Select Committee on Treasury Minutes of Evidence

Memorandum submitted by Professor David Vines, Oxford University


  The Committee may wish to give attention to the following specific issues:

    —  the Sovereign Debt Restructuring Mechanism (SDRM), including lessons learnt from Argentina, Turkey and Russia. This is important, in the light of current proposals by Anne Krueger (IMF) and John Taylor (US Treasury);

    —  IMF intervention in crises, and how the IMF should deal with developing countries in crisis, including issues of conditionality and ownership. There is a need for a better understanding of how the IMF deals with countries in crisis, especially since countries expect a bail-out if they show signs of economic reform, and have a lack of clarity about what would happen if the IMF were to walk away;

    —  surveillance was inadequate before the Asian crisis, and needs further improvement. There is a need for greater clarity about how countries with continuing good surveillance outcomes are rewarded;

    —  structural adjustment needs clarifying, including the extent to which IMF programmes can or should be directed towards poverty reduction. There is an issue of the extent that the IMF should try to augment the World Bank in regard to the promotion of poverty reduction, rather than concentrating on macroeconomics and financial developments;

    —  governance needs improvement. In particular, the issue of different interests arising between the IMF internal management and Executive Directors, who represent national interests, has been raised. The suggestion has been made that there should be involvement from external participants on the Executive Board, similar to the MPC.


  The IMF (or the "Fund") was set up to manage a fixed exchange rate system. This involved advising on policies when countries experienced problems on the balance of payments on current account. It also involved policing changes in exchange rates to avoid "beggar thy neighbour" changes. The Fund aimed to ensure that changes were only made to bring about corrections on the current account of the balance of payments. It also aimed to ensure that the rates chosen were consistent with a good overall macroeconomic outcome not just for the choosing country but also for other countries with which it traded. With the growth of international capital flows, in developed and developing countries alike, the need for, and roles for, the IMF have changed.

  The Fund is now an institution which is concerned with the appropriateness of countries' overall macroeconomic policy, rather than with just one part of macroeconomic policy (balance of payments problems and the sustainability of fixed exchange rates), and with the stability of the overall financial system, rather than with one kind of problem with the financial system (current account balance of payments crisis).

  There is, in my mind, no doubt that an institution like the Fund continues to be needed in this changed world. But this change in circumstances, brought about by a world of mobile international capital, has required a number of changes of focus for the Fund, changes which are only partly complete. These changes concern the management of financial crises, which has become central to the Fund's activities. And there are a number of more general concerns. We consider these two sets of issues in turn.


3.1  Solvency Crises and the Sovereign Debt Restructuring Mechanism

  Central at present, in the light of problems in Argentina, are issues to do with the management of deep financial crises. The Fund's proposal for a Sovereign Debt Restructuring Mechanism is central to these. It is being promoted by Anne Krueger, First Deputy Managing Director of the IMF, in parallel to a plan run put forward by John Taylor from the US Treasury. Taylor's plan would push for the establishment of "collective action clauses" in bonds issued by borrowing governments, enabling creditors to collectively write down debt, even if there are some creditors opposed to this. Krueger's plan would go further and set up an international legal mechanism for assisting with such debt restructuring. There are a series of obstacles to pushing this forward, including opposition of international financial markets who fear excessive interference by the Fund in any process of debt restructuring, and who, by and large, favour only going as far as the establishment of "collective action clauses".

  The key strategic question for the Fund in this area is to secure sufficient agreement to push forward its proposals for such a Sovereign Debt Restructuring Mechanism. There are some technical questions as well:

    (a)  the process must be combined with the Fund setting clear limits on how much it will normally lend to any country in crisis. Establishment of such clear limits is clearly difficult. But without such limits, borrowing countries hope for continuing loans rather than facing the need to declare default and renegotiate their debt. Lenders see the possibility of the IMF lending saving them from the need for a reduction in the value of their debt.

    (b)  should domestic sovereign debt be restructured at the same time as foreign debt is restructured? This would mean domestic holders of sovereign debt having the value of the debt written down at the same time as foreign holders faced this.

    (c)  what should be done about the private sector? How wide to throw the restructuring net? Should the process provide write-down relief for insolvent firms? And conversely should it be allowed to create difficulties for solvent firms. This could easily happen if capital controls and controls on banking, which emerge because of sovereign debt difficulties, are allowed to damage solvent firms.

3.2  Liquidity Crises and Lending Into Arrears

  There are also issues to do with a wider class of crises—"liquidity crises". These differ from the "solvency crises" discussed above (in which there is a need to actually write down sovereign debts) and concern countries which are not insolvent but which suffer from liquidity shortages. Korea in 1997 is an example. What should be the rules for the Fund when dealing with these? There is an important analogy here with chapter 11 bankruptcy. In chapter 11 bankruptcy proceedings it is possible for firms to escape the other side without the assets actually being written down; but the proceedings are still important because they enable the company to be given a stay of respite from its creditors. We need the Fund to help make possible standstills on interest and debt repayments, and to do "lending into arrears". The Fund needs to be able to do this, even when there is not the prospect of sovereign debt restructuring at the end of the process.

  Again, the process must be combined with the Fund setting clear limits on how much it will normally lend to any country in such crisis. And the lending must be combined with "conditionality": the requirement to set in train processes of adjustment. Without such limits, and with inadequate conditionality attached to lending, borrowing countries see the prospect of continuing loans, without the need to proceed with sufficiently strong adjustment policies; even although this can gradually turn a shortage of liquidity into a slide into insolvency. (An example is what happened to Argentina.) Again setting limits and imposing conditionality is difficult. But without this, the Fund is acting to assist countries in gambling for resurrection.

  The Fund should push forward the development of standards and codes for countries' financial systems, and it should provide greater help at times of crisis for countries that meet these. This could include further development of Contingent Credit Lines, which the Fund has established but which have currently had no takers.


  There are a wider set of issues about how the Fund treats developing countries.

  The Fund needs to improve the process of its relations with countries not experiencing an immediate financial crisis. It should be possible for countries not in crisis circumstances to obtain and benefit from IMF assistance, without being subject to a full IMF Programme with attendant IMF conditionality. In such a circumstance the Fund would be providing continuing training, technical assistance and engagement without the country needing to submit its policies for approval and agreement from the IMF. This suggests shorter periods for actual Fund Programmes, but the possibility for a group of countries to have longer-term engagement with the Fund for training ands technical assistance. At present too many countries, even without problems of financial crisis, lose control of their policies to the Fund simply because they have a continuing Fund programme. Countries do not always receive the right advice over the long term, and are unable to build up long-term policy making capabilities. They should be able to break free from such Fund control over their policy-making. It appears that the Fund has an interest in this position, and that private capital markets encourage it, by requiring a country to have a Fund Programme before agreeing to lend to the country in question. A way should be found for countries to break out of this logjam.

  There is a need to an improvement in surveillance, both for countries in Fund Programmes, and those who (in the light of what has just been suggested) are able to break free from them. There is also a need for greater clarity about how countries with continuing good surveillance outcomes are rewarded. The Meltzer Report suggested that countries be graded as "in's" or "out's" in terms of surveillance, with it being known that support would only be given to those "in" countries which meet surveillance requirements. Instead of this, as discussed above, the Fund should push forward the development of standards and codes for countries' financial systems, and it should make it known that it will provide support with less stringent conditionality if crisis develops for countries that meet these standards.

  There should be a better separation of activities of the Fund and the World Bank. The Bank concentrates on development and poverty reduction issues. The Fund should focus on macroeconomic and financial questions, and the provision of assistance at times of financial crises. This advice should not conflict with that of the Bank. But it should not be part of the Fund's advice to be centrally involved with the design of longer-term poverty-reduction strategies. (For comparison, the Bank of England is not centrally involved with industrial policy, or with welfare issues.) These should be central to long term issues on which the Bank provides assistance, rather than being central to Programmes with the IMF, which in the light of the above should be shorter—term and should concentrate on lending to relieve financial crisis.

  There needs to be a better governance structure for the Fund than the existing one. At present, Staff and Management of the Fund are overseen by Executive Directors, who owe allegiance to the countries which send them, rather than being collectively concerned with furthering the Fund's own objectives. The suggestion has been made that there should be involvement from external participants on the Executive Board, similar to the MPC. Such a structure could better oversee the establishment of clearer limits on what the Fund is likely to lend at time of crisis. It could also help establish a process which guards against the Fund being complicit, because of lending without clear limits, in enabling countries to gamble on resurrection rather than properly initiating adjustment. At the very least a better governance structure would help to avoid the Fund being gamed into lending by leakages in the course of negotiations. In the case of Argentina, and recently Uruguay, the Fund has actually been bounced into lending amounts discussed between the management and countries but not yet cleared by the Board.


  As reviewed above, improvements could be sought in the following areas at the Fund.

 (a)   On the management of financial crises

  A greater willingness to lend into arrears in financial crisis; tightened access to money from the Fund at a time of crisis; greater clarity about conditionality likely to apply at time of crisis;  and progress towards collective action clauses in sovereign debt contracts and progress towards a Sovereign Debt Reduction Mechanism.

 (b)   More generally:

  A better longer term structure of relations with countries not in immediate financial crisis, allowing for shorter Fund Programmes and continuing assistance without formal Programme conditionality; better surveillance; greater clarity about the distribution of responsibility between the shorter term Fund Programmes and longer term work on development on poverty reduction with which the Bank is equipped to assist; and improvements in Fund governance.

21 June 2002

previous page contents next page

House of Commons home page Parliament home page House of Lords home page search page enquiries index

© Parliamentary copyright 2002
Prepared 12 December 2002