International Monetary Fund (IMF) : History, Functions, IMF UPSC

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International Monetary Fund (IMF) : History, Functions, IMF UPSC

• The International Monetary Fund (IMF) is an organisation with 190 member countries. Each country is represented on the IMF’s executive board in proportion to its financial value, so that the most powerful countries in the world economy have the most voting power.

• Objectives:

Encourage financial unity around the world

 Secure financial stability

 Facilitate foreign trade

Encourage a lot of jobs and steady economic growth

And cut down on poverty all over the world

Growth in the whole economy

Advice on policy and money for emerging countries,

Support for stable exchange rates and a global payment system

• It has three very important jobs to do:

Increasing foreign cooperation on money, promoting the growth of trade and the economy,

Policies that would hurt the economy should be discouraged.

To do these things, the countries that are part of the IMF work together and with other foreign groups.

History of IMF

• The IMF, International Monetary Fund, was created at a UN meeting in July 1944 in Bretton Woods, New Hampshire, United States.

• The 44 countries at that meeting wanted to make a plan for economic cooperation so that there wouldn’t be a repeat of the competitive devaluations of the 1930s, which had caused the Great Depression.

• A country couldn’t join the International Bank for Reconstruction and Development (IBRD) unless it was also a member of the International Monetary Fund (IMF).

• As part of the Bretton Woods deal to promote international financial cooperation, the IMF set up a system of convertible currencies with fixed exchange rates and replaced gold as the official reserve with the U.S. dollar (gold at $35 per ounce).

After the Bretton Woods system of set exchange rates fell apart in 1971, the IMF pushed for a system in which exchange rates change over time. Countries can choose how they want to exchange their currencies, which means that the value of each currency is set by the market. This method is still in place to this day.

• During the 1973 oil crisis, the IMF estimated that the foreign debts of 100 developing countries that bought oil from abroad grew by 150% between 1973 and 1977. This was made worse by the fact that exchange rates around the world were changing from fixed to floating. From 1974 to 1976, the IMF ran a new loan programme called the Oil Facility. Funded by oil-exporting countries and other loans, it was given to countries whose balance of trade was in bad shape because oil prices were going up.

• The IMF was one of the most important parts of the international economic system. Because of how it was made, the system was able to strike a balance between rebuilding international capitalism and maximising national economic sovereignty and human happiness. This is called “embedded liberalism.”

• The IMF was very important in helping the countries of the former Soviet group switch from central planning to economies based on the market.

• In 1997, East Asia, from Thailand to Indonesia to Korea and beyond, was hit by a wave of financial problems.

The International Monetary Fund (IMF) made a series of rescue packages (bailouts) for the most affected countries to help them avoid going bankrupt. These packages were tied to currency, banking, and financial system reforms.

• The Global Economic Crisis of 2008: In response to a more globalised and connected world, the IMF took big steps to strengthen surveillance.

These initiatives included changing the legal framework for surveillance to cover spillovers (when economic policies in one country can affect those in other countries), getting a better understanding of risks and financial systems, evaluating members’ external positions more thoroughly, and responding more quickly to members’ concerns.

Functions of IMF

• Helps with money: To help member countries with problems with their balance of payments, the IMF lends money to replenish foreign reserves, keep currencies stable, and improve the conditions for economic growth. The IMF will watch over structural adjustment measures that countries must start.

• IMF Surveillance: The IMF keeps an eye on the international monetary system and the economic and financial policies of the 190 countries that are part of it.

As part of this process, which happens both globally and in each country, the IMF points out possible risks to security and gives advice on how policies need to be changed.

• Capacity Development: It helps central banks, finance ministries, tax officials, and other economic institutions by giving them technical help and training.

This helps countries bring in more money for the government, update their banking systems, create strong legal frameworks, improve their government, and make it easier for macroeconomic and financial statistics to be reported. It also helps countries move towards the Sustainable Development Goals (SDGs).

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Governance Setup of IMF

• The Board of Governors is made up of one governor from each member country and one alternate governor. Each country that is a member picks two presidents.

It is in charge of choosing or naming the people who will be on the Executive Board.

Approving increases in quotas and Special Drawing Rights,

Acceptance of new members, removal of members by force,

Changes to the Articles of Association and By-Laws.

The International Monetary and Financial Committee (IMFC) and the Development Committee, which are both made up of ministers, give advice to the Board of Governors.

During the IMF–World Bank Annual Meetings, the boards of governors of the IMF and the World Bank Group usually meet once a year to talk about the work of their respective institutions.

• Ministerial Committees: Two ministerial committees give advice to the Board of Governors.

International Monetary and Financial Committee (IMFC): The IMFC is made up of 24 members chosen from a pool of 190 governors, and each member country is represented by one person.

o It talks about how the world financial and monetary system is run.

o It also talks about changes to the Articles of Agreement that the Executive Board wants to make.

o And any other things that affect the world economy and are of interest to everyone.

The Development Committee is a joint committee with 25 members from the Board of Governors of the IMF and the World Bank. Its job is to give advice to the Boards of Governors of the IMF and the World Bank on issues connected to economic development in emerging market and developing countries.

o It is a place where governments can come together to agree on important development problems.

• The Executive Board is made up of 24 people who are chosen by the Board of Governors.

It handles the day-to-day work of the IMF and uses the powers given to it by the Board of Governors and the Articles of Agreement.

It talks about everything that the Fund does, from the IMF staff’s yearly checks on the economies of member countries to policy issues that affect the global economy.

Most of the time, the Board makes choices based on what everyone agrees on, but sometimes there are formal votes.

Each member’s votes are equal to the sum of its basic votes, which are shared evenly among all members, and its votes based on quotas. The vote power of a member is based on its quota.

• Managing the IMF: The IMF’s Managing Director is both the head of the IMF staff and the chairman of the IMF’s Executive Board. The Executive Board picks the Managing Director by voting or coming to a decision as a group.

• IMF Members: Any other country, whether or not it is a member of the UN, can join the IMF if it agrees to the rules set by the Board of Governors and the IMF Articles of Agreement.

To join the IBRD, a country must first be a member of the IMF.

Pay a quota subscription: When a country joins the IMF, it pays a certain amount of money, called a quota subscription, based on its wealth and economic success (Quota Formula).

It is an estimate of GDP (with a weight of 50%).

o Openness (30%),

o Economic variability (15%),

o Reserves from other countries (5%).

o A member country’s GDP is calculated using a mix of market exchange rates (60%) and PPP exchange rates (40%).

Special Drawing Rights (SDRs) are not a currency but a unit of account for the IMF.

• The worth of the SDR is found by adding up the U.S. dollar values of the SDR basket of currencies, based on market exchange rates.

• The U.S. dollar, the Euro, the Japanese yen, the British pound, and the Chinese renminbi (in 2016) are all part of the SDR group of currencies.

• The value of the SDR is calculated every day, except when the IMF is closed or on holidays. Every five years, the assessment basket is looked at and changed.

o Quotas are stated in terms of SDRs.

o SDRs are claims on money owned by IMF member countries, which can be traded for SDRs.

Members’ voting power is directly linked to how much money they pay into the institution (their “quotas”).

Each country that is a member of the IMF can choose its own way to figure out the exchange value of its money. The only requirements are that the member stop basing its currency’s value on gold, which has proven to be too rigid, and tell the other members exactly how it is figuring out the value of its currency.

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The Special Drawing Rights (SDR)

• The SDR is an international reserve asset that was made by the IMF in 1969 to add to the legal reserves of its member countries.

• So far, SDR 660.7 billion, which is about $943 billion in US dollars, has been given out.

• This includes the largest-ever allocation of about SDR 456 billion, which was passed on August 2, 2021, and will start on August 23, 2021.

• This was done to meet the long-term need for stocks around the world and to help countries deal with the effects of the Covid-19 pandemic.

• The SDR’s value is based on a group of five currencies: the U.S. dollar, the euro, the Chinese renminbi, the Japanese yen, and the British pound sterling.

• Every five years, the SDR box is looked at again.

• At the last review, which ended in November 2015, the Board agreed that the Chinese renminbi (RMB) met the requirements for inclusion in the SDR basket.

IMF and India: What is the Scenario?

• India joined the IMF when it first started.

• There is no doubt that the IMF’s rules about money around the world have helped foreign trade grow. So far, these good results have helped India in this way.

• After the Partition, India’s balance of payments was in bad shape, especially with the dollar and other countries with hard currencies. The IMF was the one who helped her out.

• The Fund gave India loans to help it deal with the financial problems caused by the Indo-Pak wars of 1965 and 1971.

• From the beginning of the IMF until March 31, 1971, India bought foreign currency worth Rs. 817.5 crores from the IMF. This money has been paid back in full.

• Since 1970, India and other IMF members have been able to get more help from the IMF because of the Special Drawing Rights (SDRs), which were created in 1969.

• India had to borrow money from the Fund because the prices of its goods, such as food, fuel, and fertilisers, went up very quickly.

• In 1981, India got a huge loan of about Rs. 5,000 crores to help it get out of a foreign exchange problem caused by a persistent deficit in its current account balance of payments.

• India needed a lot of money from other countries to pay for river projects, plans to bring back land, and to improve communications. Since private foreign money wasn’t coming in, the only way to get the money needed was to borrow it from the International Bank for Reconstruction and Development, also known as the World Bank.

• India has used IMF experts to find out how its economy is doing. India has gotten help and advice from people who are not part of the government.

• Because of the rise in oil prices since October 1973, India’s balance of payments has gone completely out of whack. To help with this, the IMF has set up a special fund to provide oil facilities.

• In the early 1990s, foreign exchange reserves for two weeks’ worth of imports were much lower than the usually accepted “safe minimum reserves” of three months’ worth.

The first thing the Indian government did was get an emergency loan from the International Monetary Fund for $2.2 billion by putting up 67 tonnes of India’s gold holdings as collateral.

India promised the IMF that it would start a number of structural reforms in the coming years. These include devaluing the Indian currency, reducing the budgetary and fiscal deficit, cutting government spending and subsidies, liberalising imports, reforming industrial policy, reforming trade policy, reforming banking and the financial sector, privatising public sector enterprises, and so on.

With the start of the liberalisation policies, the foreign funds started to get better.

• India’s role on the Board of Directors of the Fund has been unique. So, India did a good job of helping to decide the policies of the Fund. This has made India more respected in the rest of the world.

• Since 1993, India has not asked the IMF for any financial help.

• All loans from the International Monetary Fund were paid back in full by May 31, 2000.

• The Finance Minister of India is automatically a member of the IMF’s Board of Governors.

The Governor of the RBI is the IMF’s Alternate Governor.

• India’s present quota in the IMF is SDR 5,821.5 million. This makes it the 13th largest country with a quota in the IMF and gives it 2.44% of the shares.

• However, based on its vote share, India (along with Bangladesh, Bhutan, and Sri Lanka, which are also part of its constituency) is ranked 17th out of 24 constituencies at the Executive Board.

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What is India’s Contribution to Lending Resources to IMF?

• At the London Summit of the Group of Twenty (G-20), it was decided that the IMF could give three times as much, up to US$500 billion.

• Because of this decision, India chose to invest its reserves, at first up to US$ 10 billion through the Notes Purchase Agreement (NPA) and then up to US$ 14 billion through the New Arrangement to Borrow (NAB).

• As of April 7, 2011, India had put 750 million SDR (about 5,340.36 crores) into the IMF through nine note purchase deals.

What is Criticism of IMF?

• There is disagreement about how the IMF is run. Since the 1970s, Europe and the US have made sure that a European runs the IMF and an American runs the World Bank.

The situation doesn’t leave much hope for rising emerging economies, which, despite some small changes in 2015, don’t have as much IMF vote power as the US and Europe.

• The terms of loans are too restrictive and hurt the economic and political independence of the countries that get them. “Conditionality” refers to more strict rules, which often turn the loan into a tool for making policy.

These include fiscal and monetary policies, like how banks are regulated, how much the government spends, and how pensions are handled.

o Many of these changes are simply impossible to make publicly because they would face too much opposition at home.

• The IMF forced its policies on countries without knowing how the unique qualities of each country made the policies hard to follow, unnecessary, or even harmful.

• Policies were put in place all at once instead of in the right order. When the IMF gives a country a loan, it wants the country to quickly privatise government services. It leads to a blind faith in the free market that doesn’t take into account the fact that the ground needs to be set for privatisation.

What is the Status of IMF Reforms?

• Quota Reforms: As part of the Fourteenth General Review of Quotas (2010), India’s overall quota went up from SDR 5821.5 million to SDR 13,114.4 million.

With this increase, India’s share would go from 2.44% to 2.75 %, making it the eighth biggest country in the IMF in terms of quotas.

Importantly, the reforms will cause a realignment of the quota shares of member countries. The shifts to dynamic Emerging Market and Dynamic Countries (EMDCs) and from over-represented to under-represented countries will both be more than 6%, while the vote share of the poorest member will remain the same.

• Because they were unhappy with the IMF, the BRICS countries started a new organisation called the BRICS bank. This was done to make the IMF or World Bank less powerful and to strengthen their place in the world, since the BRICS countries make up 20% of the world’s population and 1/5 of its GDP.

• With the current quota system, almost no changes can be made because it takes more than 85% of all votes to make a change. The 85% votes don’t apply to 85% of countries, but to the countries that have 85% of the voting power. Only the United States has a voting share of around 17%, so the limit can’t be changed without the agreement of developed countries.

• The 2010 Quota Reforms were passed by the Board of Governors, but they didn’t go into effect until 2016. This was because the US Congress didn’t want to give up its share.

• The amount of money that each country puts into the IMF, called its “quota,” rose from about SDR 238.5 billion (about $329 billion) to SDR 477 billion (about $659 billion). It gave developing countries an extra 6% of the quota and took away the same amount from wealthy or overrepresented countries.

• A more representative Executive Board: As part of the 2010 changes, the Articles of Agreement were changed to make the Executive Board all-elected. This makes it easier to move towards a more representative Executive Board.

• The 15th General Quota Review, which is currently happening, is a chance to see if the Fund’s resources are the right size and make-up and to continue making changes to how they are run.