Why does a sovereign nation call upon the IMF?
Of the 193 countries that belong to the UN, only three are not members of the International Monetary Fund (IMF). An astonishing paradox which makes a sovereign nation – one which is supposedly able to take its own political, economic, and diplomatic decisions – let a distant financial institution dictate measures likely to weigh heavily on the daily existence of its citizens. For the 33 countries currently bound by an agreement with the IMF, there is only one answer: an economic and social crisis has brought them knocking at its door.
The origins of these different countries’ ills are many and varied, but most of the time they all come at once. On the domestic front, a monetary policy, excessive public spending or an inappropriate exchange rate will bring about sooner or later a standstill of economic growth and an increasing shortage of foreign currency. It becomes impossible to purchase such vital commodities as fuel or energy, to pay for their shipping, to finance exports, to transport seriously ill persons to state-of-the-art hospitals abroad… In short “bad governance” is at fault, as in Pakistan, Tunisia, Sri Lanka or Ghana.
On the foreign front, an event like the quasi-disappearance of tourists caused by an epidemic or terrorist campaigns which deter visitors, the collapse in the price of a raw material vital to the national economy (such as Chilean copper) or a rise in interest rates around the world.
Concretely, the result is the same in either case, domestic or foreign: it becomes urgent to find a lender who will bring the country in difficulty substantial financial aid, enough foreign currency to re-prime the pump.
Are there any alternatives?
If no agreement is possible between the Fund and the government requesting aid, through the fault of the one or the other, are there any other possibilities for floating a loan? Not really. The private markets are organised and closely monitored by the big rating agencies, in North America like S&P or Moody’s, in Europe like Fitch and are thus completely out of reach. Some marginal lenders can offer dribs and drabs but with such extravagant conditions that they aggravate the predicament of the “beneficiary.” Historically, colonial empires like France continued after independence helping their formal colonies for a while in order to prevent their rivals from sticking their noses into the networks of “Françafrique”, but that ended a long time ago. The same applied to the Soviet Union’s former satellites. Until it vanished, the USSR refused to let its protégés resort to the IMF and paid their debts itself. Today, the Gulf oil monarchies still write checks for their political allies, but only after these have made a deal with the IMF. They provide no more than a supplement, no substitute for the main amount required, which always comes from the IMF.
What happens if there is no agreement?
Failing an agreement with the Fund, the blacklisted government must undertake a solitary effort to restore its external accounts and public finances. It must reduce its expenses in foreign currency and local money far more drastically. Which is why only a small number of cases are on record. Sooner or later the Fund will step in and begin negotiations with the “offender” to find a solution less costly than this uncontrolled adjustment but more expensive than the original plan prior to the breakdown of negotiations.
The go-it-alone effort is exceptional and few countries – if any – have brought it off. One memorable example was Nicolae Ceausescu’s Romania where the people starved for twenty years to pay off the regime’s foreign debt. Ceausescu died on the gallows. In most cases, the situation grows steadily worse until the State itself is on the verge of bankruptcy. Perhaps one of the rare examples is Somalia, in the throes of a civil war for over thirty years now.
How much money do these loans involve?
Each member of the Fund holds an accumulated capital consisting of the initial subscription paid to join the Fund and the free shares distributed from year to year. The loans take different forms according to their duration, normally a short-term one (three to four years on the average). In return, the basic triptych includes measures in three areas: the restoration of public accounts, structural reforms and the restructuring of an excessive public debt.
The many objectives are subject to conditions which are severe according to the size of the loan requested. The more money you want, the stricter and the longer the conditions demanded. Repayments are spread over time (often one every three months) and payable if the government which has signed the agreement with the fund has respected all the clauses attached to the loan.
The amount of the loan will depend on the world situation, on the economic and diplomatic weight of the contracting party, and on the state of its relations with Washington. Let us take the example of Tunisia, which has been negotiating with the Fund for many months now. The Tunisian Treasury has predicted for 2022 a budget deficit of 408 billion dinars (MDT), or approximately 128 million dollars, foreign commitments amounting to a total of 293 MDT (92 million dollars) and a huge debt service of 4,000 MDT (1,569 million dollars) which represents ten times the country’s budget deficit. Tunisia’s official foreign currency reserves are not enough to meet the deadlines and the threat of a default of payment, i.e., an incapacity to meet a deadline, looms large on the horizon of the country’s public finances. Tunisia’s financial needs are of the order of two billion dollars per year.
How much can the Fund lend Tunisia? The answer lies in part with its quota of Special Drawing Rights (SDRs), an account currency in which the dollar and the euro are worth more than 70% of their value. If the loan represents three times the value of Tunisia’s quota, the usual standard but which is by no means automatic, then all the country’s financing needs will be provided for during the coming exercise. However, payments will be spread out over two or three years and Tunisia’s financial needs will be only partially covered. Here we are no longer dealing with arithmetic but with politics. If, thanks to the agreement and the way it is used, Tunis restores the confidence of its creditors, other loans will be forthcoming from other international institutions (World Bank, African Development Bank, European public banks…) as well as from Tunisia’s diplomatic and commercial partners. The operation will have been a success and the country will have recovered.
Pakistan’s reasoning is very different. Its new finance minister is asking the fund for only 1.17 billion dollars when his country’s financial needs are over 35 billion dollars. China, the country’s main creditor, as well as Saudi Arabia, are both prepared to postpone repayments, and financial circles – especially the Saudi ones – are prepared to let themselves be convinced that prospects are better than expected.
Another, somewhat caricatural example: the governor of the central bank of Ukraine is asking for 20 billion dollars. His country is at war, but the Fund is reluctant, for fear of accusations that it has become an instrument of Western diplomacy rather than a non-aligned world organisation. President Volodymyr Zelensky has been more cautious, speaking of a five-billion-dollar loan.
The IMF is run by a 24-member board of executive directors, 8 of whose seats are permanent. The US Treasury is the largest single shareholder (16%), followed by Japan (6.14%), and China (6.08). The EU countries, taken together, hold the same number of shares as the USA. An attempt to reform the Fund has been paralysed since 2010 because the USA refuses to see its share lowered in favour of newcomers like China. The US holds a de facto right of veto which allows it to stand in the way of any operation that it regards as contrary to its national interests. For example, in the autumn of 1966, when Egypt was attacked by the United Kingdom, France and Israel, the White House vetoed London’s request for a loan, which caused problems for the pound sterling and made the British government back out of the Suez expedition.
More recently, the Egyptian Marshall-President Abdel Fattah Al-Sisi is said to be soliciting his European “friends” to get them to persuade the fund to take a more flexible position regarding the size of Egypt’s loan and the corresponding devaluation of the country’s pound. Cairo has its eye on a big loan and a limited devaluation of its currency: the FMI is dragging its feet, with the backing of the US Treasury: however, the support of Europe could help to soften the conditions.
These debates take place in the meetings of the board of directors, better equipped than the financial experts to evaluate the security, diplomatic and political stakes that may be concealed behind a technical reform of the foreign exchange market.
Too broad a liberalisation would run the risk of lowering the local currency’s value and inflating the cost of imports, especially food products. Among many of the Fund’s “client states,” the population spends at least half of its income to feed itself, a proportion which is even higher for the poorest fifth of the planet’s population. An overly sharp price rise might bring about street protests, rioting or even revolution. A danger not to be taken lightly: within the past year, food price inflation has amounted to 332% in Lebanon, 94% in Turkey and 80% in Sri Lanka.
Europe is worried about the instability of neighbouring countries due to mistreatment by the Fund provoking the arrival of immigrants on its beaches, whence an overall “understanding” of their problems.
The Fund’s ongoing surveillance through its local representatives in its main client-States and the 17 specialised departments in the home office enable it to keep close tabs on the policies enacted by its debtors. This is facilitated by Article IV of its statutes which obliges member countries to provide yearly reports on their financial situation, drafted in part by Fund officials with responses provided by the local authorities.
The IMF has a permanent representation in many former colonies. Ghana, independent since 1957, has committed itself to 17 programmes with the Fund, i.e., one every two and a half years and is currently negotiating an 18th.
Where does the money for the loans come from?
In theory, multi-tier dispositions determine the contributions of the member states and finance the policies of the institution. Today its reserves amount to over a thousand billions of dollars. Last summer, the equivalent of 650 billion dollars in SDRs were distributed among the 189 Member States according to their share in the Fund’s capital. If the commitments, currently over 200 billion dollars overstep the authorised amounts, resorting to the international financial market remains an option. The Fund is very discreet concerning its own financial policy about which very little is known. One thing is certain: its loans have the privilege of being repaid before any other if the contracting country should encounter financial difficulties.
Is there an ideological bias?
The Fund’s official objectives are international cooperation, the protection of the value of national currencies and a convergence towards a financial system wherein the barriers in the way of foreign competition are as low as possible. The free circulation of capital predicated on the creation of currency markets over which governments have no control is the Fund’s key objective in the long term. But it must be observed that considerable progress has already been made in this direction over the last thirty years. An all but exclusive faith in market mechanisms explains why the States withdrawal as an economic operator is an imperative constantly reiterated in the Fund’s reports, from the United Kingdom to Pakistan.
Over the years there have been plenty of planned reforms, especially with the globalisation of the world economy. These have expressed a broad aspiration to achieve a greater degree of coordination between the various actors and a lesser domination o the richest countries over the others. But until now none of these reforms has been carried out, the US Congress clinging tooth and nail to the status quo, and keeping a vigilant watch over the accommodations which give Uncle Sam an undisputed precedent. How long will this situation endure?