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Unit 6: Financial Crisis, the
IMF, and the World Bank
Part 3: The International
Monetary Fund (IMF)
Prior to WI, foreign exchange markets were relatively uneventful.
Currency values were defined in accordance with the Gold
Standard, which guaranteed (as discussed in Unit 5) fixed
exchange rates between the participating nations. After
the war, however, the system collapsed as countries began
printing money to pay for the war and tried to stimulate
their economies by devaluing their currencies in an attempt
to sell more exports. Increased uncertainty over exchange
rates and the newly erected protectionist policies brought
the global economy to a standstill.
The Bretton Woods conference. Towards
the end of WWII, the Bretton Woods conference convened,
hoping to establish, among other things, a new international
monetary system. The “Bretton Woods” system
that emerged was a modified variation of the previous Gold
Standard. The value of the U.S. dollar was fixed in terms
of gold, and all other currencies were assigned exchange
values in terms of U.S. dollars—effectively linking
them to gold as well. The U.S. agreed to maintain the value
of the dollar at $35 per ounce of gold, and the other nations
agreed to maintain the value of their currencies within
one percent of their assigned values through central bank
intervention in the foreign exchange markets. According
to the agreement, countries could only alter their official
exchange rates with the consent of a newly created institution,
the International Monetary Fund, or IMF, whose primary purpose
was to promote stability within the system.
Emerge
of IMF. By the early 1970s, however, the fixed
exchange rate system of Bretton Woods had become unmanageable
due to the constraints it placed on the U.S.’s ability
to grow its money supply, which (as you will recall from
Unit 5) was necessary to sustain global economic growth.
In 1973 the Bretton Woods system was officially disbanded
and countries began to allow their currencies to freely
float. As such, the role of the IMF was forced to change
too. Today, the IMF monitors the exchange-rate policies
of member nations. It collects information on the state
of the nation’s economy and recommends changes when
a nation engages in practices that could undermine future
international debt payments and stability. If a member nation
cannot meet its international obligations, then, ultimately,
the IMF serves as its lender of “last resort.”
How the IMF works. IMF member nations,
which account for most of the world’s GDP, contribute
an annual payment, called a “quota subscription,” which provides the IMF with the funds necessary to make
emergency loans to member nations experiencing financial
difficulty. Each member nation can withdraw 25% of the quota
that it paid in the form of gold or a convertible currency.
Larger sums can be borrowed from the IMF if the country
provides an acceptable plan for eliminating the problems
that brought on the crisis. These reform plans generally
include:
-
a reduction in government spending
-
a more stringent monetary policy
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the privatization of inefficient public enterprises
-
related “market-oriented” reforms
The
decisions the IMF makes are based on “voting rights,”
which are allocated on the basis of the size of the quota
subscription. The U.S. has the largest quota subscription,
followed by many other large developed nations. This bias
in voting rights is a common criticism of the IMF. Critics
claim the IMF is largely a puppet controlled by wealthy nations
and large corporations, whose interests don’t easily
coincide with the developing world.
VIDEO: Criticism of the IMF
Debate about
the usefulness of the IMF. During more recent years,
crises in Latin America and Southeast Asia have resulted
in substantial debate over the usefulness of the IMF. Supporters
of the IMF argue that its actions prevented these problems
from becoming more severe. Critics, on the other hand, argue
that the availability of these “bailout” funds
create a moral hazard, encouraging those in power to take
huge risks, often burdening the layperson who can least
afford it.
Critics also argue that the stringent reforms demanded by
the IMF—and the wealthy western nations which dominate
its decision making—as a condition for loans is tantamount
to an infringement of national autonomy. And nations, when
faced with the prospect of such restrictions, will hesitate
to accept IMF loans, causing fixable problems to become
full blown crises. To fully appreciate the magnitude of
the disagreement surrounding the IMF, consider the following
quotes and click on the links to read the paper and speech
from which they are taken:
The legitimate
political institutions of the country should determine
the nation’s economic structure and the nature of
its institutions. A nation’s desperate need for
short-term financial help does not give the IMF the moral
right to substitute its technical judgments for the outcomes
of the nation’s political process.
—Martin
Feldstein, Professor of Economics, Harvard University,
and President of the
National Bureau of Economic Research
Refocusing the IMF:
http://www.nber.org/feldstein/fa0398.html
There in neither point nor excuse for the international
community to provide financial assistance to a country
unless that country takes measures to prevent future such
crises.
—Stanley
Fischer, Professor of Economics, MIT, and First Managing
Director of the IMF
Download the PDF
version of
The IMF and the Asian Crisis here.
VIDEO: The IMF and the Asian Crisis
WEBLINK: For additional information on the IMF and the IMF's response to its critics visit:
What
is the IMF and Common
Criticisms of the IMF
WEBLINK: To read additional debates by leading economists on the pros and cons of the IMF, visit this article by the Hoover Institution:
Abolish
the IMF?
Millennium: The IMF in the New Century
The International Monetary Fund is evolving as a global financial institution to meet the economic challenges of the 21st century. Following the devastation of World War II, the IMF was established to foster economic stability and promote peace. Now at the dawn of a new century, the IMF provides member nations with advice and loans to help them build better lives for their people. This documentary style video, which helps viewers understand the world monetary system, is presented in four stand-alone segments. "Out of the Ashes" – the IMF’s origins; "Keeping Track" – IMF oversight of the global economy; "The Sum of Its Parts – How the IMF Lends" – financial assistance to member nations and "Korea: Conquering a Crisis" – IMF assistance to Korea following the Asia crisis.
VIDEO CLIPS: For some short video clips produced by the IMF watch:
Use the link below and scroll down to the Millennium: The IMF in the New Century
section http://www.imf.org/external/mmedia/index.asp
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