, those
that meet minimal, pre-established standards, and by lending to
them as a senior creditor at a penalty rate, the IMF could
prevent avoidable liquidity crises without sponsoring
counterproductive bailouts of banks at taxpayers' expense.
With respect to the development banks, for poverty
alleviation, we recommended relying on grants to service
providers with independent verification of performance, rather
than making subsidized loans earmarked to governments, as a
mechanism more likely to deliver results.
With respect to promoting institutional reform, the
Commission proposed making loans through the development banks
to governments at highly subsidized rates, but only after they
had passed laws establishing reforms. The maturity of those
loans could be extended, and thus the subsidies implicit in
them increased, conditional on the continuation of reforms,
that is, only if independent verification indicates that
promised reforms are continuing on track.
The Commission also voted unanimously that the IMF and the
development banks should write off all claims against the
highly indebted poor countries, once those countries have
established credible development programs.
Treasury Secretary Summers testified before the House
Banking Committee, while reserving the right to change his mind
based on further reading of the report, and faulted the
Commission on several specifics. In my formal comments, I
review each of the Secretary's concerns and explain why I
believe they are misplaced. Let me just touch on a few.
With respect to our proposals for reforming the IMF, Mr.
Summers expressed several concerns. He claims that ``few if any
of the countries that have suffered financial crises in recent
years would have qualified for emergency IMF support.'' He goes
on to recognize that the Commission recommended waiving
prequalification standards in cases where global capital market
stability was threatened, and that therefore, the Commission
did not, in fact, recommend ruling out support to any country.
Still the Secretary questioned, in light of our recommendation
that prequalification could be waived, ``how the rest of the
report's proposals in this area are to be interpreted and
applied.'' He questioned whether many countries would qualify
for IMF support and whether lending even to prequalified
countries might create moral hazard problems in comparison to
the current practice of attaching conditionality, ex post.
These criticisms are misplaced. We envision a phase-in
period of 5 years for the new prequalification standards, and
we think most emerging market countries would prequalify. Most
or all of the crisis countries in Latin America and Asia would
face strong incentives to meet our proposed standards,
particularly since failing to do so would likely reduce their
access to and raise their costs of private market financing. If
our proposed standards had been imposed, say, in 1990, the
severe crises suffered by these countries, which largely
reflected weaknesses in their banking systems and in the
incentives of those weak banks to take on enormous exchange
risks, may have been averted and certainly would have been far
less severe.
Furthermore, it is hard to see how our proposed IMF lending
arrangements would worsen moral hazard. Moral hazard depends on
the expectation of receiving a subsidy. Under current IMF
arrangements, countries borrow large amounts at highly
subsidized rates. Under our proposals, there is no subsidy and
therefore virtually no possibility of moral hazard.
Mr. Summers also criticizes our recommendations for
reforming the development banks. He objects first to limiting
emergency lending to the IMF; second, to our proposal to target
country level assistance to the poorest countries only; and
third, to the use of grants rather than loans for poverty
alleviation.
Our proposal to limit emergency lending to the IMF follows
directly from the principle that separating the functions of
the various multilaterals promotes greater effectiveness and
accountability. Nevertheless, the Commission report envisions
loans or grants from development banks to poor countries that
have experienced crisis-induced trauma. We recommend, however,
that any assistance be channeled through appropriate long-term
programs.
The Secretary also misunderstands the effect of our
proposals on poor people who reside in developing countries
with access to private capital markets or with per capita
annual average incomes higher than $4,000. He states, ``the
report would rule out MDB support for the majority of the
world's poorest people.'' That is not true.
Similarly, the Secretary's statement that ``the report's
recommendations would drastically undercut the global role of
the World Bank by limiting it to the `knowledge' business''
indicates a serious misunderstanding of our recommendations. We
envision a substantial continuing role for the World Bank in
providing financial assistance.
Senator Hagel. Dr. Calomiris, could I ask you to sum up
your statement in the next minute because we want to leave time
for questions and we have Dr. Levinson yet. So, I would
appreciate that very much.
Dr. Calomiris. I will try to move quickly.
Senator Hagel. You have 1 minute.
Dr. Calomiris. Rather than go through the rest of those
specifics, let me talk about the second broader debate that I
mentioned, the political debate.
Should the IMF or the World Bank not be hemmed in by too
many requirements designed to make them effective as economic
mechanisms because doing so prevents them from acting in a
broad ad hoc foreign policy role? In my statement, I provide
five reasons why I think it is desirable that the IMF and World
Bank focus on economic objectives rather than pursue that broad
role. Rather than list those for you, I will just mention one
example right now.
I learned from a knowledgeable insider that the
negotiations between the IMF and Pakistan right now are being
held up by the U.S. insistence that Pakistan sign a nuclear
nonproliferation treaty. Now, this is a laudable objective, but
is the IMF the right tool for accomplishing that objective for
the reasons I state in my opinion? I believe it is not.
In the interest of time, I will stop there and thank you
for your attention.
[The prepared statement of Dr. Calomiris follows:]
Prepared Statement of Dr. Charles W. Calomiris
when will economics guide imf and world bank reforms?
The Meltzer Commission Report (a blueprint for reforming the IMF,
the World Bank, and other multilateral development banks released in
March, and signed by a bipartisan majority of 8 to 3) has generated its
share of criticism from opponents in the Commission minority, the
Administration, the labor unions, and the Congress.\1\
---------------------------------------------------------------------------
\1\ The Commission members who signed the Report include Allan
Meltzer (Chairman),
Tom Campbell, Edwin Feulner, Lee Hoskins, Richard Huber, Manuel
Johnson, Jeffrey Sachs, and the author of this article. Fred Bergsten,
Jerome Levinson, and Esteban Torres did not sign the Report. Mr. Huber,
despite signing the Report, dissented on some points. The Report, Com-
mission hearings, and background papers for the Commission (know
formally as the International Financial Institution Advisory
Commission) are available at the website
http://phantom-x.gsia.cmu.edu/IFIAC.
---------------------------------------------------------------------------
Since our Report was published, it has become clear to me that two
separate debates are being waged over the new ``financial
architecture''--a narrow (visible) debate over the technical aspects of
specific proposals for designing mechanisms to achieve well-defined
economic objectives, and a broader (less visible) debate over whether
the IMF, the World Bank, and the other development banks should have
narrowly defined economic objectives or alternatively, be used as tools
of ad hoc diplomacy. Until we settle that second, broader political
debate, we cannot seriously even begin the constructive dialogue over
how best to achieve economic objectives. That dialogue is important;
our proposals are a starting point for rebuilding these institutions,
not the final word. But those who oppose the basic premises of the
Meltzer Report don't want to get to that constructive phase. They want
the reformers to just go away. Although open opposition to the Meltzer
Report generally focuses on its details, behind closed doors critics
are candid about their primary reason for objecting to our proposals:
``Forget economics; it's the foreign policy, stupid.'' For proposed
reforms to succeed, then, they must face the challenges posed not only
by economic logic, but by the political economy of foreign policy.
In this article, I summarize the recommendations of the Commission
and respond to criticisms of our recommendations, both from the
standpoint of their economic logic and their political economy. I argue
not only that the Commission's recommendations make sense as economics,
but defend the principles on which they are based, specifically, the
premise that the World Bank and the IMF should not and cannot continue
to serve the ad hoc political purposes of broad foreign policy.
First Principles
The Meltzer Report begins with a well-defined set of economic
objectives and political principles, and suggests mechanisms that would
accomplish those objectives within the confines of those principles.
The economic objectives we envision for the multilateral financial
institutions include: (1) improving global capital market liquidity,
(2) alieviating poverty in the poorest countries, (3) promoting
effective institutional reforms in the legal and financial systems of
developing countries that spur development, (4) providing effective
global public goods, e.g., through programs to deal with global
problems of public health (particularly, malaria and AIDS), and
environmental risks in developing countries, and (5) collecting and
disseminating valuable economic data in a uniform and timely manner.
The Commission viewed liquidity provision during crises, macroeconomic
advisory services, and data collection and dissemination to be
appropriate missions of the IMF, and saw poverty alleviation, the
promotion of reform, the provision of global public goods,
microeconomic data collection and dissemination, and related advisory
services as the central missions of the development banks.
We identified six principles that any credible reform strategy
should satisfy, and which underlie our proposals: (1) respecting member
countries' sovereignty (that is, the desire to minimize the
intrusiveness of membership requirements or conditions for receiving
assistance), (2) clearly separating tasks across institutions (to avoid
waste and counterproductive overlap, and to enhance accountability),
(3) setting credible boundaries on goals and discretionary actions (to
prevent undesirable mission creep and to promote accountability), (4)
judging policies not by their stated objectives but by their
effectiveness (i.e. ensuring that the mechanisms chosen to channel
assistance are likely to succeed and to avoid waste), (5) ensuring
accountability of management through clear disclosure, accounting,
internal governance rules, and independent evaluation of performance,
and (6) sharing the financial burden of aid fairly among benefactor
countries.
The Record of IMF and Development Banks Performance
We began by evaluating the performance of the IMF, the World Bank,
and the other development banks against the touchstone of these goals
and principles and found these institutions quite deficient. They often
failed to achieve their goals, even by their own internal measures.
Studies of the extent to which the IMF succeeds in enforcing its
lending conditions show a poor track record. Sebastian Edwards found
that most of the time IMF lending conditions are not met.\2\ And all
three comprehensive studies of the average effects of IMF programs,
which include the IMF staffs own study, failed to find evidence of a
positive effect on economic activity or domestic securities prices from
having received IMF assistance.\3\
---------------------------------------------------------------------------
\2\ ``The International Monetary Fund and the Developing Countries:
A Critical Evaluation,'' Carnegie-Rochester Series on Public Policy,
31, 1989, pp. 7-68.
\3\ R.A. Brealey and E. Kaplanis, ``The Impact of IMF Assistance on
Asset Values,'' Working Paper, Bank of England, September 1999, N. Ul
Haque and M.S. Khan, ``Do IMF Supported Programs Work? A Survey of
Cross Country Empirical Evidence,'' IMF Working Paper, November 1999,
M.D. Bordo and A.J. Schwartz, ``Measuring Real Economic Effects of
Bailouts: Historical Perspectives on How Countries in Financial
Distress Have Fared With and Without Bailouts,'' Working Paper, Rutgers
University, November 1999.
---------------------------------------------------------------------------
Why is the IMF so ineffective? For one thing, the IMF's crisis
lending mechanism is not designed to fulfill the role of providing
effective liquidity assistance. Liquidity crises happen quickly. There
isn't time to enter into protracted negotiations, or to demonstrate
that one is an innocent victim of external shocks (as the IMF's
stillborn contingent credit facility mandates). If the IMF is to focus
on liquidity assistance, and if liquidity assistance is to be
effective, there is no viable alternative to having countries pre-
qualify for lines of credit. The testimony before our Commission of the
IMF's acting managing director, Mr. Fischer, recognized the
desirability of prequalification for providing liquidity assistance.\4\
The current IMF formula of taking weeks or months to negotiate terms
and conditions for liquidity assistance, and then offering that
assistance in stages over a long period of time, simply is a non-
starter if the goal is to mitigate or prevent liquidity crises.
---------------------------------------------------------------------------
\4\ See the testimony of Stanley Fischer before the Commission on
February 2, 2000.
---------------------------------------------------------------------------
IMF and development bank lending--which entails substantial
subsidies to borrowing countries--does, however, manage to transfer
resources to debtor countries during severe economic crises. But those
transfers do not seem to improve securities markets or spur growth;
rather, they are put to use for less laudable goals--most notoriously,
for shady transactions in Russia or the Ukraine. But it's the
``legitimate'' uses of IMF and development bank emergency loan
subsidies that are even more troubling, especially their use in
facilitating the bailouts of insolvent domestic banks and firms and
international lenders, which ultimately are financed mainly by taxes on
domestic residents.
In the cases of Mexico, Korea, Indonesia, and Thailand, those tax
bills ranged from 20% to 55% of annual GDP, and averaged more than 30%
of GDP. Not only do these bailouts transfer enormous wealth from
average citizens to rich cronies, they undermine market discipline (by
softening the penalties for unwise investing) and encourage reckless
lending domestically and internationally. They also strengthen the hold
that domestic cronies continue to exert on their countries' political
systems.
Consider the current IMF program being established with Ecuador.
Ecuador has been suffering a deepening fiscal crisis for several years
caused by the combination of an unresolved internal political struggle,
adverse economic shocks to its terms of trade, and a poorly regulated
banking system (which encouraged enormous risk taking at taxpayers
expense, and which has imposed a bailout cost of 40% of annual GDP on
taxpayers). As yet, there is no consensus for reform in Ecuador, and
there is no reason to believe that reforms will be produced by a few
hundreds of millions of IMF dollars. Why in the world is the IMF
sending money to Ecuador? Some observers claim that IMF aid to Ecuador
is best understood as a means of sending political payola to the
Ecuadoran government at a time when the United States wishes to ensure
continuing use of its military bases there monitoring drug traffic.
Will that sort of IMF policy be likely to produce the needed long-run
reforms in fiscal and bank regulatory policy? Hasn't the IMF learned
anything from the failure of its lending to Russia in 1997-1998?
Argentina, perhaps more than any other country, has depended on IMF
conditional lending over the past several years to maintain its access
to international markets. It is now widely perceived as possibly on the
verge of a public finance meltdown, which many commentators blame, in
part, on the IMF and U.S. Treasury. IMF support, in retrospect, was
counterproductive because it put the cart of cash ahead of the horse of
reform. Now Argentina is faced with a growing, and possibly an
unsustainable, debt service burden. Furthermore, at the IMF's behest,
Argentina substantially raised its tax rates last year, choking off its
nascent recovery. Instead, Argentina should have cut government
expenditures. The notion that tax hikes are an effective substitute for
expenditure cuts as a means of successful fiscal reform is an article
of faith at the IMF, but unfortunately, one that is at odds with the
evidence. The chronology of policy failure in Argentina is aptly
summarized in a recent financial markets newsletter:
Between 1996 and 1999, the IMF and IDB all but led the
marketing effort for Argentina bonds. The two institutions
voiced strong endorsements each time that there was a
confidence crisis in Argentina. The IDB went so far as to
dispatch its most senior economist to New York last summer to
recommend that U.S. portfolio managers buy Argentine bonds. At
the same time, the Street came to realize that the U.S.
Treasury was the real force behind the IMF and IDB support for
Argentina. It was never clear why there was such unwavering
support. The motivation could have been geo-political.
Argentina was a staunch supporter of U.S. political policies
around the world and across the region. Argentina was also the
poster-child of the so-called Washington Consensus. . . .
Therefore, the U.S. needed Argentina to succeed. At the
beginning of the year, when the Machinea team traveled to
Washington to seek a revised Standby Facility, the team met
first with the U.S. Treasury before meeting with the IMF and
the World Bank. These actions sent clear signals to the market
that the country had an implicit guarantee from Washington.
Otherwise, it would have been irrational for any creditor to
lend so much money to such a leveraged country with such little
flexibility.\5\
---------------------------------------------------------------------------
\5\ BCP's Molano Latin American Daily, May 15, 2000.
How Argentina will extricate itself from its current debt trap is
unclear. What is clear, however, is that the U.S. Treasury/IMF-
sponsored debt inflows and tax hikes of the past several years put
Argentina into this risky position. More market discipline, less U.S.
Treasury/IMF ``assistance,'' and less debt, at an earlier date would
have encouraged the needed reforms of government expenditures and labor
market regulations.
The World Bank's record, and the records of the regional
development banks, in sponsoring successful programs are also poor. The
World Bank's internal evaluations of performance (which are made
shortly after the last disbursement of funds) identify more than half
of its projects as failing to achieve ``satisfactory, sustainable''
results. The World Bank earmarks subsidized loans to member countries,
but does little to ensure that the funds are used for the stated
purposes. And the allocation of funds is primarily to countries with
easy access to private capital markets. Over the past decade, the World
Bank has lent 70% of its funds to 11 countries. These countries are not
among the poorest or those lacking access to markets. Indeed, for those
countries, development bank loans average less than two percent of
total capital inflows during that period.
The Commission found that development banks were ineffective as
promoters of reform. As shown in the work of David Dollar and others at
the World Bank, programs that subsidize institution building only work
in countries that already have a commitment to reform.\6\ Reform-minded
governments offer windows of opportunity for change, and under those
circumstances constructive reforms can be hastened and broadened by
appropriate external assistance, which can benefit not only the
recipient but other countries as well (including the United States).
But to be effective, subsidies have to reward bona fide efforts, not
just lip service. There is a need to improve dramatically the way
reform subsidization is delivered to ensure that it is channeled
effectively where it can have the greatest positive impact.
---------------------------------------------------------------------------
\6\ Assessing Aid. Oxford University Press for the World Bank,
1998.
---------------------------------------------------------------------------
The Meltzer Commission also found that the development banks are
devoting far too little to alleviating global problems in the areas of
public health, particularly the endemic problems of AIDS and malaria,
which are important stumbling blocks to economic development in many of
the poorest countries.
None of the international financial institutions clearly defines
and limits its spheres of activity. The IMF's mission warrants short-
term lending, yet the IMF typically makes long-term loans. Sixty-nine
countries have borrowed from the IMF for a total of more than 20 years,
and 24 of those countries have borrowed for more than 30 years.
Seventy-three countries have borrowed from the IMF in more than 90% of
the years they have been members of the IMF.\7\ The development banks
participate in short-term emergency lending, despite the fact that this
is not consistent with their long-term focus on development, and even
though their managements sometimes privately complain about having to
do so.
---------------------------------------------------------------------------
\7\ Ian Vasquez, ``The International Monetary Fund: Challenges and
Contradictions,'' Cato Institute, 1999.
---------------------------------------------------------------------------
There is little disclosure of relevant information about accounting
or decision making. In the case of the IMF, its own staff admits that
its accounting system is an exercise in obfuscation:
The cumulative weight of the Fund's jerry-built structure of
financial provisions has meant that almost nobody outside, and,
indeed, few inside, the Fund understand how the organization
works, because relatively simple economic relations are buried
under increasingly opaque layers of language. To cite one
example, the Fund must be the only financial organization in
the world for which the balance sheet . . . contains no
information whatever on the magnitudes of its outstanding
credits or its liquid liabilities. More seriously, the Fund's
outdated financial structure has been a handicap in its
financial operations.\8\
---------------------------------------------------------------------------
\8\ Jacques Polak, ``Streamlining the Financial Structure of the
International Monetary Fund'' (Princeton: Essays in International
Finance 216, September 1999), p. 2.
With regard to the principle of respecting sovereignty, critics of
all political persuasions seem to agree that the international
institutions should reduce their intrusiveness. Labor union officials
complain that conditions for assistance requiring labor market
``flexibility'' undermine the position of trade unions. Martin
Feldstein has faulted the IMF for undermining debtor countries
sovereignty through excessive micromanagement of the conditions
attached to subsidized loans.\9\ George Schultz and others complain
that the sovereignty and constitutional frameworks of creditor members
are also undermined, since loan subsidies often serve as an end-around
the legislative oversight that should accompany foreign aid.
---------------------------------------------------------------------------
\9\ ``Refocusing the IMF,'' Foreign Affairs, March/April 1998, pp.
20-33.
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Proposals for Reform
The Meltzer Commission's recommendations for reform follow directly
from the perceived gap between actual performance of these institutions
and the combination of bona fide objectives and principles that we
viewed as non-controversial. With respect to the IMF, the Commission
unanimously voted to end long-term lending. The 8-3 majority went
further, recommending that the IMF focus on maintaining liquidity for
emerging economies. By providing lines of credit to countries that meet
minimal pre-established standards, and lending to them as a senior
creditor at a penalty rate, the IMF could prevent avoidable liquidity
crises without sponsoring counterproductive bailouts of banks at
taxpayers' expense.The terms under which the IMF would lend are crucial
to our reform proposal. Under current practice the IMF lends at a
markup over its cost of funds. That is not a penalty rate--for many
countries it implies a substantial subsidy. Our proposed penalty rate
removes that subsidy. Countries facing a bona fide liquidity crisis
(including those with past fiscal problems that have decided to improve
their fiscal discipline) would benefit by borrowing short-term at a
penalty rate, since such borrowing would allow them to avoid
unnecessary collapse. But countries seeking financial assistance for
bailouts would get no benefit from senior IMF lending at a penalty
rate. Countries facing both a liquidity crisis and a banking crisis
would still likely access IMF lending, but doing so would discourage
fiscally costly bailouts of banks. Borrowing on senior terms from the
IMF at a penalty rate would not channel subsidies to a country that
chose to expand its public deficit by bailing out its banks; indeed, it
would hamper that country's ability to raise and retain private funds.
Thus IMF complicity in bailouts would be avoided.
The proposed pre-qualification requirements for IMF lending are
few. They include meeting IMF fiscal standards and prudential banking
standards (that is, requiring that banks maintain adequate capital and
liquid reserves). IMF discretion would be relied upon in setting and
enforcing pre-qualification standards. Those standards reduce the
likelihood that borrowing countries would access IMF lending to sponsor
bailouts at their taxpayers' expense. We also recommend requiring that
countries with access to IMF credit be required to permit free entry
into their financial systems by foreign financial institutions. That
requirement would go a long way toward ensuring competitive, stable
banking in emerging markets, and in so doing would substantially reduce
the likelihood and magnitude of bank bailouts. More than 50 countries
already have agreed to this WTO provision. Over the five years that we
envision for the transition to this new pre-qualification system
virtually all emerging market countries would be able to meet these
standards.
Our pre-qualification requirements are designed to avoid, rather
than increase, intrusion by the IMF into the sovereignty of borrowing
countries. IMF conditionality now is ex post, customized
micromanagement (which is necessarily very intrusive). We suggest,
instead, making IMF liquidity assistance available based on clearly
specified rules which are the same for all countries. The requirement
that countries allow free entry into financial services is not designed
to force countries into greater free trade, per se, but to protect
borrowing countries' citizens from bearing the costs of IMF-sponsored
bailouts. The IMF's complicity in the bank bailouts in Mexico, Asia,
and elsewhere--which the pre-qualification standards and penalty rate
would avoid--has been a far more important invasion of sovereignty than
our pre-qualification standards would be.
What would happen if the stability of the global financial system
were at stake because a large developing country in need of liquidity
assistance had not pre-qualified? The report recognizes that the pre-
qualification requirement could be waived in such a circumstance, but
the lending limits, the IMF's senior status, the short maturity, and
the penalty rate would still apply.
With respect to the development banks, for poverty alleviation, we
recommended relying on grants to service providers with independent
verification of performance, rather than loans earmarked to
governments, as a mechanism more likely to deliver results. Development
banks would share the burden of financing projects with recipient
governments. For the poorest countries, the development banks would pay
nearly all cost, but for those with higher per capita income the share
of development bank support could be much lower. Grants would be paid
to service providers, not governments, and those providers would
compete for projects in open auctions. No grants would be paid out by
development banks unless independent auditors had verified that the
providers had actually achieved the stated objectives.
With respect to promoting institutional reform, the Commission
proposed making loans to govermnents at highly subsidized rates, but
only after they had passed laws establishing reforms. The maturity of
those loans would be extended (and thus the subsidies increased)
conditional on the continuation of reforms--that is, only if
independent verification indicates that promised reforms are continuing
on track. For example, if a country passed a bankruptcy reform law, it
would be eligible for a subsidized loan in support of implementing that
new law (which can be a protracted and difficult process). Continuing
progress after the law was passed (as indicated, for example, by an
independent international group that rates the performance of
countries' bankruptcy systems) would be a prerequisite to extending the
duration of the loan.
We recommend focusing country-level poverty assistance and reform
subsidies on the poorest countries, where it is needed most (a distinct
departure from current practice). And we suggest devolving much of the
authority over country-specific programs that combat poverty or support
institutional reforms to regional development banks, leaving the World
Bank to pursue neglected global public goods provision, for example, in
the areas of health and the environment.
Are the existing resources of the international financial
institutions adequate to meet these objectives? Yes and no. If the IMF
refocused its efforts on emergency liquidity assistance, offered at a
penalty rate, it could provide substantial benefits at little cost. So
the IMF's capital is more than adequate. The resources currently
available to the development banks could provide substantially greater
and more effective assistance if the Commission's recommendations were
adopted. However, the Meltzer Commission recommended substantial new
appropriations for these institutions, if they can be reformed to
improve their effectiveness.
The Commission also voted unanimously that the IMF and the
development banks should write off all claims against the highly
indebted poor countries (HIPCs) once those countries have established
credible development programs. The financial distress of the HIPCs is
as much an indictment of multilateral lenders (and the governments that
control them) as it is of the leaders in the borrowing countries who
often wasted those funds or used them for personal gain, leaving their
impoverished citizens with an enormous debt burden. If the multilateral
lenders can reform their policies so as not to produce these debt
burdens again in the future, and if the HIPCs can establish the basic
foundations for growth, there is little point to continuing to punish
the citizens in these countries for the mistakes of the policy makers
of the past. However, without substantial reforms of the international
financial institutions, debt relief will accomplish little in the long
run; without reform, debt forgiveness would be a prelude to rebuilding
the mountain of unpayable debt that now faces HIPC countries.
Reactions To the Report
The editorial pages of the New York Times, the Wall Street Journal,
and the Financial Times have been favorably disposed to some or all of
our recommendations, which has helped us to get a fair hearing. Some G-
7 officials outside the United States (notably officials in Germany,
the U.K., Canada, and the ECB) have expressed strong support for the
thrust of our recommendations on IMF reform. The IMF, the U.S.
Treasury, and the World Bank have each agreed with some of our
criticisms and recommendations, and some of the reforms they are
currently implementing move slightly in the directions we suggest (or
at least appear to do so). Specifically, the IMF claims that it will
improve its contingent credit line facility to attract more countries
to sign on to it, and the Treasury Secretary has called for a scaling
down of long-term IMF lending (although neither the IMF nor the
Treasury has accepted the need to focus the IMF primarily or
exclusively on liquidity assistance, as opposed to emergency aid
broadly defined). While the World Bank has rejected our grant-based
approach for providing assistance, and our call for HIPC debt
forgiveness, in at least one recent case they seem to have accepted the
essence of our argument for grant-based support. In late April, when
considering the funding of the ``Economic Recovery Project'' to
Burundi, the Bank's management conceded that:
Donors are concerned that any budget support, without
appropriate controls, might be misused for military purposes. .
. . It is for this reason that this ERC differs from normal
Bank quick disbursing operations. Foreign exchange will be
provided to the private sector, its distribution and value
determined through auction.
Despite these small, encouraging signs, and the enthusiastic
support the Report has gotten from some Members of Congress and some
policy makers outside the United States, the thrust of the reaction to
the Report from the Treasury Department, the World Bank, the IMF, and
some other Members of Congress has been negative. Richard Gephardt
referred to the Report as ``isolationist.'' Pete Stark (who admitted
publicly that he had not read the Report) nevertheless characterized
our proposals as ``laughable.'' Treasury Secretary Lawrence Summers,
testifying before the House Banking Committee (while reserving the
right to change his mind based on further reading of the Report)
faulted the Commission on several specifics. Given the influence that
Mr. Summers' views may exert on the reform movement, it is worth
addressing his criticisms in detail.\10\
---------------------------------------------------------------------------
\10\ All references to statements by Secretary Summers are from his
testimony before the House Banking Committee on March 23, 2000.
---------------------------------------------------------------------------
At the hearings, Mr. Summers expressed concern that forgiving too
much of the HIPC debt might hurt the HIPC countries themselves by
making it harder for them to access capital markets in the future. It
is important to stress that our report only spoke to the question of
forgiving the debts owed to the multilaterals. In my view, it would not
be necessary or constructive for the HIPC countries to default on, or
seek forgiveness of, their private sector debt. So long as debt
forgiveness is confined to the debts of the multilaterals, and the
debts held by individual sovereign creditors, I see no reason why the
HIPC countries would be penalized by the private capital markets.
Furthermore, the historical literature on debt default indicates that
``warranted'' sovereign debt write downs (those which are practically
unavoidable because of the high cost of debt service relative to
available income) are not penalized very much by future creditors.
Because the HIPC countries clearly fall into the category of warranted
debt forgiveness, I think the Secretary's concerns about the costs they
would bear from debt forgiveness are misplaced.
With respect to our proposals for reforming the IMF, Mr. Summers
expressed several concerns. He claims that ``few if any of the
countries that have suffered financial crises in recent years . . .
would have qualified for emergency IMF support.'' He goes on to
recognize that the Commission recommended waiving prequalification
standards in cases where global capital market stability was
threatened, and that therefore, the Commission did not, in fact,
recommend ruling out support to any country. Still the Secretary
questioned, in light of our recommendation that prequalification could
be waived, ``how the rest of the Report's proposals in this area are to
be interpreted and applied.'' He questioned whether many countries
would prequalify for IMF support, and whether lending even to
prequalified countries would create moral hazard problems (in
comparison to the current practice of attaching ``conditionality'').
The Secretary's concerns again are misplaced. First, we envision a
phase-in period of five years for the new prequalification standards,
and we think most emerging market countries would prequalify. Most or
all of the crisis countries in Latin America and Asia would face strong
incentives to meet our proposed standards, particularly since failing
to do so would likely reduce their access to, and raise their costs of,
private finance. If our proposed standards had been imposed, say, in
1990, the severe crises suffered by these countries (which largely
reflected weaknesses in their banking systems and the incentives of
those weak banks to take on enormous exchange rate risks) may have been
averted, and certainly would have been far less severe.
Furthermore, it is hard to see how our proposed IMF lending
arrangements would worsen moral hazard. Moral hazard depends on the
expectation of receiving a subsidy. Under current IMF arrangements,
countries borrow large amounts at highly subsidized rates. The
conditionality imposed on these countries (particularly in the area of
financial sector reform) is not enforced and not effective, owing in
part to the short disbursement time period of emergency lending and the
long time period required for meaningful reform. Under our proposals,
there is no subsidy, and therefore, virtually no moral hazard.
Prequalifying countries would be able to borrow a limited amount on a
short-term basis in the form of senior debt at a penalty rate; those
that receive emergency assistance without having prequalified must
borrow at a super-penalty rate, which provides further assurance that
no subsidies would flow to those borrowers.
Another concern expressed by Mr. Summers is that the Commission's
report presumes ``that crises emerge almost exclusively from flaws in
the financial sector.'' This is a significant misunderstanding of our
report. According to our proposals, the role of the IMF would be to
protect against liquidity problems in the markets for foreign exchange
and sovereign debt that come from problems other than banking sector
fragility. The point of the prequalification standards is to prevent
the IMF from being misused as a mechanism for facilitating financial
sector bailouts. Its main function lies elsewhere--specifically in
providing protection against market illiquidity, either due to
information problems that result in the temporary collapse of markets,
or problems of self-fulfilling speculative attacks.
The Secretary criticizes our proposals for failing to provide IMF
support to deal with ``balance of payments problems.'' I am not sure
what the Secretary means by a ``balance of payments problem.'' Our
proposals for IMF lending are designed to counter balance of payments
outflows resulting from bona fide liquidity crises. Our proposals would
not channel counter-cyclical subsidies to countries that suffer balance
of payments outflows, per se. In our view it would be inappropriate to
charge the IMF with the broad mandate of providing global counter-
cyclical fiscal subsidies to its members.
Mr. Summers also criticizes our recommendations for reforming the
development banks. He objects (1) to limiting emergency lending to the
IMF, (2) to our proposal to target country-level assistance to the
poorest countries, and (3) to the use of grants rather than loans for
poverty alleviation.
Our proposal to limit emergency lending to the IMF follows directly
from the principle that separating the functions of the various
multilaterals promotes greater effectiveness and accountability. Under
our proposals the IMF would have the capacity to deal with all bona
fide liquidity problems that would arise. There is no need for the
other multilaterals to assist it in providing short-term assistance.
Nevertheless, the Commission Report envisions loans or grants from
development banks to poor countries that have experienced crisis-
induced trauma. We recommend that any assistance to alleviate poverty
or to spur reforms should be channeled through appropriate long-term
programs, and that in the case of reform programs, these should be
designed to ensure that the flow of aid is credibly linked to the
implementation of reforms undertaken by recipients.
The Secretary also misunderstands the effect of our proposals on
poor people who reside in developing countries with access to private
capital markets or with per capita annual average incomes higher than
$4,000. He states that ``the Report would rule out MDB support for the
majority of the world's poorest people.'' That is not true. While we
recommend that the MDBs focus their country-level poverty alleviation
funding on the very poorest countries that lack access to private
capital markets, we would have the World Bank expand its support to the
poor throughout the world through two channels: financial assistance
for supplying global public goods, particularly in the areas of public
health and the environment, and technical assistance to all developing
countries. Similarly, the Secretary's statement that ``the Report's
recommendations would drastically undercut the global role of the World
Bank by limiting it to the `knowledge' business'' indicates a serious
misunderstanding of our recommendations. We envision a substantial
continuing role for the World Bank in providing financial assistance.
Finally, Mr. Summers' statement that ``the shift to grant-based
funding would drastically reduce the total amount of official resources
that can be brought to bear in these economies'' confuses the dollar
amount of lending that the development banks currently provide with the
dollar amount of assistance implicit in that lending (the amount of
interest subsidy). So long as the development banks retain their
capital (as we recommend), under our proposals they will be able to
channel more assistance using grants than using loan subsidies, and
crowd in a greater flow of credit, to the world's poorest countries
than they do today. That is so even before taking into account our
recommended increases in funding for the development banks. Current
World Bank loans transfer money to borrowing countries in advance and
require borrowing countries to guarantee repayment. Grant funding frees
up additional resources by allowing countries to use their limited
potential to guarantee repayment to support private market borrowing to
finance their share of project costs. Also, unlike grant subsidies, the
amount of subsidy transferred through a loan is limited by the fact
that loans can't bear an interest rate less than zero. Taking these
advantages of grant-based assistance into account, Adam Lerrick of the
Commission staff estimated that a grant-based program would support a
volume of development projects for poverty alleviation and
institutional reform 80% larger than that of the current loan-based
programs.
I do not mean to suggest that there is no room for disagreement on
the details of our recommendations. Indeed, it would be remarkable if
that were so. Rather, in reviewing and responding to these arguments I
hope to show that the reorganization of these institutions and the new
policy mechanisms we suggest for them (e.g. IMF liquidity lending with
prequalification, grant-based poverty alleviation, credible
subsidization of long-run reforms, and HIPC debt relief) are quite
reasonable and practical economic mechanisms.
``Forget Economics: It's the Foreign Policy, Stupid!''
Dealing with these detailed concerns, however, is the easy part of
responding to critics' objections, and the less important part. Most
critics of our proposals, including the Secretary, have a deeper
problem with our Report. They do not agree with our goals and
principles. Specifically, many critics do not share the goal of
narrowing the latitude of the IMF and the World Bank. To some, the IMF
and the development banks should be used as cost-effective vehicles for
``leveraging'' U.S. foreign policy. From that perspective, any limits
on the ``flexibility'' of these institutions are undesirable, as is
transparency in accounting, open voting, independent evaluation of
performance, and other procedural reforms we suggest, since they only
get in the way of flexibility. Indeed, to those who view the
multilaterals this way, their principal advantage is the absence of
accountability. Aid can be delivered, and the embarrassing deals that
lie behind it are not easily traced. Time-consuming parliamentary
appropriation debates and justification for the use of taxpayer funds
can be avoided. This point of view is not often voiced openly, but it
is nevertheless a crucial element in the current debate over reform.
Consider, for example, the recent negotiations between Pakistan and
the IMF. A knowledgeable insider informs me that the United States
government has told Pakistan that its access to IMF subsidized lending
depends on its willingness to sign a nuclear nonproliferation treaty.
According to this person, unless Pakistan agrees, the U.S. will block
its IMF program. In this case, the U.S. foreign policy objective seems
laudable, but is the IMF the right tool for achieving it?
The view that the multilaterals should serve the broadly and
flexibly defined goals of U.S. foreign policy is wrong for at least
five reasons. First, the flexibility necessary to permit the
multilaterals to serve as broad foreign policy devices undermines their
effectiveness as economic mechanisms. When the objectives of poverty
reduction and institutional reform take a back seat to ad hoc foreign
policy it is no surprise that aid mainly flows to the richest and most
powerful of the emerging market countries, or that the IMF and the
development banks maintain so poor a track record, even by the
standards of their own internal evaluations. In my view, there is no
more important goal for American foreign policy than promoting stable
economic development around the world. We should design multilateral
institutions that are able to meet that challenge. Saddling those
institutions with broader political mandates that weaken their ability
to achieve bona fide economic objectives is counterproductive, even
from the perspective of foreign policy.
Second, the use of multilaterals to pursue broad foreign policy
objectives forces the management of these institutions to depart from
clear rules and procedures in order to accommodate ad hoc political
motivations. This undermines their integrity as economic institutions,
makes it hard to establish norms for the conduct of management and
mechanisms to ensure their accountability, and leads to erosion of
popular support for funding the important economic goals on which they
should be focused. It is ironic that some of the public officials who
complain loudest about the reluctance of Congress to fund international
organizations have done more than their share to produce the cynicism
about these organizations that makes them so unpopular. The Meltzer
Commission recommends substantial increases in the budgets of effective
development banks. But the popular support necessary to raise new
appropriations will not be forthcoming until these institutions regain
their credibility.
Third, the subversion of the process of Congressional deliberation
over foreign aid appropriations is no small cost to bear, even in the
interest of pursuing desirable foreign policy objectives. It is beneath
us as a democracy to sanction such behavior. If Congress wishes to
delegate power over a limited amount of resources to a multilateral
``political emergency fund'' financed by the G-7 countries, then let it
do so openly, establish the appropriate governance and oversight to
accompany that delegation of authority, and keep the management and
funding of that entity separate from the other multilateral
institutions. I am not recommending that such a fund be established,
but rather suggesting that if it were, it should be created by, and be
made accountable to, the governments and taxpayers who authorize and
finance its activities.
Fourth, it is worth considering the adverse impact that loans from
multilateral lenders with non-economic objectives can have on emerging
market countries. The debt burdens that plague the HIPCs today are
primarily the result of inter-governmental or multilateral loans that
were politically motivated, not private or public lending made to
finance credible investments.
Finally, it may not even be feasible for the United States to
continue to use multilateral financial institutions as an extension of
U.S. foreign policy. Progress in the global economy will make that
approach to those institutions increasingly anachronistic. A decade
from now the global economy will be much more polycentric. Europe and
Japan are likely to enjoy a golden era of productivity growth over the
next decade, as well as substantial improvements in the sophistication
of their financial systems and increases in their living standards.
Many emerging market countries outside of Europe--including Korea,
Argentina, Brazil, and Mexico--will soon become full-fledged industrial
nations, as well. Multilateral agencies focused on bona fide economic
objectives, with a more decentralized administrative structure--one
that relies more on regional development banks in Asia and Latin
America, financed by new benefactor countries as well as the G-7--will
fit the global economy of the future better than the current structure,
which is rooted in and subservient to the broad goals of U.S., or G-7,
foreign policy. And a World Bank that can focus cooperative efforts
among a growing number of benefactor countries to address global public
health and environmental problems will be increasingly valuable for the
same reason.
Sooner or later, global economic progress will mandate the kinds of
reforms our Commission is recommending, and a number of senior members
of Congress are considering. It is worth remembering that the
independence of the Federal Reserve System from the Treasury
Department--a precursor of sorts to the economic rationalization of IMF
and World Bank policies advocated by the Meltzer Commission--that was
achieved in 1951 resulted from a shift in economic power that made it
impossible for the Treasury to continue to use monetary policy as a
political and economic tool.
In 1935, then Treasury Secretary Morgenthau gloated that ``the way
the Federal Reserve Board is set up now they can suggest but have very
little power to enforce their will . . . [The Treasury's] power has
been the Stabilization Fund plus the many other funds that I have at my
disposal and this power has kept the open market committee in line and
afraid of me.'' Morgenthau felt no threat from the centralization of
power at the Board of Governors in 1935 and the new structure of the
Federal Open Market Committee because ``I prophesy that . . . with the
seven members of the Federal Reserve Board and the five governors of
the Federal Reserve Banks forming an open market committee, that one
group will be fighting the other . . . and that therefore if the
financial situation should go sour the chances are that the public will
blame them rather than the Treasury.'' \11\ The prospect of retaining
power while escaping responsibility always appeals to government
officials.
Why was Secretary Morgenthau able to control monetary policy in the
1930s, and why did that control lapse in the 1950s? In essence,
Secretary Morgenthau had more funds at his disposal (with which to
expand the money supply) than the Fed had on its balance sheet (with
which to contract the money supply), so the Fed was simply too small to
control the supply of money. By 1951, however, the size of the Fed had
grown relative to the Treasury's resources, and its independence,
codified in the Treasury Fed Accord of 1951, was a forgone conclusion.
The growing strength of other industrial and emerging economies
will increase the independence of the World Bank and the IMF from U.S.
Treasury control in the next decade or two. In the post-World War II
era the U.S. economy reigned supreme. Being an ``internationalist''
meant understanding the central importance of the strategic political
struggle between the United States and the Soviet Union, and the need
to make economic policy subservient to that struggle. But as the
polycentric post-Cold War global polity and economy take hold, it will
become increasingly apparent that the United States neither should, nor
can, use the World Bank and the IMF as a tool of leveraged, ``stealth''
foreign policy.
The Meltzer Commission Report has provided a credible starting
point for reforming the multilateral financial institutions, and has
persuasively argued that it is high time to begin that process. Before
reform can begin, before these institutions can operate as effective
economic mechanisms, they must narrow their focus, regain credibility
as organizations, and recapture the trust of the taxpayers that finance
their operations. And before any of that can happen, the developed
countries, and especially the United States, must resolve the often
unspoken controversy over whether these organizations should act as
foreign policy slush funds or as bona fide economic institutions. That
is the first step toward real reform.
--------------
\11\ John Morton Blum, From the Morgenthau Diaries: Years of
Crisis, 1928-1938 (New York: Houghton Mifflin, 1959), p. 352.
Senator Hagel. Doctor, thank you.
Dr. Levinson.
STATEMENT OF DR. JEROME LEVINSON, MEMBER, INTERNATIONAL
FINANCIAL INSTITUTION ADVISORY COMMISSION; PROFESSOR,
WASHINGTON COLLEGE OF LAW, AMERICAN UNIVERSITY, WASHINGTON, DC
Dr. Levinson. Mr. Chairman, I had to substitute for Fred
Bergsten yesterday afternoon. I have submitted a brief
statement. I am not going to read it. I am just going to make a
few points in the interest of your getting to the questions,
which I think the members want to reach with respect to this.
Let me just say this. First, the majority report--there
should be no illusions about it--basically eviscerates both the
IMF and the World Bank. Let us not have any illusions about
that. The IMF is converted into an international bank
supervisory agency. Once a country is prequalified, its access
to the resources is considered to be automatic. Essentially
what you need at the IMF then is a high level clerk, two
disbursing officers, and three lawyers to draw up the
documentation.
They say that in a systemic crisis you suspend the rules,
as if it is self-evident what a systemic crisis is. I want to
remind you of the Tesebono crisis in Mexico in 1994 and 1995.
You will recall that there was no agreement between the U.S.
and the western European authorities as to whether the crisis
was systemic. There was a substantial disagreement. So, it is
not self-evident when a crisis is systemic. That is the first
point.
The second point, with respect to the World Bank, the World
Bank becomes converted into a super development bank for Africa
because all financing terminates with respect to the member
countries of Latin America and Asia. So, it becomes a super
development bank for Africa until the African Development Bank
can take over, and it then becomes what they call a provider of
public goods, solving the malaria and public health problems of
Africa. Why one believes that the World Bank is going to be
more effective at this than the World Health Organization is a
mystery to me. Why the World Bank is going to be a more
effective coordinator of aid for NGO's than that United Nations
development program, without financing that the World Bank
provides, again is a mystery.
Now, I will not go into the details--I will be happy to
address those issues in the question period--of the scheme that
they propose for World Bank financing, the idea of grants, et
cetera. But the criteria that they have set up means
essentially that, for example, in Latin America, the only
countries that would be eligible for borrowing from the IDB
would be the Central American countries, less Costa Rica, and
Bolivia, Paraguay, and Guyana. The Inter-American Development
Bank does not survive as a regional development institution
under that criteria. The point is to push the more advanced
developing countries into exclusive reliance upon the private
financial markets.
That brings us to the nub of the difference. Is there a
legitimate role for development finance? We have had experience
with the private financial markets for 25 years and we know how
volatile they can be. We have seen the debt crisis of the
1980's. We have seen the Mexican Tesebono crisis. We have seen
the East Asian short-term lending. We have seen the Russian
crisis. We have seen the Brazilian crisis. So, the idea that
you want to push the countries into exclusive reliance upon
these volatile financial markets certainly should give one
pause in light of the history.
Now, there is a legitimate issue which I think they raise
and I think is at the heart of the dilemma. I think there is a
compelling case for development finance in terms of the
volatility of the markets. For instance, if you have the IDB
with a self-sustaining lending program now of $9 billion--by
self-sustaining, I mean they do not need any further capital
increases. They loan $9 billion a year. The World Bank provides
approximately $7 billion. So, that is $16 billion per annum for
the Latin American countries, and that is complemented by
another $16 billion in counterpart funds by the countries. You
have a base investment in the human capital of the region, if
the resources are properly used, of approximately $32 billion
per annum. That gives you at least a secure baseline for
investment. Whatever else occurs in terms of access to the
markets, the countries know that they are going to be able to
finance those key investments through long-term, assured
capital lending from the international community through these
institutions.
The basic difference between us, the minority and the
majority, was that the majority said that only countries that
are prequalified have access to IMF resources and there are no
conditions that attach. We in the minority said that does not
make any sense. You want the IMF to address with the country
the underlying conditions that led to the crisis in the first
place and to assure that those conditions are being addressed.
As I said, with respect to the World Bank and the
development banks, we saw a continuing relevant complementary
role for development finance as the private markets assume the
primary financing role.
Neither the majority nor the joint minority really
addressed the equity issue, and that is the reason I wrote a
separate, rather lengthy dissent because I think this is the
heart of the problem in areas like Latin America. They are
trying to achieve two things at once: high growth rates and at
the same time address historic inequities.
The basic problem we have with the World Bank and the IMF
is that they are really pushing a neoclassical economic vision
of the world; that is most evident in their labor market
recommendations: in order to solve the unemployment problem
that has accompanied the economic liberalization program, they
want the countries and insist--in Argentina, for example--that
the countries adopt labor market flexibility measures, which is
a euphemism for measures which make it easier for firms to fire
workers without substantial severance payments, to weaken the
capacity of unions to negotiate, and to drive down urban
unionized wages to make the country more competitive
internationally.
I really find it astonishing to listen to Professor
Calomiris' testimony with respect to Argentina and labor market
reforms. No one was more dedicated than the Menem government to
implementing this IMF, World Bank, and our own Treasury agenda
with respect to the labor markets. And they tried. And that led
in September 1996 to a general strike which brought the country
to a halt and which had broad support in the middle class. So,
the question of labor market reform is more than just a
technical economic issue. It goes to the basic social compact
in the society, and that compact has evolved as a result of
negotiation within the society.
The present Argentine Government has accomplished something
in reforming the labor market that the previous government was
not able to, also accompanied by major labor unrest. Again, it
is astonishing to listen to Professor Calomiris with respect to
Argentina's fiscal problem that they now face. They tried to
cut. They have cut substantially. They have continuing riots in
every one of the outlying provinces because they do not have an
economic base in those provinces. When you cut the government
expenditures, you are now having social riots in the interior
provinces of Argentina. These are not simply a question of
technical issues. This goes to the question of how you allocate
the costs and the burdens of reform within a society.
Unfortunately, the approach of the IMF and the World Bank
is to allocate that cost disproportionally to working people.
I want to refer you to an extraordinary report in the New
York Times by Nick Kristof and David Sanger discussing the East
Asia crisis, where they describe how the push for
liberalization of the financial markets was a contributing
cause to the East Asian crisis, and the push came from the
United States. They say, ``This is not to say that American
officials are primarily to blame for the crisis. Responsibility
can be assigned all around not only to Washington policymakers,
but also to the officials and bankers in the emerging market
countries who created the mess, the Western bankers and
investors who blindly handed them money, the Western officials
who hailed free capital flows and neglected to make them safer,
the Western scholars and journalists who wrote paeans to
emerging markets in the Asian century.''
Absent from this rogues' gallery of culprits who are
responsible are workers, workers in both Korea, the other East
Asian countries, and the United States. As Professor Meltzer
very rightly points out, they are the ones who pay the price
disproportionally in the resolution of each of these crises. He
refers to the United States as the importer of first resort,
there is a social and political cost which underlies that
importer of first resort function to which he refers to.
At the heart of the issue between myself and the other
members of the Commission was they were unwilling to address
the question of growing income inequality both between
countries and within countries, and I think that is at the
heart of the development issue. The dilemma we have, for those
of us who support a continued role for development financing,
is that the economic philosophy which these institutions bring
to bear really fosters growing income inequality in the
interest of this neoclassical economic model which places
market efficiency above all other considerations. In my
opinion, this is not sustainable politically and socially and
that is what we are going to find out in the next couple of
years.
Thank you, Mr. Chairman.
[The prepared statement of Dr. Levinson follows:]
Prepared Statement of Dr. Jerome I. Levinson
the international financial institutions and their discontents
Two events have highlighted the discontent with the IMF and the
World Bank: first, the issuance of a report by the majority of an
International Advisory Commission on International Financial
Institutions, and accompanying dissenting statements. Second, high
profile protest demonstrations in Washington at the April meetings of
both institutions. Coming from opposite ends of the American political
spectrum, the two events converge in evidencing a widespread discontent
with the operations and priorities of both institutions.
Both the Commission and the protests, in my opinion, arise out of
the evolution of the international trade, investment and finance system
of the past two decades. That evolution has transformed domestic U.S.
politics with respect to the international economy. The culminating
event was the East Asian financial crisis in November 1997 and the
request of the Administration for additional funding for the IMF to
cope with the developing crisis.
That crisis served as a catalyst for two strains of criticism of
the IMF: the center-left of the Democratic Party in the Congress,
particularly in the House, demanded, as the price of their support,
that the legislation include provisions that instructed the U.S.
Executive Director in the IMF to use the ``voice and vote'' of the
United States to (i) advance core worker rights as a part of IMF
programs and (ii) to ensure that IMF programs that included labor
market flexibility measures as a condition of financing are compatible
with core worker rights. That demand reflected a widespread feeling
among Democrats, and their labor allies, that IMF programs are biased
in favor of capital and corporate interests. If the IMF legislation was
to obtain Congressional passage, the Administration, Wall Street and
the Congressional leadership, had to accept a provision in the
legislation along the above lines.
For the first time, the legislation appropriating IMF funding
included such a worker rights provision, but this approach did not
question the existence of the IMF, or, its relevance. Nor did it impose
conditions directly upon the IMF; rather, it respected the multilateral
character of the institution by imposing the policy conditions upon the
U.S. Executive Director (USED) in the IMF, and the U.S. Treasury
Department, the principal agency responsible for U.S. policy relating
to the IFIs. Understood in these terms, it represented a relatively
conservative approach to policy reform in the IMF. It was a reformist
rather than an abolitionist strategy.
At the same time, the Asian financial crisis catalyzed sentiment,
in conservative U.S. academic and Congressional circles, that the IMF
no longer served a useful purpose; on the contrary, it contributed to
successive crises by increasing ``moral hazard.'' The East Asia crisis,
in this view, arose directly out of the 1994/95 bailout of Mexico: the
resolution of the East Asia crisis should have been left to the private
capital markets to sort out. This view received its most dramatic
expression in a Wall Street Journal article by George Schultz, William
Simon and Walter Wriston; Schultz and Simon, of course, had been
Secretary of the Treasury in former Republican administrations and
Wriston, was a former Chief Executive Officer of Citicorp. Because the
article called into question the rationale for the very existence of an
IMF, and because of the personal prestige of the authors, it caused
something of a sensation.
The legislation approving additional funding for the IMF provided
for a Congressional Advisory Commission on International Financial
Institutions (IFIs), which was to examine U.S. policy with respect to
these institutions, including the question of whether they ought to
continue to exist. For purposes of the Commission, the World Trade
Organization (WTO) was included in the definition of IFIs, indicating,
in my view, that the Congress wanted the question of international
finance examined within a broader context: trade, investment and
finance, considered as an integrated whole.
The Advisory Commission consisted of eleven members, six appointed
by the Republican Majority Leaders in the Senate and the House and five
appointed by the Democratic Minority leaders in both Chambers. The
Chairman (Professor Allan Meltzer of Carnegie-Mellon University) was
drawn from among the majority members. I was one of the Democratic
appointees. The various reports, a majority report (eight members), a
joint dissent (three members), my own separate somewhat lengthy
dissent, reflected the deep divisions within the Commission, and, in my
opinion, within American society, concerning not only the institutions
which are the subject of the Commission inquiry, but also the more
general process in the international economy that we short-hand refer
to as ``globalization.'' (One member signed both the majority report
and the joint dissent).
The Majority, consisting of the six Republican members and two
Democratic appointees, Professor Jeffrey Sachs of Harvard University
and Richard Huber, formerly Chief Executive Officer of the Aetna
Corporation, recommended a highly constricted role for the IMF: only
member countries of the IMF that are pre-qualified are eligible for IMF
financing; that financing is at a penalty rate of interest for a
maximum period of 120 days, with a one-time-only rollover for an
additional 120 days. Initially, the Majority had a collateral
requirement, an IMF preferential claim on tax revenues, specifically
customs revenues, but in the final report this requirement was dropped.
The pre-qualification requirements relate to financial ratios for
financial sector institutions; in the final meeting of the Commission,
one dissenting member, Fred Bergsten, severely criticized the absence
of macroeconomic criteria. In response to this criticism, unspecified
fiscal criteria were added. Program conditions attached to IMF
financing are specifically barred. During a five-year transition
period, non-qualifying countries would be enabled to borrow, but only
at a super-penalty rate of interest.
Initially, the majority members of the Commission voted to have the
IMF discontinue Article IV consultations, but at the same time, they
proposed the IMF be a disseminator of best practices. The illogic of
discontinuing Article IV consultations, the means by which the IMF
informs itself of best practices, but expecting the Fund to disseminate
such practices among the member countries finally dissuaded the
Majority from recommending discontinuing Article IV consultations.
Longer term lending facilities would be terminated.
The IMF, then, according to the Majority, has a highly restricted
financing role as lender of last resort in a systemic crisis, or, when
a country, through no fault of its own, finds itself in temporary dire
financial straits, deprived of market access. It is a 19th century
Bagehot conception of a central bank but without the money creation
function; that conception assumed a single political entity in a
country with basically solvent financial institutions operating within
a market economy with relatively well developed financial markets. Any
interruption of market access could be assumed to be an aberration and
temporary in nature.
Countries which have problems which are structural in character are
assigned by the Majority to the World Bank (and regional development
banks). However, under the Majority proposal, the World Bank would be
divested of financing responsibility in any of the countries of Latin
America or Asia. It becomes a super-development bank for Africa, at
least until the African Development Bank has matured sufficiently to
assume exclusive responsibility for financing development in the
region. To the extent there is a development financing function at all
for the other regions, that function is to be carried out by the
regional development banks. But the criteria for eligibility for
financing from these institutions is set at such a high bar, that, for
example, in Latin America, the only countries that would be eligible
are the Central American countries, less Costa Rica, and Bolivia,
Paraguay and Guyana. It is a proposal, which, in effect, says that for
the more developed countries in Latin American and Asia, development
financing is now irrelevant; they should rely, for development
purposes, exclusively upon the private financial markets.
The World Bank becomes a source of ``public goods,'' addressing
such issues as tropical disease, for example, malaria, and AIDS, which
are not now being adequately addressed. It also becomes a coordinator
of other aid givers. In my view, neither the World Bank or the regional
development banks, politically, can survive this proposal.
The joint dissent outlined a different conception: the IMF should
continue to be a source of financing for countries which, for one
reason or another, find themselves in balance of payments difficulties.
The original conception of the Fund remains valid: it is desirable that
countries in financial difficulty not resort to destructive policies
that have the potential to set off a competitive cycle of policy
choices that lead to harmful systemic problems. Such IMF financing
should be accompanied by an agreement on program conditions that
address the underlying causes that led to the balance of payments
problem. That is a major difference with the Majority proposal: a
continued role for programmatic content to accompany IMF financing.
The joint dissent, however, shared the view with the Majority that
the IMF should not be a front-line permanent poverty fighting agency.
It must assess the social impact of a specific program, but structural
reform not proximately linked to the balance-of-payments problem,
should be left to the World Bank and regional development banks. This
conception, then, assumed a continued development financing role for
the development banks, even for the more advanced developing countries.
The increasing importance of the private financial markets as the
primary source of development finance for the future, in the context of
volatile private financial markets, must be complemented by public
development finance.
Development financing provided an assured source of long-term
finance for high value projects and programs, primarily related to
human capital development but also for a limited number of high value
physical infrastructure projects. That finance also, of course, has a
policy content, that is not characteristic of private financing. In
general terms, it is this conception that has been articulated by the
Secretary of the Treasury, the Council on Foreign Relations and
Institute for International Economics Task Force on International
Finance, and a similar task force of the Overseas Development Council.
Neither the Majority report or the Joint Dissent, however,
recognized the other source of discontent with the Bretton Woods
institutions: the perception that they are critical elements in the
development of a profoundly inequitable two track international trade,
investment and finance system, a rule based system for the protection
of corporate property rights and no protection for core worker rights
and the environment. It is that perception, in my view, that fueled the
demonstrations in Seattle and Washington. It is what is fundamentally
at issue in the current intense debate in this country over granting
permanent normal trade status to China. It is the issue that I address
in my separate dissenting statement.
The issue arises most acutely in connection with the IMF/World Bank
emphasis upon labor market flexibility measures, which is a code-word
for measures that make it easier for companies to fire workers without
significant severance payments, weaken the capacity of trade unions to
negotiate on behalf of their members, and drive down urban union wages
and benefits. Joseph Stiglitz, formerly Chief Economist of the World
Bank, has noted, with respect to labor matters, it reflects an
excessively economic view, through the even more narrow prism of
neoclassical economics. This labor market intervention by the Bretton
Woods institutions is contrasted with their indifference to the core
worker rights of freedom of association and collective bargaining,
where countries use the coercive power of the state to effectively deny
workers these core worker rights, even where the country's own
constitution and labor laws, at least, nominally, guarantee such
rights.
Indeed, the World Bank is of the view that it cannot support
freedom of association and collective bargaining; these rights have
been deemed by the Bank to be political in nature; economic studies,
according to the Bank, are inconclusive as to whether freedom of
association and collective bargaining make a positive contribution to
economic development. In contrast, according to the World Bank, labor
market flexibility measures clearly contribute to economic development,
and therefore are an integral part of the conditionality requirements
of both World Bank and IMF programs.
Both institutions are, then, perceived as doing the dirty work for
big capital, both domestic and foreign, to the disadvantage of workers,
in both developed and developing countries. (Mr. Stanley Fischer,
Acting Managing Director of the IMF, denies that IMF intervention is so
one-sided, but that is the way it is perceived by trade unions,
particularly in Latin America and Asia, and critics in the Congress).
That neo-classical economic model, promoted by the World Bank and
IMF, is not confined to the labor market, but represents a more general
approach to development: public sector intervention is suspect or
worse; privatization, in any and all circumstances, is preferred.
Growing income inequality within countries is of lesser consequence
than economic efficiency considerations. So long as that perception
continues, and I believe it is a perception based upon the reality of
the policy priorities of these institutions, there is no possibility,
in my view, of assembling a broad-based consensus within this country
for support of the these institutions. On the contrary, I anticipate
that public, although not elite, support will continue to weaken.
We run the risk of creating, in both the industrialized world and
the borrowing member countries of the Bretton Woods institutions, an
increasingly alienated and embittered working class, with incalculable
social and political consequences. The apparent indifference of the
Bretton Woods institutions to this tendency fuels the view that they
are dominated by a one-dimensional, excessively technocratic economic
ideology which is socially and politically tone-deaf.
It is ironic that this neo-classical economic view now predominates
in the Bretton Woods institutions: Lord Keynes and Harry Dexter White,
the two men most responsible for the design of the Bretton Woods
system, fought all of their professional lives against that same neo-
classical model; the institutions they designed to insulate the world
economy against the limitations of that economic philosophy have now
become the means to impose it upon the borrowing member countries of
the two institutions.
So there is a dilemma: there is a compelling case for development
finance to complement the private financial markets, even with respect
to the more advanced developing countries, but the Bretton Woods
institutions, in promoting their neo-classical economic philosophy,
have overreached: they are engaged in a project of remaking the
economies of their borrowing member countries along lines that would
never be accepted, politically, in their major non-borrowing member
countries. In so doing, they are promoting an increasingly inequitable
international economic system. They thus undermine support among groups
in American society that should be their natural allies in what should
be a noble enterprise: raising the standard of living for too many
people that now cannot share in the global economy.
Senator Hagel. Dr. Levinson, thank you, and to each of our
three panelists, we are grateful you would spend some time here
today.
Dr. Meltzer. Mr. Chairman, may I correct one statement?
Senator Hagel. Dr. Meltzer.
Dr. Meltzer. Yes. If you look on page 88 of our report,
there is the list of the countries. There are 11 countries in
Latin America that would be eliminated from the list. What Mr.
Levinson said is simply an overstatement of what would happen.
There are only 11 countries in all of Central and South America
and they are the richest countries or the countries which have
access to financial markets.
Senator Hagel. The record will reflect your comments, Dr.
Meltzer.
I think the committee has developed some appreciation over
the fact that we do have, indeed, a minority and a majority
report.
Dr. Levinson. We have two minority reports.
Senator Hagel. Two minority reports.
I would like to begin the questioning this afternoon with
you, Dr. Calomiris. You have heard what your colleague and
friend has said about the majority report, and we could spend
days, I suspect, taking apart Dr. Levinson's analysis. But I
want to focus on a point that he made, and you can take this
any way you want to take it. His comment, I believe the quote
was, ``more than technical issues are involved here.'' First,
do you believe that is true? And then would you amplify your
answer? Should ``more than technical issues'' in fact be
considered in determining the role of the IMF and other
international institutions?
Dr. Calomiris. I am going to ask for a little
clarification. Do you mean, when you say more than technical
issues----
Senator Hagel. Well, Dr. Levinson laid out that we are
dealing with real people's lives, social compacts as I think he
referred to it. He seems to think the majority report defined
the IMF, the World Bank, and the seven institutions that you
studied in narrow, technical, economic terms only. Did you do
it that way, or did you look at the reality of dealing with
people's lives rather than a textbook framing of the issue?
Dr. Calomiris. Let me respond. I think that we agree in our
objectives. We disagree maybe about what the consequences of
different policies would be to meet those objectives. Since we
were talking about Argentina, let us use that as a case. I do
not think the IMF or the World Bank should go to any country
and tell them what their labor union laws should be, and I want
to clarify that. I have said that in previous testimony. I do
not think that is the proper role of those multilateral
institutions and I do not think that it should be part of their
conditionality for lending either. So, I think we agree on
that.
Let me explain in Argentina where we may disagree, or at
least how I view it. What I was suggesting is that the U.S.
Treasury, IMF, IDB, and World Bank involvement in Argentina had
made the size of the debt over the last 3 years very large. The
major mistake was that it kept postponing private market
discipline. Basically the arithmetic has not been working in
Argentina. It is that simple. The amount of debt service
required is getting very large. There are $18 billion worth of
Argentine debt that has to be either rolled over or new debt
issued within the next year. The entire Argentine banking
system only has a deposit base of $80 billion. So, that gives
you a little bit of a sense of how big the shock is. I could go
into the details.
The point is now we have a big problem, and the problem is
a lot bigger as a result of the fact that the private market
discipline that would have occurred 3 years ago, where the
creditors would have said, we do not see the progress, we do
not see the reforms, the money is not coming in, was postponed.
If Argentina had been forced to choose 3 years ago between what
I would call a reform agenda--that is, expenditure cuts, labor
market reforms--then they could keep their currency board and
they could maintain their payments on their foreign debt
indefinitely. On the other hand, they might have learned 3
years ago that they did not desire or have the political will
to maintain that policy stance.
I am not judging which of those they should do. That is up
to Argentina. My point is now they have the worst of both
worlds because now they are sitting on a powder keg. When they
have to make that choice over the next year, it is going to be
a much bigger cost either way. So, my point is not to disagree
with Mr. Levinson about what the choice in Argentina should be.
We do disagree about it, but that is really not the point of
our recommendations. I think the spirit of our Commission was
to say that should be up to the country. Let us not make their
choice set worse. Let us not aggravate the risks and that is
the sense on which I think we disagree.
Senator Hagel. Dr. Levinson, what is wrong with that?
Dr. Levinson. I agree. I am delighted to hear that Dr.
Calomiris agrees that it should be no part of the IMF, World
Bank, or Treasury program to tell Argentina how it should
resolve its labor market compact, which arose over the last 40
years, as we well know, in part as a consequence of the
reaction against the oppressive conditions of the Argentine--
what they called the des camisados, the ones who worked in meat
packing.
But it is really astonishing to listen to this because it
is as if when--Professor Calomiris, who I really admire because
of his expertise in the history of international financial
markets, talks about 3 years ago in Argentina. In order to meet
the expenditure cuts that they had agreed with the IMF, the
targets, they started cutting education. There was a middle
class, an upper class, and a working class revolt in Argentina.
They had to back off of those expenditure cuts. We talk about
the labor market reform that the IMF and World Bank has been
pressing for the last 5 years. As I said, in 1996 it brought
the country to a halt. This year it led to riots before the
Congress.
He is right when he says this has to be resolved by
Argentina, but what he is not willing to acknowledge is that
maybe the model that has been promoted for the last 10 years of
radical labor market and liberalization of markets, without
taking into account the employment consequences and the social
consequences, is not sustainable in a place like Argentina.
Senator Hagel. Thank you. My time is up for this one. But
may I ask you for a quick response? You have something on your
mind, I suspect. Then we will go to Senator Wellstone.
Dr. Calomiris. I am trying to find a point of agreement. I
have worked for the Argentine Government over the past 5 years.
I would guess that Mr. Levinson has probably worked for them,
giving advice, saying what we think is right. I think we can
agree maybe that Argentina should decide for itself, get a lot
of different advice, and that there is no reason that the IMF
or the World Bank needs to tell them what to do. I do not see
any disagreement.
Dr. Meltzer. May I point out that that is why we tried to
get rid of conditionality and impose preconditions, so that the
IMF would not be in this position? I do not understand Mr.
Levinson's position because he criticizes our report because we
get rid of conditionality, and then he criticizes the
conditions which they impose on the country. Now, perhaps he
would like to impose different conditions on the country. Then
other people would object to those. We got rid of those
conditions for some of the reasons, and others, that he
mentions.
Senator Hagel. Well, thank you. I know we could continue
this. It is an enlightening and didactic experience.
Senator Wellstone will get up and pour water on my head and
leave if I do not call on him. Senator Wellstone.
Senator Wellstone. On my time, Dr. Levinson, why do you not
respond to Dr. Meltzer.
Dr. Levinson. The problem is that Professors Meltzer and
Calomiris and the majority throw the baby out with the bath
water. They are right in terms of focusing and calling our
attention to the degree of intrusiveness of the conditionality.
They are right about that.
Senator Wellstone. And may I interrupt you for a moment?
And the past history of that conditionality all too often, I
gather, was imposing austerity measures, cutbacks, and
basically trying to export countries exporting their way out of
economic trouble. Would that be a summary?
Dr. Levinson. Yes. That is the basic philosophy that you
have.
The difference is that I say--and Fred and myself agreed
and the Treasury and the Council on Foreign Relations--that
there is a legitimate role--if the international financial
community is going to provide assistance, it is right to say,
listen, you got into this mess, let us figure out a way
together as to how you are going to avoid repeating it. So, you
try and work out a program in which the conditions are most
proximally related to the balance of payments crisis. But you
do not try and remake the society. That is where I think the
IMF and World Bank have overreached with the support of our own
Government. So, it requires a degree of self-restraint.
Professor Meltzer is right to point out that once you
accept conditionality, it is very hard to draw that bright line
where you step over into that degree of intrusiveness that is
really national sovereignty. The criticism I have is that they
have stepped over that line and, with our support, are trying
to remake not only the economies, but these societies in
accordance with their prefixed model. Now, they would deny
that, and the difference between us is I think there is a
legitimate role for conditions proximately related to the
problem.
Senator Wellstone. Let me ask you. Maybe this is a
semantical problem here, but I am going to just read to you
from your testimony that you submitted. You say: ``Neither the
majority report or the joint dissent, however, recognized the
other source of discontent with Bretton Woods institutions: the
perception that they are critical elements in the development
of a profoundly inequitable two track international trade,
investment and finance system, a rule based system for the
protection of corporate property rights and no protection for
core worker rights and the environment.''
Now, it seems to me their argument would be that if you are
now going to talk about some core protection for the
environment and labor rights--I know Joe Stiglitz has also
talked about this--that you are now talking about
conditionality.
Now, let me ask you to sort of respond to that because I am
trying to figure out exactly where you are at on this question.
Dr. Levinson. The problem I have is that they are pushing
labor market flexibility, which as I said is----
Senator Wellstone. Right, which----
Dr. Meltzer. And that means the IMF, not me.
Dr. Levinson. No, I agree. Right, the IMF and World Bank.
And when you raise the question, wait a minute, that is an
intervention on one side, what about labor market abuses where
a country uses the coercive power of the state to deny workers
the right of freedom of association and collective bargaining,
they say, well, we cannot support freedom of association and
collective bargaining because the economic studies are
inconclusive.
I asked the World Bank for a statement on their policy.
They said they were studying the matter, and then their studies
concluded that they cannot support it. In the year 2000, the
World Bank cannot bring itself to say freedom of association
and collective bargaining are legitimate rights of workers.
That is where I get off the boat.
Dr. Calomiris. And if I can clarify my position and I think
the majority's, it is simply we do not want the World Bank and
the IMF setting conditions one way or the other on that point.
Dr. Meltzer. That is right. We want them to be neutral and
simply not to lean either to protect--we certainly do not want
them to protect the lenders, who have put their money in at
risk and received rewards for doing it. That really is a major
point. Nor do we believe that they should be involved in
trying--and it is hard to know how they could succeed--in
changing the political structure of a country. They have
politics in those countries too and those countries are going
to do what the balance of political decision in the country is.
That is not the job of Washington. It is not the job of the IMF
or the job of the World Bank.
Now, I would like to say one other thing, Senator
Wellstone.
Senator Wellstone. Yes.
Dr. Meltzer. In fairness to the IMF, the fact that they
come with austerity programs, they come in a crisis. There is
going to be austerity because it is a crisis. No one is going
to lend to them any more. There is going to be austerity
because they have been borrowing more than they have been able
to repay. So, there is going to be austerity.
What we would like to do and what we would like to get
concentration on is instead of dealing with crises as they
occur, deal with the conditions that create crises before they
occur, establish some preconditions that countries will meet so
as to limit the crises.
Senator Wellstone. This will be my final piece, Mr.
Chairman, and Dr. Levinson can respond, but I would think, Dr.
Meltzer, that you could argue that part of creating the
conditions is the sort of building of community institutions in
these countries.
Dr. Meltzer. Absolutely.
Senator Wellstone. And one of those institutions would have
to do with the right of people to be able to organize and
bargain collectively so that when people do so--you need people
to consume in order to make the economy go. It can lead to a
more stable class of people. And another might be sustainable
environment. The commission tends to not call for more
oversight or attention to environmental or social implications
of structural adjustments. Is Dr. Levinson not trying to say
that ought to be part of what is factored in here?
This is a great panel. They all want to speak. This is what
happens when you get these professors together.
Dr. Levinson. There are some people, including my
colleague, Fred Bergsten, who believed that the Commission
should have simply ignored the World Trade Organization, which
was defined as an international financial institution for
purposes of this Commission. I do not believe that somebody put
a mickey in the water system up here and that the WTO just
slipped in while nobody was looking. There is a reason for that
and I think it reflects the wisdom, if you will, of the
Congress in terms of trying to see this problem as a whole,
trade, finance, and investment.
What you have is a system which is developing where
everything is directed to assure the security of capital and of
corporate property rights and nothing is done to assure
minimum, basic core worker rights, either in the WTO system or
with the IFI's.
The Congress in the last IMF legislation accepted a
provision with respect to core worker rights. We do not see it
implemented in either the World Bank or the IMF. When I asked
Wolfensohn, wait a minute, you are intervening in the labor
market for purposes of labor market flexibility, you are
intervening on the part of capital, what about the abuses, he
said, look, I agree with you completely. He said, but if I take
a measure to the board for labor market flexibility, I have no
problem getting it through. If I raise the issue of labor
market abuses in a country, I will not even get it on the
agenda to be discussed.
There is something fundamentally wrong with that imbalance,
and that is what I am saying. There is an imbalance both in the
WTO and when the World Bank tells us in the year 2000 that they
cannot support freedom of association and collective bargaining
because the economic studies are inclusive, but they are
enthusiastic about labor market flexibility, that is not
neutrality. That is an intervention on the part of one party,
and we should not stand for it and our executive director
should not stand for it.
Dr. Meltzer. I realize the red light is on. May I just give
a very brief answer to your question?
Senator Wellstone. Yes.
Dr. Meltzer. We separate crisis prevention, the role of the
IMF, from structural reform. Questions like the environment are
in our report and they are very prominent in our report as part
of what we call world public goods, responsibility of the
development banks. So, we do not ignore the issue. We just do
not think it should be on the list of conditions that are part
of the reform. We think that the major problem that you are
going to face is that the United States has run a huge payments
deficit in order to finance the reform in Asia, and we are
going to have to adjust to that and that is going to be painful
and that is going to be a problem. And we need to build a
system which does not require the United States to be the
importer of first resort in a crisis, and this system is not
doing it. And that, from the standpoint of the United States,
is the single most important problem you have to solve because
the rest will not follow unless we do that, that is, unless we
do something to see that these problems do not all end up
solved by exports to the United States.
Dr. Calomiris. Senator Wellstone, I want to prove that I
listened to your question. You asked about environmental and
labor standards. In the report actually there is a fair amount
of writing about environmental questions and there is a view in
the report that I think was--I cannot say that it was a
unanimous view, but that is my sense--that there really is a
legitimate role for particularly the World Bank to play in
promoting good solutions to global environmental problems.
What is the difference between environmental problems and
labor standards? Why did we not talk about labor standards but
we did talk about environment? The answer is very simple. Labor
standards are something that each country should decide for
itself, while environmental issues are intrinsically global.
So, it makes sense, because of externalities across countries,
for there to be some mechanism for helping countries to
coordinate their approach to global environmental standards. At
least that I think is the explanation.
Senator Hagel. Doctor, thank you.
Let me call now upon Senator Chafee.
Senator Wellstone. I thought as a professor I get to get
into this now. I had to listen to all that.
Senator Hagel. No. We have to be out of here by midnight.
Senator Wellstone. I have to leave now. Thank you very
much.
Senator Chafee. I have a quick question for Dr. Calomiris.
You testified that the Commission voted unanimously to
recommend that the IMF and the development banks write off all
debts to highly indebted poor countries, and that the financial
distress of the HIPC's is as much an indictment of the
multilateral lenders as it is of the leaders in the borrowing
countries who often wasted those funds or used them for
personal gain. Despite these factors, the Commission voted
unanimously that we should relieve them of their debt. Can you
describe the debate on how the Commission came to that
unanimous agreement, considering the scathing words in your
testimony?
Dr. Calomiris. Well, I will give my characterization of the
discussion and then let the others, I suppose. I do not think
that there was much of a hostile debate at all on this question
within the Commission. I think that there was a consensus that
it made sense to do HIPC debt forgiveness, largely because the
people who had borrowed the money and the conditions under
which the moneys had been borrowed really were very different
from the current situations in those countries and the current
people; that is, just as I say in the testimony, it is hard to
fault the current citizens of those countries or even their
current leaders for the bad judgment that went into those
loans.
I think the disagreement in the Commission, was over how to
set up the right criteria for debt forgiveness. How far do you
want to push? Some members of the Commission, at least my
recollection is, Mr. Huber felt that we should add more
conditions, more preconditions, before forgiving debt. I think
he mentioned particularly maybe privatizing all state-owned
enterprises as a condition for forgiveness. He had some other
ideas. Others had different ideas.
Because we could not come up with a clear list or a clear
consensus on exactly what those conditions would be, I think we
really just agreed on the principle that we saw no reason not
to forgive the debt but that we did see a little bit of
latitude for requiring some kind of bona fide development plan
as a precondition. I think we were vague on this point because
we did not reach full consensus on what that should be.
Dr. Levinson. May I elaborate just for a moment on that? I
proposed that we should forgive the debt--period--because the
majority themselves said in the report that the debt is not
repayable. So, if you have an unrepayable debt, how are you
conditioning the repayment of a debt which they themselves say
is unrepayable? It does not make any sense. It is illogical.
Just let me finish please. So, what I suggested was, let us
acknowledge that reality, which you yourselves have said. That
the debt is unrepayable.
Therefore, you say to these countries, look, we all
acknowledge that a good deal of this debt was contracted in
cold war conditions. We are going to wipe that out. Your access
to future resources will depend upon how well you use the space
that we have given you by forgiving that debt. But we agreed
that this debt cannot be repaid, and what is more, it was
contracted for reasons which led to very little positive impact
in your countries. So, let us start with a clean slate. But
we've got to tell you, if you screw up in the use of this
margin that we have given you, we are going to be very tough in
terms of access to future capital. That position was rejected.
So, therefore, rather than vote against debt forgiveness, I
went along with the majority in terms of saying it should be
conditioned, but I do not see the logic of conditioning a debt
which you say cannot be repaid upon A, B, C. You have already
said it cannot be repaid. What are you conditioning the non-
repayment on?
Dr. Calomiris. If I may very quickly. We are not very far
apart but instead of saying the debt cannot be repaid, I would
add the word cannot be fully repaid. These debts do have a
current market value. So, that means if you forgive it
completely, that is, you take all of the debt away, you do have
a little bit of leeway potentially to add a few conditions. But
I agree with the thrust of what Mr. Levinson is saying, and I
just want to say my feeling was that this was not a hotly
contested issue. It was more that we really did not know
exactly how to do it, and I think maybe his view went a little
farther than others were willing to go.
Dr. Levinson. I think that is a fair statement.
Senator Chafee. And you are optimistic that they are
different people than those that committed the abuses?
Dr. Meltzer. No, Senator Chafee, I do not believe that. I
believe that they are certainly different people, but whether
the institutions in those countries are sufficiently reformed
is questionable.
I want to challenge this kind of semi-agreement. First, it
was true that Mr. Levinson was alone on the issue of debt
forgiveness without conditions.
Second, there is nothing illogical about saying, one, we
are going to forgive the debts because they cannot be paid, but
we want to make sure, by imposing conditions which we want put
in place, that the next set of debts will not be in the same
position as these debts at the end of 10 or 15 years. So, the
conditions are there looking forward to saying, look, we want
reforms in these countries. We want the reforms to be in place,
and we are going to use the leverage of debt forgiveness to get
those reforms to be put in place. That does not seem to me--
there is nothing illogical about that. It seems to me to be a
sensible thing to do, to use the leverage we have to get the
reforms we need.
Dr. Calomiris. If I can just amplify what Professor Meltzer
said. Conditions have two sides to them. Professor Levinson was
talking about imposing very draconian conditions on the
recipient, and his point was, well, if the recipient cannot
repay it, you do not have a lot of leverage in imposing
conditions.
But there is another set of conditions and those are the
conditions on the institutions going forward, and that is, I
think, the more important set of conditions to be thinking
about when you forgive the debt.
Senator Hagel. Senator Chafee, thank you.
Dr. Meltzer, has the IMF or World Bank responded to you in
any way on your Commission's recommendations?
Dr. Meltzer. Not formally, but I have had any number of
meetings with officials of the institution both here and
abroad. I have talked to them. I think that they accept a great
many of the proposals that we have made. They like the idea of
preconditions. Dr. Fisher, the Deputy Managing Director of the
Fund, testified to that in an open hearing of the Commission.
They liked the idea of having a lender of last resort function.
They have gone very far toward the idea of having either hard,
fixed or fluctuating exchange rates.
Where do they differ with us? I do not want to speak for
them, but let me say what my sense of where they come from is.
One is they do not like the idea of giving up long-term
lending, which we want to move out of the Fund and into the
bank. They think that there is something to do there. I will
let them speak to that. But anyway, that is one.
The second is they would like to have conditions when there
is a crisis in addition to the preconditions. Now, that is a
strange issue. Let me say that I could see a compromise which
said, yes, if those conditions are limited to the monetary,
fiscal, and exchange rate policy of the country, that might be
good.
The problem is not to get back into two boxes which we want
to escape from. One is the box which says we spend a lot of
time negotiating those conditions and then things get worse
during that period, as in Mexico, as in Korea. The second is
that if we say, look, if you do not meet the preconditions, we
will negotiate with you anyway and put on other conditions
which you may or may not meet. Then we are right back into the
present system, which is a system which generates crises and
does not prevent them.
Those are, I think, the two major issues.
On transparency, I think the Fund is making substantial
progress in that direction in collecting information and other
things. I think that they are not very far apart from us. That
is my interpretation, but there are some basic differences
between us and those are two of them.
Dr. Levinson. I would only add two points. The Fund got
into longer-term lending as a consequence of the oil crisis
which followed upon the Arab oil embargo in 1973 and the
countries had difficulties repaying. So, the various facilities
provided for longer amortization periods. That was the origin
of it.
The second thing is the basic difference comes down to the
degree to which under the majority proposal, access to the
Fund's fund would be automatic without conditions which address
the underlying conditions which led to the crisis to begin
with. What it really boils down to is whether or not you think
it is legitimate for the Fund to enter into an agreement to
address those issues with the country which seeks assistance.
That is where I think the major area of disagreement is between
the majority, the Fund, the Treasury, and Fred Bergsten and
myself and Esteban Torres with respect to the Fund.
Dr. Meltzer. Let me address that a little bit. The Fund has
tried to have something called the CCL, which is a way of
moving in the direction in which we would like them to go, with
preconditions and so on, certifying countries in advance. The
problem is that they gave countries no incentive to take those
preconditions because they did not gain anything. If they got
into a crisis, the Fund was going to be there to bail them out
anyway, so why should they agree to that. And that is a tricky
issue.
So, it is important to try to get meaningful the idea that
countries have to establish on their own, when there is not a
crisis, conditions which are going to mitigate crises, prevent
them. We cannot guarantee that there will be no crises. We can
try to make them much less severe and much less burdensome to
them and to us.
Dr. Levinson. The assumption which underlies the majority,
it seems to me--it seems to me there are two. One, that access
to the IMF is too easy and too desirable for the borrowing
member countries. Well, this is so fantastic if you talk to the
officials in the borrowing countries. To go to the IMF, it is
like going to the dentist for root canal work. Nobody wants to
go to the IMF.
Dr. Meltzer. But that is not our assumption.
Dr. Levinson. Please. That is the assumption, that the
countries have easy access to the IMF. Therefore, they do not
have to take the measures. If they are not taking the measures,
it is because there are deep, internal social and political
impasses. That is the problem with Ecuador. That is the problem
they are going to have in Argentina as they try and figure out
a way out of this mess. That is the problem which has held up
fiscal reform in Brazil for all these years, although the
present government is making progress.
The problem is, as I see it, Senator Hagel, that the
majority just cannot face the fact that these are not simply
financial issues. They reflect the historic impasses in these
countries. So, what we have is two steps forward, one step
back, in some cases one and a half steps back. It is a constant
process of trying to nudge and help and pull and push as the
countries themselves try and resolve their internal dilemmas.
The question is, is the direction right? And I think that, on
balance, a lot of progress has been made. But the assumption
that countries do not undertake these reforms because they know
they can go to the IMF just seems to me to be fantastic.
Senator Hagel. I might point out in some of Dr. Calomiris'
testimony, he recounts in some detail about how many nations
over a period of how many years have drawn on the IMF like a
bank account that is just there and available. Now, I am not
passing judgment on that observation, but I did note that you
made that point, and I suspect you are going to want to
continue to further the point. Go ahead, Doctor.
Dr. Calomiris. Mr. Chairman, you took the words out of
mouth. There are 73 countries, who are members of the IMF, who
have borrowed in 90 percent of the years that they have been
members of the IMF. I think that that fact speaks for itself.
Borrowing from the IMF is not an occasional thing that you do
because you are absolutely up against the wall, and I cited the
example of Pakistan as a country right now which, while it is
having some problems with its debt crisis, it is much more of
what I would call a subtle negotiation over of transfer of
subsidy in exchange for some political favors. That is a better
way to characterize that negotiation I think.
Senator Hagel. Let me ask Dr. Meltzer if he has a response
to this.
Dr. Meltzer. I have two.
The basic assumptions which operated in our Commission were
not the ones that Mr. Levinson mentions. They are two in
respect to the IMF. The crises are too frequent, too deep, and
too burdensome, and we need to do something to stop it, that
is, to slow that process down and make it less burdensome, less
onerous.
The second is that the biggest incentive for reform in the
country is the capital market, the fact that you can get access
to the capital market. That will be the incentive to reform. It
is not what somebody tells them what they have to do. It is the
idea that if you do not do these things, you are either going
to pay more for the capital and you are going to get less of
it. Those are the important reforms. So, we are going to say to
them, here are the reforms. If you have met those reforms, we
are going to give you certification of a kind, and if you have
not met those reforms, we are going to withhold it from you.
And then we are going to say, anybody who lends to somebody who
is on the list of countries that have not met the reforms, let
them take the risk, but let them bear it also.
Senator Hagel. Thank you.
Very briefly, Dr. Levinson.
Dr. Levinson. For every irresponsible borrower, there is an
irresponsible lender. What we have had is the countries have
been encouraged to recur to the financial markets. Our own
Treasury has encouraged them. Listen to what Mr. Gartner, the
former Under Secretary of Commerce said, ``I never went on a
trip when my brief did not include either advice or
congratulations on liberalization,'' referring to
liberalization of the financial markets.
The fact of the matter is that this is not just a question
of irresponsible countries and irresponsible officials. You
have had an explosive growth in access to the financial
markets. It has meant the democratization of the financial
markets in terms of countries have been able to access those
markets which have never had access. Entities within these
countries have been able to access these markets. The problem
is that we have gone too far too fast before institutions were
in place with respect to bank regulatory authorities, et
cetera. What is more, with respect to the Asian countries,
remember the Asian countries followed the Japanese development
model. It was directed credit. You did not have independent
supervisory bank authorities because that would have interfered
with the basic strategy of directing credit to strategic
sectors.
So, now we are talking about restructuring not just the
financial sector, because that was part of, again, what I
referred to as a social compact. In Korea you had a commitment
to lifetime employment. In return, the workers agreed that the
enterprise could distribute the workers with flexibility. Now
you are telling the workers, no, now you are going to be
subject to the vicissitudes of the market. You have a whole
different philosophy.
My problem with their approach is that it is really based,
as I said at the beginning, upon the view that these are
technical financial issues, and I see them as a part of a whole
problem within a society of reconstituting and how to
distribute the burdens and the costs of adjustment.
Senator Hagel. And you have made that point extremely well.
Doctor, thank you. I am going to move on to Senator Chafee.
Senator Chafee. I am done, Mr. Chairman.
Senator Hagel. You wanted another point.
Dr. Calomiris. I do not see our disagreement the same way.
I think we share a lot of objectives, and I do not think I am a
narrow-minded technocrat. I like to think about people's lives
as much as Professor Levinson does. But I think we have a
disagreement, and I would like to explain historically some
evidence that I think is consistent with my point of view.
Senator Hagel. Doctor, if you do not mind, I want to get
maybe one more question in and let you all go home. I would be
very interested and intrigued with your point. Maybe we can do
it again, but let me just keep it rolling so we do not keep you
all up here.
Dr. Calomiris. OK.
Senator Hagel. Let me ask each of you. With the
recommendations for preconditions that the majority report came
in with, how would those preconditions have affected Asia,
Russia, Argentina, and Brazil over the last few years? Would we
have made the world better, more dangerous, more unstable?
Dr. Calomiris. May I take a crack at that?
Senator Hagel. You can jump right in.
Dr. Calomiris. Remember that we are talking about phasing
in over a 5-year period the preconditions. So, the right way to
pose the specific counter-factual question is suppose we had
phased in----
Senator Hagel. Now, wait a minute. The issue here is not
the correct way to present the question. I presented the
question based on reality. Asia went down. We all thought, or
at least most of us, I guess, thought it was a currency blip in
Thailand in the summer of 1997 or June 1997. Now, no
theoretical framing here. What could we have done as that Asian
financial crisis spread? That is reality, and we have got
problems on our hands. So, we do not back it up and start at 5
years or 10 years. 1997 is now. What do we do?
Dr. Calomiris. I was just trying to understand. Were you
saying that our Commission would have met in 1996? Is that what
you were saying?
Senator Hagel. Well, if we were living with the
preconditions that you have recommended, how would the IMF have
responded? Would the IMF have responded?
Dr. Calomiris. Let me try to answer it under those terms.
If we had been living under those preconditions, then countries
would have either qualified or not.
Senator Hagel. If they would not have qualified, then what
happens?
Dr. Calomiris. If they would have not qualified, then the
IMF would have made a determination whether global systemic
stability required waiving the prequalification requirements to
lend to them, which our report envisions their doing.
And I suspect they would have. If they had waived the
prequalification requirements, however, they could not have
waived the penalty rate or the fact that these would have been
senior loans. Therefore, we would have at least avoided
complicity in the bailout of the domestic financial
institutions and the international lenders because no flows of
subsidies would have gone to them. So, we would have provided
liquidity but not bailout.
My view is that those countries would have, given a couple
of years, prequalified and they would have acted very
differently in the mid-1990's. And the real problem in Thailand
and Korea and Indonesia was weak banking systems. Those were
predicted crises. They were actually predicted in print in
March and April 1997 in the Economist and in the Financial
Times. And in fact, the Economist even said something like what
took place in Mexico is about to happen in those countries,
fully 3 to 6 months ahead of the actual crisis.
I know Dr. Meltzer wants to address this as well, but are
we putting too much of a burden and too high an expectation on
these international financial institutions?
Dr. Meltzer. Yes. We need to put much more of the burden
and much more of the incentive on the country.
Let me answer your question because I think it is the right
question to ask because what we are concerned about is how will
all this work. And the answer is let us take Korea, which is
the biggest one of the countries that failed.
Korea has had a bad banking system for years. When I first
went to Korea in 1985, the question was, what do we do about
the banking system? How can we open our capital markets with
such a weak banking system? That is 12 years before this crisis
occurred.
How did Korea get such a bad banking system? It got a bad
banking system because it uses the banking system to subsidize
the industries that it wants to create. It did it with the
chemical industry. It turned out to be a bad idea. Not all
their ideas are bad, but that one turned out to be bad. They
did it with the construction industry, and they subsidized a
lot of construction in the Gulf when the oil countries had a
lot of money and were building a lot of things. So, they
subsidized the development. They later subsidized the country
going into automobiles and semiconductor chips. So, these are
subsidies. They lend at very low rates.
The semiconductor market collapsed in 1996. The banking
system took a big hit. So, with having negative net worth, it
had even more negative net worth. It loaned as the banks did
here or the savings and loans did here. It loaned at high risk
loans. The Korean banks were lending money to Russia, buying
GKO's in order to get the high returns that they could get and
borrowing the money from the U.S. banks or from Japanese banks
at very low rates and lending it in Russia to hold GKO's in
order to earn the returns that they hoped would bail them out
of some of the problems that they had. Now, if they had a
strong banking system, they would not be doing that, or they
certainly would be doing less of it.
Therefore, I cannot say that Korea would not have suffered
a crisis in 1997. Neither I nor anyone else knows that, but I
can tell you that the banking system would not have collapsed
if it had been adequately capitalized, if there had been
American banks and Japanese banks and European banks there.
When people ran from the country, they would run to the
American banks, which were safe and sound and so on, as they
did in Japan, as they did in Brazil.
Now, how do I know that that is going to happen? Because
look what happened in Brazil a few months later. In Brazil,
everyone said there is going to be a big crisis. The exchange
rate collapsed, but the banking system did not collapse.
Why is that? Because Citicorp, ABN-AMRO, Chase Bank have
been there, First Bank of Boston--Bank of Boston--they have
been there for years and they have a commitment. They have
assets and liabilities in the country. They do not run, and
therefore they stabilize the situation. And that is the kind of
system that we are trying to build. We are trying to build a
system in which banks will take up some of the risk, that the
banks will be well capitalized and that they will be risk
absorbers.
Now, what is the present system? The present system is
Korea does not let in the U.S. banks or foreign banks. So, they
lend to the Korean banks on 3-month notes. And those notes came
renewable, and when the lenders see that a crisis is likely,
they say the exchange rate is going to fall, there is no point
to renew the loan, it is not going to appreciate, and so let us
get out. And that exacerbates the crisis, and then the banking
system goes down. And that is the nexus that we have to cut
into by making the preconditions which say reform the financial
system, reform the exchange rate system so that they do not
spend $30 billion or $40 billion that they borrow in the world
market in order to shore up the exchange rate system and then
fail and then depreciate, and then of course, become--push, get
out of their crisis by exporting mainly to us. That is really
the system we have to break into and change, and that is what
the reforms are about.
Senator Hagel. Just one moment, Dr. Levinson. Would you
just quickly, Dr. Meltzer, address my followup question on the
burden that we are placing on the IMF and these international
financial institutions?
Dr. Meltzer. I think that is right. As I like to say, there
are politics in those countries too. You cannot come in, as the
IMF, in the midst of a crisis and clear away all the problems
and make things all happy again by lending them some money in
exchange for some commitment. There are many people in Asia who
say the crisis did not go on long enough. Now, that does not
mean that they like to see people suffer. What they meant was
that as soon as the progress became clear, the reforms ended or
slowed down a great deal.
So, yes, the IMF comes in in the midst of a crisis. We
criticize them because we say that their conditions do not
work, do not work very well on average. But it is not because I
think I have better conditions that I can put on and say, if I
were running this show, I would do a better job. That is not my
criticism at all. My criticism is let us not put ourselves in
the position where we are bailing out countries that have not
done what they need to do. Let us give them the incentives to
do it and make those incentives hard so that they will want to
pay the tough political price, which you understand better than
I do, the tough political price to make the tough judgments
which are required to provide greater stability in the world.
That is what this report is about.
Senator Hagel. Thank you.
Dr. Levinson.
Dr. Levinson. I think your two questions really point up
the issue. You asked what would have happened if the
Commission's recommendations had been in place. Well, Professor
Meltzer has referred to Brazil. Recently Brazil has imposed
conditions upon the entry of foreign banks. Why? Because in
Brazil, the historic situation has been that the Brazilian
banking sector, Brazilian owned, has continued to loan to the
government, even in times of crisis because in Brazil, the
Pavlista industrialists and bankers believe in Brazil. They do
not run. The money does not leave. It is very nationalistic.
The foreign banks advise their clients not to buy government
securities because it was too risky. So, the Brazilians say,
wait a minute, it is not in our interest to have a presence of
the foreign banks because look at what they did in times of
crisis. We know Brazil better than they do. So, they impose
conditions limiting foreign bank ownership.
If they impose conditions, under the majority criteria,
they are not completely open to foreign capital. Therefore,
they would not have been eligible for IMF financing. Brazil is
large enough to have systemic consequences. You would have had
to have a vote in the IMF as to whether they are large enough
to have systemic crises.
Professor Meltzer complains that the IMF did not act
quickly enough. Do you think you could have gotten a quick
consensus in the IMF on that fundamental question? I doubt it.
Just as in Mexico, the United States and the Europeans
disagreed as to whether the problem was systemic.
In your second question you went on to ask if we have
placed too much of a burden upon the international financial
institutions. Of course, we have. It is the Willy Sutton
principle of international finance. Remember Willy Sutton, the
bank robber who was arrested in the 1950's in Florida, and they
said to him, well, why did you rob only banks? And he said,
``because that is where the money is.'' Why do we turn to the
IMF and the World Bank? Because that is where the easily
accessible money is to address a systemic crisis or a crisis
which at least is perceived as systemic.
So, the major industrialized countries have imposed upon
the IMF and the World Bank to continually get into Russia,
manage the transition in Russia, and to solve the East Asia
crisis when the East Asia crisis has roots which are very
different. Remember the World Bank World Development report--
the East Asia miracle of 1993 which said Korea went from a
country in 30 years with $260 per capita income to the 11th
largest industrial country in the world? Well, the banking
system cannot be isolated from that strategy of development.
So, when you are talking about revamping the banking system,
you are talking about revamping the country's whole development
approach which enabled it in 30 years to become the 11th
largest industrial country in the world. That is going to be a
wrenching change.
So, the question is, do you want the international
community to have a role in terms of helping them to get
through that or not and leave it to the private financial
markets? In essence, you asked the two questions which are at
the heart of the issue.
Senator Hagel. Thank you.
Dr. Calomiris, would you like to respond in 60 seconds or
less?
Dr. Calomiris. I think I already responded to most of it,
and I think I will just pass.
Senator Hagel. Dr. Calomiris, thank you. Dr. Levinson,
thank you, sir. Dr. Meltzer. You three have all added
immeasurably to at least this weak-minded Senator's
understanding of your contributions to our country through your
time and effort on the Commission. So, we are grateful. The
committee is grateful. Thank you.
Dr. Meltzer. Thank you, Mr. Chairman.
Dr. Calomiris. Thank you, Mr. Chairman.
Dr. Levinson. Thank you, Mr. Chairman.
Senator Hagel. The committee is adjourned.
[Whereupon, at 4:45 p.m., the committee was adjourned.]
----------
Statement Submitted for the Record
Prepared Statement of C. Fred Bergsten,\1\ Director, Institute for
International Economics
---------------------------------------------------------------------------
\1\ C. Fred Bergsten is Director of the Institute for International
Economics, the only major research institution in the United States
devoted to international economic issues. He was Assistant Secretary of
the Treasury for International Affairs during 1977-1987 and functioned
as Under Secretary for Monetary Affairs in 1980-81. He was also
Assistant for International Economic Affairs to Dr. Henry Kissinger at
the National Security Council during 1969-71. He has written 27 books
on international economic and financial issues including The Dilemmas
of the Dollar: The Economics and Politics of United States
International Monetary Policy (2d edition, 1996). He chaired the
Competitiveness Policy Council created by Congress from 1991 to 1997.
---------------------------------------------------------------------------
reforming the international financial institutions: a dissenting view
It was a privilege and pleasure to be appointed to the
International Financial Institutions Advisory Committee in January to
replace Paul Volcker, who had to resign due to heavy commitments
elsewhere. I enjoyed working with the group and appreciate this
opportunity to spell out the views of the four commissioners who
dissented from the recommendations of the majority. (Mr. Richard Huber
signed both the report and the dissent, and explained his rationale for
doing so in a statement of his additional views.)
I and my fellow dissenters share the view that reform of the
international financial institutions (IFIs) is desirable. We agree with
a number of the proposals of the majority, in particular the need to
clearly delineate the responsibilities of the IMF and the World Bank.
But there are four central issues on which we disagree; I will
summarize them briefly here and append the full dissenting statement
signed by myself, Mr. Huber, Mr. Jerome Levinson and former Congressman
Esteban Torres.
First, the report paints a very misleading picture of the impact of
the IFIs over the past fifty years. The economic record of that period
is a success unparalleled in human history, both for the advanced
industrial countries and for most of the developing nations. The severe
monetary crises of recent years have been overcome quickly. Hundreds of
millions of the poorest people on earth have been lifted out of
poverty. The IFIs have contributed substantially to this record. The
``bottom line'' is unambiguously positive but the majority portrays a
negative tone that badly distorts reality.
Second, the recommendations of the majority would totally undermine
the ability of the IMF to deal with financial crises and hence would
promote global instability. The majority would authorize the Fund, when
facing a crisis, to lend only to countries that had prequalified for
its assistance by meeting a series of criteria related to the stability
of their domestic financial systems. This approach has two fatal flaws:
it would permit Fund support for countries with runaway
budget deficits and profligate monetary policies (because the
majority believes that IMF conditionality does not work); this
would enable the countries to perpetuate the very policies that
triggered the crisis in the first place, squandering public
resources and eliminating any prospect of resolving the crisis
\2\ and
---------------------------------------------------------------------------
\2\ The final version of the report added a sentence including a
``proper fiscal requirement'' to the prequalification list. No
rationale for that addition is stated, however, and the term is not
even defined. If the ``fiscal requirement'' were intended to be a
quantified level of permissible budget deficits, it would represent an
international equivalent of the Maastricht criteria that have been
extremely difficult to implement in relatively homogenous Europe and
would be impossible globally. If it were simply a qualitative notion,
the Fund would be back in the business of conditionality which the
report rejects--and would face the prospect of dequalifying and
requalifying countries as their policy stance shifted, adding an
important new element of destabilization to the picture.
it would prohibit support for countries that were of
systemic importance but had not prequalified, again running a
severe risk of bringing on global economic disorder.\3\
---------------------------------------------------------------------------
\3\ The report again made a last-minute addition suggesting a
takeout from these requirements ``in unusual circumstances, where the
crisis poses a threat to the global economy.'' But the concept is never
explained or defended so it cannot be taken seriously.
As Paul Krugman put it in his op-ed on the report in the New York
Times on March 8, the majority ``suggested restrictions that would in
effect make even emergency lending impossible.''
Third, the recommendations of the majority might well undercut the
fight against global poverty despite their avowed intent to have the
opposite effects:
they would shut down two major sources of funding for the
poor, the regular lending program of the World Bank ($20-25
billion per year) and the Poverty Reduction and Growth Facility
at the IMF ($1-2 billion per year). The majority in fact
proposes a program of ``reverse aid'' to the world's richest
countries, returning capital to them from both the World Bank
and the International Finance Corporation (which they would
also shut down).
they would terminate lending to even the poorest countries
if they had obtained access to the private capital markets,
which we should obviously be encouraging rather than
discouraging;
they want the more advanced developing countries, even those
which still include tens of millions of the world's poorest
people (e.g., Brazil and Mexico), to rely wholly on the
volatile private capital markets; and
most importantly, they would in the future rely wholly on
grant aid appropriated by rich-country governments when we know
that this Congress, and parliaments in many other countries,
are highly unlikely to support sharp increases in such funding
even if the majority's reforms were to produce much more
efficient aid programs.
Third, the report makes a series of sweeping and radical proposals
without a shred of supporting evidence or analytical support: closure
of the International Finance Corporation and the Multilateral
Investment Guarantee Agency, shifting all non-concessional lending to
Latin America from the World Bank to the Inter-American Development
bank and shifting all nonconcessional lending to Asia from the World
Bank to the Asian Development Bank. Some of these proposals may have
some merit but the report fails to make a case for any of them.
Further, the report misses most of the central trade issues in its
chapter on the World Trade Organization. This is not surprising since
it is a report of the International Financial Institutions Advisory
Commission and the members were not chosen for their knowledge of
trade. The legislation authorizing the commission did not even ask it
to review the statutes relevant to trade and we believe that the
Congress should simply ignore this component of the report.
We believe that there are a number of other important errors of
both commission and omission in the report but that the four cited are
the most critical. At the same time, we reiterate that there are
numerous recommendations that merit serious attention. We hope that the
Congress will focus on those and ignore the several damaging ideas
highlighted in this statement and in the attached joint dissent.
dissenting statement
There are numerous constructive proposals in the report. We agree
that reform is needed at the international financial institutions
(IFIs) and support a number of the report's most important
recommendations: to clearly delineate the responsibilities of the
International Monetary Fund and the World Bank, to promote stronger
banking systems in emerging market economies, to publish the IMF's
annual appraisals of its member countries, to avoid any use of the IMF
as a ``political slush fund'' by its donor members, to fully write off
the debt of the highly indebted poor countries (HIPCs) to the IFIs, to
increasingly redirect World Bank support to the poorest countries and
to the ``production of global public goods,'' and to provide that
assistance on grant rather than loan terms.
But some of the central proposals in the report are fundamentally
flawed and/or unsubstantiated. They rest on misinterpretations of
history and faulty analysis. They would greatly increase the risk of
global instability. They would be inimical to the interests of the
United States. We reject them totally and unequivocally.
Misreading History
Most importantly, the report presents a misleading impression of
the impact of the IFIs over the past fifty years. A visitor from Mars,
reading the report, could be excused for concluding that the world
economy must be in sorry shape. But we all know that the postwar period
has been an era of unprecedented prosperity and alleviation of poverty
throughout the world. The bottom line of the ``era of the IFIs,''
despite obvious shortcomings, has been an unambiguous success of
historic proportions in both economic and social terms. The United
States has benefited enormously as a result.
Even a somewhat narrower ``bottom line'' evaluation would be much
more favorable to the IFIs than is the report. Almost all of the crisis
countries of the past few years, ranging from Mexico through East Asia
to Brazil, have experienced rapid ``V-shaped'' recoveries. All of the
East Asians except Indonesia, for example, have already regained output
levels higher than they enjoyed before the crisis. Even Indonesia and
Russia, the two laggards with deep political problems, are now growing
again. The world economy as a whole rebounded quickly and smoothly from
what President Clinton called ``the greatest financial challenge facing
the world in the last half century.'' Whatever the difficulties along
the way, the IMF strategy has clearly produced positive results.
The history of successful development over the postwar period is
even more dramatic. Never in human history have so many people advanced
so rapidly out of abject poverty. The World Bank and the regional
development banks contributed significantly to those outcomes. The
report itself notes, at the outset of Chapter 1, that ``in more than
fifty postwar years, more people in more countries have experienced
greater improvements in living standards than at any previous time.''
It ignores that reality for the remainder of the text, however, and the
tone throughout is so critical as to convey the message that very
little progress has occurred.
The other great success story of the postwar period is
democratization. More than half of the world's population now lives
under democratic governments--a dramatic shift over the past decade or
so. Yet the report repeatedly argues that the IFIs undermine democracy
by somehow precluding local governments from pursuing autonomous
economic policies. The report is particularly critical of the Fund's
role in Latin America, where virtually every country has become
democratic during the very period when the IMF has been most active
there. IMF conditionality is obviously not a roadblock to democracy.
The allegations of the report simply fail to square with the facts of
history.
Promoting Financial Instability
Turning to the specific recommendations, the most damaging relate
to the central responsibility of the International Monetary Fund for
preventing and responding to international monetary crises. The report
would limit the Fund to supporting countries that prequalified for its
assistance by meeting a series of criteria related to the stability of
their domestic financial systems. This approach has two fatal flaws.
First, the majority would have the IMF totally ignore the
macroeconomic policy stance of the crisis country--``the IMF would not
be authorized to negotiate policy reform.'' Hence they would sanction
Fund support for countries with runaway budget deficits and profligate
monetary policies. This would virtually eliminate any prospect of
overcoming the crisis; it would instead enable the country to
perpetuate the very policies that likely triggered the crisis in the
first place and thus greatly increase the risk of global instability.
It would also provide international public resources for countries
whose own policies were likely to squander them in short order, without
any assurance of their even being able to repay the Fund. No reputable
international institution would adopt such an approach.
The proposal for adding an undefined ``proper fiscal requirement''
to the prequalification list smacks of an international equivalent to
the Maastricht criteria, which have been extremely difficult to apply
in the relatively homogenous European Union and would be totally
unrealistic at the global level. If the ``fiscal requirement'' were
left open as to content, it would require Fund negotiation
(``conditionality'') of precisely the type that the majority rejects--
as well as the strong likelihood of periodic dequalifications and
requalifications of countries that would be immensely destabilizing.
Hence the prequalification list would in practice be limited to
financial sector considerations, as clearly intended by the majority in
any event, and fiscal as well as monetary policy would be completely
ignored.
Second, limiting Fund activity to any set of prequalifying criteria
would almost certainly preclude its supporting countries of great
systemic importance and thereby substantially increase the risk of
global economic disorder. Whatever criteria might be selected, it is
totally unrealistic to think that all systemically important countries
will fulfill them even after a generous transition period. The Fund
would then be barred from helping such countries and financial crises
in them would carry a much greater risk of producing a severe adverse
impact on the world economy. No reform of the Fund should block it from
fulfilling its central responsibility as the defender of global
financial stability through providing emergency support for all
countries which could generate systemic threats. (The Executive Summary
suggests a takeout from these requirements ``in unusual circumstances,
where the crisis poses a threat to the global economy'' but Chapter 2
on the IMF calls only for ``extraordinary events'' to be handled by
``vehicles other than the IMF.'')
These proposals apparently derive from five faulty lines of
analysis in the report:
that the overwhelming systemic problem that needs to be
addressed is moral hazard, despite a dearth of empirical
evidence that this phenomenon had much to do with any of the
three sets of crises in the 1990s (except for Russia, where the
market's ``moral hazard play'' was related primarily to that
country's being ``too nuclear to fail'' rather than to its
economy or to prior IMF policies);
that countries will be deterred from getting into crises,
and hence having to borrow from the Fund, by according senior
status to the IMF's claims on the country and by charging them
``penalty interest rates;'' the Fund already has de facto
senior status and has already sharply increased its lending
rates, however, and a crisis country in any event is motivated
primarily by acquiring additional liquidity rather than by the
terms thereof;
that the IMF fails to require banking reform in borrowing
countries, whereas it has done so in every crisis case in
recent years;
a misrepresentation of the extensive literature that
assesses IMF conditionality, which reaches agnostic conclusions
concerning its effectiveness rather than the negative verdict
claimed in the report; and, closely related,
a failure to compare actual outcomes in crisis countries
with what would have happened in the absence of IMF programs;
crisis countries obviously experience losses of output and
other negative developments but the issue is whether they would
have fared even worse without IMF help and the report, while
noting the need to consider the ``counterfactual,'' does not
even attempt to address that central issue.
Much more desirable proposals for reforming the International
Monetary Fund can be found in the recent report ``Safeguarding
Prosperity in a Global Financial System: The Future International
Financial Architecture'' by an Independent Task Force sponsored by the
Council on Foreign Relations. That group, unlike the current
Commission, reached unanimous agreement. Its members included Paul
Volcker, George Soros, several corporate CEOs, former Secretaries of
Labor and Defense, former members of Congress Lee Hamilton and Vin
Weber, President Reagan's former Chief of Staff Kenneth Duberstein, and
top economists including Martin Feldstein and Paul Krugman.
For example, the Independent Task Force suggested that the IMF
should offer better terms on its credits to countries that have adopted
the Basel Core Principles to strengthen their domestic banking systems
in order to provide incentives for such constructive steps; this is far
superior to the report's all-or-nothing approach, which would have the
deleterious effects outlined above. That group also offers constructive
and realistic reform proposals on how to alter the IMF's lending
policies so as to reduce moral hazard without jeopardizing global
financial stability, through better burden sharing with private
creditors, and on how to shift the composition of international capital
flows in longer-term and therefore less crisis-prone directions.
Undercutting the Fight Against Poverty
The second major problem with the report is that its
recommendations might well undercut the fight against global poverty,
despite its stated intention to push the world in the opposite
direction. In particular, its proposal to eliminate the nonconcessional
lending program of the World Bank represents another reckless idea
based on faulty analysis.
First, the report would totally shut down two major sources of
funding for the poor--the World Bank's nonconcessional lending program
and the IMF's Poverty Reduction and Growth Facility. These programs
help hundreds of millions of the world's poorest people, many of whom
live in the poorest countries but many of whom also live in countries
(e.g., Brazil and Mexico) whose average per capita income now exceeds
the global poverty line.
The report would in fact return substantial amounts of World Bank
capital and more than $5 billion of IFC capital to the donor countries.
This proposal would amount to massive ``reverse aid'' to the richest
people in the world! It would be financed through sizable repayments of
prior World Bank loans, draining real resources from some of the
poorest people in the world (e.g., in Africa and India). The proposal
belies the avowed intent of the report to improve the lot of the poor.
Second, the report would bar World Bank lending even to the poorest
countries if those countries had obtained access to the private capital
markets. Why penalize countries like China and Thailand for doing
precisely what the majority says it wants them to do--qualify for
market credits? This proposal would create negative incentives for a
large number of key developing countries.
Third, and most critically, the report would rely wholly on
appropriated grant funds from rich-country governments for future
assistance to the poor. Callable capital that was no longer needed at
the World Bank because of the shutdown in its lending programs could
not simply be given to IDA; an entirely new authorization and
appropriation process would be required in our own Congress and other
legislatures around the world. Indeed, IDA would lose the funds now
transferred to it from World Bank profits (and, under another of the
report's proposals, the repayments of earlier IDA credits as well).
This proposal comes at a time when Official Development Assistance, as
measured annually by the OECD, has declined enormously--especially, as
a share of total income, in the United States. Even if the report's
proposals were to promote dramatic improvements in aid effectiveness,
the results would take many years to show up and it takes a great leap
of faith to believe that donor governments would provide substantially
increased funds even then--let alone in the longish transition period
when the changes were being implemented.
Fourth, the report wants the more advanced developing countries to
henceforth rely wholly on the private capital markets for external
finance. But those markets are enormously volatile as we have seen in
the crises of both the 1980s and 1990s; the private money can flow back
out, deepening crisis conditions, even faster than it came in.
Moreover, the markets do not care if their funds are used for
developmental purposes, especially poverty alleviation.
Unsubstantiated Proposals
The third major problem with the report is its cavalier
recommendations for several sweeping institutional changes without any
analytical foundation at all. While there may be legitimate reasons for
some of these proposals, the rationale for pursuing them has not been
established:
elimination of the World Bank's Multilateral Investment
Guarantee Agency on the basis of three lines of assertions;
elimination of the International Finance Corporation, one of
the most successful components of the World Bank family, and
the parallel entities at the regional development banks,
without a shred of evidence that such actions would be
desirable (and without acknowledging that such a step, along
with the elimination of MIGA, would undercut the report's
stated goal of increasing the flow of private sector resources
to the poor countries);
a shift of funding for all country and regional programs for
Latin America and Asia from the World Bank to the Inter-
American and Asian Development Banks, respectively, solely on
the basis of cryptic assertions that the latter would do a
superior job--which run counter to the judgments of most
observers.
The fourth major problem is the chapter on the World Trade
Organization. The global trading system, and U.S. policy toward it, is
an enormously complex and important issue at this point in time. The
Congress will indeed shortly be considering a vote on whether the
United States should maintain its membership in the WTO. The chapter is
totally inadequate and indeed full of errors in dealing with the issue,
understandably so because the Commission members were not chosen for
their expertise on trade topics.
For example, the chapter suggests that ``there is considerable risk
that WTO rulings will override national legislation'' when there is no
such risk. It believes that WTO rulings ``should not supplant
legislative decisions'' when there is no risk of their doing so. It
recommends that ``WTO rulings . . . should (have) no direct effect on
U.S. law'' when they neither do so now nor ever could do so. The
group's title is the International Financial Institutions Advisory
Commission and the report admits that ``the Commission had neither the
time nor the expertise to evaluate all the changes that have occurred
or the many proposals for future changes.''
Additional Problems
There are numerous other flaws in the report:
there is no reason to preclude the IMF from future
assistance to high-income countries, which might need its help
in future crises if global consequences are to be minimized;
there is no reason to bar it from pushing member countries
to adopt more stable exchange rate systems;
there is no reason to propose a new set of ideas for
strengthening banking systems in emerging market economies when
the Basel Core Principles have already been agreed and the
correct priority is to promote their adoption and effective
implementation;
it ignores the fact that the dozen countries which receive
the bulk of the World Bank's loans also have the bulk of the
world's population, and hence deserve substantial official
funding;
it ignores the valuable role of the Bank in strengthening
the hand of reformers in developing countries and thereby
tilting national policies in constructive directions; and
it ignores central issues such as sustainable development
and core labor standards that must be addressed by all of the
IFIs.
The report also fails to address some of the central issues that
must be part of any serious reform of the IMF. It should advocate, for
example, much more effective ``early warning'' and ``early action''
systems to head off future crises. It should offer a formula for
``private sector involvement'' in crisis support operations, to assure
sharing their financial burden between private creditors and official
leaders (including the IMF), rather than simply ``leaving that issue
for participants.'' It should address the cardinal practical issue of
how emerging market economies will manage their floating exchange
rates, rather than simply reiterating that these countries should
either fix rigidly or float freely--which very few now or ever will do.
It should promote more stable exchange-rate arrangements among the
major industrial countries, which are crucial for global stability and
without which the emerging markets will continue to have severe
problems whatever their own policies.
To conclude where we started: reform is needed at the IFIs and
there are a number of constructive proposals in the report. But its
recommendations on some of the most critical issues would heighten
global instability, intensify rather than alleviate poverty throughout
the world, and thereby surely undermine the national interests of the
United States. These recommendations must be rejected and their
presence requires us to dissent from the report in the strongest
possible terms.
C. Fred Bergsten, Director, Institute for International Economics.
Richard Huber, Former Chairman, President and CEO, Aetna, Inc.
Jerome Levinson, Former General Counsel, Inter-American Development
Bank.
Esteban Edward Torres, U.S. House of Representatives, 1983-99.
-