The IMF and Good Governance

Key Points

  • The IMF was created to solve short-term, external imbalances in debtor country economies, but it has moved far beyond its original mandate.
  • The IMF does not have the expertise to provide the far-reaching policy prescriptions that it ties to its loans.
  • The IMF has recently bestowed itself with the credentials to judge good governance, telling countries to become more transparent and efficient even though the IMF still maintains a high level of secrecy.

The International Monetary Fund (IMF), along with the World Bank, was chartered in 1945. While the World Bank was supposed to spearhead post-war reconstruction, the IMF was created as the “guardian” of the global economy, promoting unimpeded trade and ensuring that national exchange rates would stay within set values. (At that time, the values of world currencies were pegged to gold-the gold standard.) The IMF also provided short-term financing to countries that had difficulty defending their currency values and meeting trade obligations. The IMF’s financing was intended to stabilize economies–not restructure them.

When the gold standard was suspended in 1971, the IMF lost its core mission. Since then, the IMF has searched for a new mission and justification for its existence. As a result, the IMF has consistently and increasingly involved itself in affairs far beyond its original mandate. This has been done with grave consequences: the IMF, staffed with macroeconomists, does not have the expertise to provide the kind of advice that it is dispensing today. Nor is the IMF, which has no independent evaluation unit and has been labeled one of the most secretive public institutions in the world, held accountable for the policy advice that it gives.

The oil price shocks in the 1970s provided the IMF with a major opportunity to extend its mandate. To help some countries meet increased oil costs, the IMF offered short-term loans. It also encouraged the distribution of the massive amounts of oil dollars from international commercial banks to developing countries. This practice led to excessive and dubious lending, which then contributed to the debt crisis of the 1980s.

The debt crisis gave the IMF another role: lending to countries on the brink of default, thereby making the IMF the lender of last resort and the global economic policeman as it stepped in and set up a system of debt repayment to the North. Since then, developing countries have needed the IMF’s “seal of approval”–IMF endorsement of an economy–to obtain new aid flows. This has deepened the dependency of developing countries on the IMF and empowered the IMF with vast influence over the economic policies of these countries.

During the 1980s, the IMF further extended the scope of its programs by moving into the development field, establishing its Structural Adjustment Facility (SAF) and Enhanced Structural Adjustment Facility (ESAF). Through these facilities, the IMF extends medium-term loans and sets strict economic conditions for broad sectors of a country’s economy. These conditions–which can include relaxation of labor laws, foreign investment incentives in natural resource sectors, and privatization schemes–go far beyond the IMF’s original purview of addressing short-term external trade imbalances.

Such restructuring has been done with minimal success: on average, debtor country economies continue to perform below developing countries that are not borrowing from the IMF, while environmental degradation and poverty frequently worsen (see Structural Adjustment Programs, FPIF, April 1998).

The IMF’s “mission creep” has been consistently endorsed by the United States Treasury Department as a way of furthering U.S. economic foreign policy. Most recently, the IMF has been pursuing an amendment to its Articles of Agreement that would give it power to govern international capital flows. This amendment would obligate IMF member countries to remove capital controls that they have established to protect themselves against the vagaries of short-term, speculative capital, thereby opening up markets to bankers and investors.

Another recent endeavor is the IMF’s involvement in “good governance,” taking up the issues of corruption, transparency, tax reform, and other domestic concerns. Although the principle of good governance is broadly endorsed, bestowing the IMF with the power to determine good governance is extremely problematic. It further legitimizes the IMF’s power grabs of the last several decades and entrenches the IMF in the position of giving development and stabilization advice even when its qualifications are highly dubious. The IMF’s ability to apply good governance principles consistently is also impaired by the dominant influence of the political interests of the U.S. and the other wealthy nations who, by virtue of their economic control, dictate IMF policies. Finally, the IMF is advocating good governance principles of transparency to its member governments while not applying the same principles of transparency, accountability, and participation to its own operations.

Problems with Current U.S. Policy

Key Problems

  • The U.S. has used the IMF, including the IMF’s new policy on good governance, as a way of furthering narrowly conceived U.S. foreign policy interests.
  • The IMF must apply good governance principles to its own operations, making more information publicly available and establishing effective accountability mechanisms.
  • The lack of public consultation in IMF loans means that good governance reforms imposed by the IMF will be illegitimate and ineffective.

In August 1997, the IMF for the first time released guidelines regarding its role in governance issues. According to IMF Director Camdessus: “A much broader range of institutional reforms is needed if countries are to establish and maintain private sector confidence,” and “Every country that hopes to maintain market confidence must come to terms with the issues associated with good governance.” So the IMF announced plans to evaluate debtor countries’ governance practices and to condition IMF loans on good governance. The IMF then flexed this new muscle when it withheld a loan to Kenya because of corruption concerns.

This new interest in good governance is ironic given the IMF’s history. The IMF lent over $1 billion to Zaire’s legendarily corrupt leader, Mobutu Sese Seko, despite receiving a detailed report of Mobutu’s corruption. Kenya received IMF assistance throughout the 1990s and was only recently disciplined. The IMF’s $11 billion loan to Russia in July 1998 complemented an ongoing $10 billion loan. The IMF extended loans to Russia despite overwhelming evidence of corruption as the country’s political and business elites reap the spoils from IMF-mandated privatization schemes. The U.S. Treasury Department strongly supported these IMF loans to U.S. allies.

The strong U.S. voice at the IMF stems from the fact that the U.S. is its largest financial contributor and has the largest share of votes–about 18 percent. (Voting power at the IMF is based on each member’s funding of the institution.) In addition, many of the most important decisions at the IMF–such as amendments to the IMF’s Articles of Agreement or use of its gold reserves–require an 85 percent majority, thereby giving the U.S. veto power over the most critical decisions.

The U.S. has used its influence within the IMF as a way of promoting U.S. foreign policy through a multilateral façade. The ever-expanding mandate of the IMF–from macroeconomic stabilizer to development fund and good governance expert–has enabled the U.S. to exert its agenda in ever-increasing ways.

As an institution promoting good governance, the IMF itself is still too secretive. Many of the most important economic assessments that the IMF makes of its member country economies are confidential. Most of the loan documents that the IMF negotiates with its borrowing members are not available to the public. This means that the citizens of an affected country have little way of knowing which policies the IMF is prescribing and which policies are coming from their government. The secrecy of these policies also means that when loan programs do not progress as planned, it is extremely difficult to hold the IMF accountable for any role it may have played in dispensing bad advice. Some of the secrecy problem can be blamed on member governments that prevent disclosure of information.

Good governance at the IMF is also thwarted by the IMF’s flawed practices of audit and evaluation. The IMF does its own internal assessments of how its programs operate and how apt its policy advice is. These internal assessments are made public on a case-by-case basis, raising concerns that the reports most critical of the IMF are hidden. Internal IMF studies that reportedly criticized IMF policies in the Mexican peso crisis and (more recently) in Indonesia have never been made available outside the institution–not even to members of the U.S. Congress, who in 1998 were asked to approve an $18 billion contribution to the IMF. A credible evaluation process is central to any global system of good governance.

Finally, good governance by the IMF will never be credible as long as governance conditionality is imposed on a country without consulting civil society. The IMF negotiates its programs with just a handful of government officials, usually the finance minister and central bank head, and has no formal process to consult with civil society. The lack of broad input in IMF loan programs is a fundamental flaw in IMF operations and a major obstacle to the design of effective loan programs. As the Indonesians have demonstrated, the public is best equipped to identify both the problems of corruption within a country and the necessary good governance remedies.

Toward a New Foreign Policy

Key Recommendations

  • The IMF should return to its original mandate of monitoring economies and lending for short-term stabilization.
  • The U.S. must play a leadership role in demystifying the IMF by making the Executive Board more transparent to public scrutiny and enhancing accountability through an independent evaluation unit.
  • To prescribe effective solutions, the IMF should recognize the importance of public input and should foster genuine exchanges between its officials, client governments, and the public.

The human and economic crises in Asia and Russia have shed new light on the IMF’s function in today’s global economy. The world’s major financial leaders implicitly acknowledged the IMF’s shortcomings in April when U.S. Secretary of the Treasury Robert Rubin called on governments to “modernize the architecture” of international finance. Such modernization is not possible without dramatic reforms at the IMF. These reforms must be a key component of Washington’s foreign policy agenda. The first priority should be to address the role of the IMF itself; the second should be to analyze how it fulfills that role.

The IMF was created to oversee economic developments in the global economy and to address short-term external imbalance when necessary. The IMF should return to this role and stop prescribing policy in a vast realm of structural issues. The role of multilateral consultation about economic development issues is better left to organizations with the appropriate mandate and staff expertise, such as the World Bank and certain United Nations agencies.

The IMF’s surveillance function should continue with one important addition to improve management of the new global economy: monitoring private capital flows, whose movement played a major role in the crises of 1998. But even though the IMF should track such flows, imbalances created by these flows may not warrant short-term IMF assistance. In today’s world of massive, volatile capital flows, the IMF should not step in and bail out banks and private lenders who knowingly took investment risks. Good global governance means that speculators and bankers should not get special treatment.

While the IMF reins in its activities, it must adhere to principles of global economic governance. One necessary step is more progress in the area of access to information. Many of the country documents that should have contained the fund’s warnings about the Asian economies were not made public. The annual economic surveys (Article IV consultations) should be public documents, although certain sensitive information could be withheld. Currently, the IMF only makes available, on a voluntary basis, a brief, sanitized summary. More comprehensive information is critical if international bankers and investors are expected to make sound decisions about investing in a country, and such input would help avoid the types of financial crises that are spreading throughout the world.

IMF governance would also be improved by making the Executive Board, which runs the IMF on a day-to-day basis, more accountable for its decisions. The IMF Executive Board essentially operates behind closed doors and makes agreements by consensus. Only rarely do recorded votes allow an outsider to verify the position of a particular country’s representative. The current U.S. executive director, the official U.S. representative to the IMF, admitted in an April 1998 congressional hearing that out of 2,000 decisions she has only formally voted about twelve times. With such secrecy, it is extremely difficult for outsiders to judge the position of the IMF’s board members. Further complicating this problem is that board minutes are made available only after a 30-year time lag, again preventing the public from knowing a government’s position on a given issue at the IMF. At a minimum, summaries of all board discussions should be made immediately available, and board votes should be public. These changes would also help shed light on the enormous influence that the United States and other industrialized nations play in determining IMF policy and would help democratize decisionmaking at this institution. A weighted voting method, however, will never be as equal as the UN model of one nation, one vote.

The IMF should also establish an independent evaluation unit that can systematically assess the effectiveness and impact of IMF policies and programs. This unit should be independent of IMF management, and it should consult with a broad array of actors to determine the full effect of IMF operations around the world. These reviews should be public, and the Executive Board should issue a response or action plan for each review’s recommendations.

Finally, discussions between the IMF and a borrowing country, to the greatest extent possible, must involve the full range of cabinet ministers and parliamentary leaders. Without the representation and agreement of a wide set of government authorities and without appropriate consultation with the public by the government through regular interactive meetings, hearings, and workshops, IMF programs may not identify core problems, predict likely negative outcomes, and win popular support for difficult measures. Although broad public consultation may not be immediately possible in times of crisis, there are many opportunities to establish more regular contact between IMF officials, government officials, and the public. The IMF’s resident representatives should take a strong role in encouraging such public dialogue and in following such initiatives to ensure that public sentiment is known to the IMF. Reforms that have the support of the populace–rather than those imposed without consultation by the IMF–are much more likely to be appropriately targeted and successfully adopted.

by Carol Welch, Friends of the Earth