INTERNATIONAL: Change afoot in 'globalisation' policy

Analysis

Under IMF Managing Director Horst Koehler, a number of changes have occurred in IMF thinking and policy programming. The sum of these changes suggests a meaningful evolution in the institution's thinking on globalisation, and thus in the conventional wisdom in international finance.

Capital account. Koehler in September 2000 said the Fund would need to learn from past mistakes. This was nowhere more true than with the Fund's approach to capital account liberalisation. It had come in for criticism for its 1990s advocacy of the liberal capital account regimes which may have encouraged the 1997-98 East Asia financial crisis. Notably, the IMF today supports an orderly opening of the capital account. In its programme with Sri Lanka, it agreed on the necessity to retain capital controls until the domestic banking system and regulatory framework are in better condition.

Another response to the capital account crises of the 1990s is the Financial Sector Assessment Program (FSAP), launched in 1999 with the World Bank. FSAP is meant to help national authorities identify problem areas in integrating with global capital, preparing the way for prudential capital account opening. Such work includes transparency measures and standard-setting in data collection and publishing, and 'Reports on the Observance of Standards and Codes'. The latter assess the extent to which countries observe internationally recognised standards in auditing; banking supervision; corporate governance; policy transparency; insolvency and creditor rights; insurance supervision; payments systems; and securities regulation.

Crisis resolution. As long as there is freedom in international capital, there will be financial crises -- often linked to debt defaults (see INTERNATIONAL: Deciding factors - February 12, 2002). Some of the Fund's recent moves may forestall such crises or lessen their pain:

• Private-sector 'bail in'. Some emerging-market borrowers, notably Mexico, have begun to issue bonds with collective action clauses (CACs) (see LATIN AMERICA: Modest recovery foreseen in 2003 - August 13, 2003). The clauses require that creditors adhere to any settlement agreed by a supermajority of creditors. This is an improvement on the chaotic negotiations typically accompanying sovereign defaults (see ARGENTINA: Creditor lawsuits raise new risks - January 21, 2004), which can leave bondholders with suboptimal payouts and sovereigns hostage to holdout creditors (see INTERNATIONAL: Debt 'vultures' feed on national woes - June 3, 2002). A collectively negotiated settlement might be expected to preserve more of the creditor's wealth and the borrower's growth potential by giving the latter some breathing space to sustain growth, out of which bond payments can eventually be made. CACs would not have happened without the Fund's vigorous advocacy of its own (ill-fated) Sovereign Debt Restructuring Mechanism: the latter created room for the former.
• Early warning. The Fund in 2001 launched an 'International Capital Markets Department' devoted exclusively to financial market surveillance. The department produces a semi-annual Global Financial Stability Report (GFSR) which, along with the semi-annual World Economic Outlook (WEO), reviews developments in the global economy and identifies areas of risk. Recent volumes have been unusually forthright in warning global investors of risks attending the current global economic recovery (see INTERNATIONAL: IMF warns on emerging market debt - September 26, 2003).

The CAC development will only be tested when an issuing country defaults. The clauses have been well-received by the debt markets, much to the relief of borrowers who had initially shied away from endorsing the clauses for fear of adverse market reaction. Perhaps less successful are the early warnings of the GFSR and WEO, judging from the continued declines in emerging market yield spreads (see INTERNATIONAL: Emerging market gains pose questions - July 11, 2003; and see INTERNATIONAL: Sovereign debt defies markets - January 31, 2003). However, it is doubtful that any amount of admonition can overcome the forces at work here: historically low OECD interest rates. Even now, there is further distance to travel in this direction, as the January 20 Canadian rate cut might suggest.

Market imperfections. Kohler's appointment of Raghuram Rajan as Economic Counsellor and Director of Research (chief economist) is significant. Rajan breaks the mould of international economists typically assigned the position. He comes to the Fund from his post as professor of finance at the University of Chicago. Rajan's research emphasises the role of institutions in economic development. The title of his recent book, 'Saving Capitalism from the Capitalists', hints at the importance he attaches to recognising market imperfections. He has indicated that Fund research will reflect such concerns. Among other issues, he has highlighted the role that local elites play in thwarting local entrepreneurship, which prevents capitalism from producing optimal outcomes and high growth rates.

The ability of one economist to change the direction of an essentially careful institution should not be overstated. Nor should the authority of the Fund's shareholder-directors be underestimated: unlike the WTO or UN General Assembly, IMF voting power is proportional to share ownership. Nevertheless, the appointment of Rajan suggests a refreshing new direction in the official research agenda. It will be interesting to note whether, and how, these efforts affect policy. One likelihood is stronger advocacy of openness to trade: Rajan cites it as a key means of checking the power of local elites.

Infrastructure spending. There are signs that, like the World Bank, the Fund is taking a more realistic view about the role of the private sector in providing public goods such as power and transport infrastructure (see INTERNATIONAL: Bank re-thinks power sector provision - November 26, 2003; and see INTERNATIONAL: World Bank studies infrastructure needs - July 9, 2003). There are indications that Fund programmes might in some cases treat infrastructure investment by national authorities as separate from fiscal spending. This would help programme governments meet their primary fiscal targets while providing room for counter-cyclical infrastructure spending.

Whatever changes occur, they will quickly be made public: the IMF has made strides in publicising its decisions, internal research, discussions and policy forums via the internet. The more the world community is involved in international policy deliberations, the less likely it is that mistakes will be committed.