Five ideas for strengthening the IMF

Barry Eichengreen

Policy Network has asked us to present five key proposals for strengthening international financial institutions, which in my case means the International Monetary Fund, in no more than 700 words.  That times out to 140 words a proposal.  (I’ve now got 650 words left.)

Align the membership of the International Monetary and Financial Committee (IMFC) and the G20
This would enable the IMFC to become a proper steering committee for the IMF. Currently, the G20 is also seen as providing direction for the institution and yet its membership, while overlapping, is different.  The G20 also lacks legitimacy.  Who appointed it?  Why is Indonesia in and Thailand, a larger economy, out?  Where is Iran, a larger economy than South Africa?  The IMFC with its 24 members, many of which represent constituencies, possesses legitimacy that the G20 lacks.  The G20, on the other hand, has the advantage that Europe is represented by the European Union, not simply by national governments. The solution is to align membership in the two entities by expanding the G20 to 24 and moving to a single EU seat in the IMF and to consolidate their work programs. The IMFC, transformed into a proper governing council as provided for under the Articles of Agreement, would set priorities for the institution and provide firm oversight of its management, holding the latter accountable for their actions.

Abolish the executive board
IMF management (the managing director and his deputies) should function like the board of an independent central bank, making operational decisions without micromanagement and political interference from governments.  Independence should now be tolerable because management will follow the guidelines of and be accountable to a strengthened IMFC. The standard objection to this proposal – central banks only set interest rates and have a simple mandate to pursue price stability, whereas the range of financial issues with which the IMF is concerned is much broader and more complex – no longer holds water now that we see central banks engaging in a wide variety of financial interventions in response to the crisis.

Routinise the process of quota enlargement
Quotas should increase every year with the growth of national incomes.  In addition, the elasticity of quotas with respect to the growth of incomes should be greater than one.  Thus, when a country’s growth is 3 per cent, its quota might increase by 4.5 per cent.  When its growth is only 2 per cent, its quota might increase by only 1.5 per cent. In this way quota increases would have a countercyclical influence. They would dampen demand when growth was strong and support it when growth was weak.

Introduce a price-based scarce currency clause
The debate over exchange rate misalignment and manipulation has been contentious and unproductive. Economists cannot agree on what metric to use to determine whether a currency is undervalued.  Politicians cannot agree on what action to take on that basis. An alternative would be to “tax” countries that run large and chronic balance-of-payments surpluses by requiring them to contribute more resources to the fund.  For example, a country that had run a current account surplus in excess of 3 per cent a year for three years might be required to transfer one half of the current account surplus in excess of 3 per cent of GDP to the IMF.  Thus, nothing would prevent countries from running large and persistent surpluses if they chose to do so, but they would face an additional cost that would encourage adjustment.

Commercialise the IMF’s Special Drawing Rights
Finally, the current crisis has pointed up the intrinsic instability of an international monetary system that relies on a national unit (the dollar) as the international currency.  Global growth that increases the demand for the international currency encourages chronic deficits by the reserve centre country, heightening financial risks. An alternative would be to commercialise the Special Drawing Rights so that they become an attractive instrument for use not just as official reserves but in private international transactions as well.

Barry Eichengreen is professor of economics and political science at the University of California, Berkeley