Memo to Ms. Georgieva

The first task for the next managing director of the International Monetary Fund must be to put in place an open, merit-based process for choosing her successor. A column by Barry Eichengreen.

Barry Eichengreen
«Preventing destructive trade and currency conflicts was the original raison d’être for founding the institution in 1944.»

Whether or not the next International Monetary Fund (IMF) managing director turns out to be Kristalina Georgieva, Europe’s nominee and current World Bank Executive Director, that person will face formidable challenges. To be sure, the Fund is in better shape today than when Christine Lagarde, took the helm in 2011. The ethical cloud that had engulfed it on the watch of Dominque Strauss-Kahn has now lifted. The institution has cultivated an image as more compassionate, more responsive to civil society, and more concerned with gender issues.

But the work program is lengthy. And with global risks mounting, time is short.

The agenda starts, inevitably, with the IMF’s own legitimacy deficit. The backroom deal in which Europe was able to pick the head of the IMF in return for supporting the U.S. nominee to lead the World Bank is at the root of the problem. Ever since their 1997-8 financial crisis, Asian countries have displayed a severe case of IMF stigma. The Fund carries out the wishes of advanced Western countries, Asian officials argue, at the expense of other members. Their complaint may be misplaced; Greece will tell you that being a Western country buys you few favors from the IMF. But the fact that the Europeans and Americans retain final say over who runs the Fund and Bank doesn’t foster trust in the Bretton Woods twins.

Larger quotas and voting shares for China and others

Thus, the first task for the next managing director must be to put in place an open, merit-based process for choosing her successor. The next MD should make this reform the first order of business of the IMF Board of Governors. And she should demand a public commitment by European governments to respect that process as a precondition taking up the position.

Legitimacy also requires larger quotas and voting shares for China and other emerging markets. The last quota reform, agreed in 2010, doubled China’s share. But that reform was only finally implemented in 2015, after a lengthy U.S.-induced delay. Chinese growth may have slowed, but it continues to outstrip that in the advanced country world. So the imbalance remains and, if anything, has become larger.

Group of Twenty leaders committed at their meeting in Buenos Aires last year to reaching a new quota agreement by the time of the annual Bank-Fund meetings next month. The clock is ticking.

Caution with fiscal consolidation

The IMF also has unfinished business in designing programs for troubled countries. Its self-proclaimed lessons from Greece were three. First, austerity really is contractionary, so it‘s important to proceed cautiously with fiscal consolidation. Second, IMF programs are only sustainable if they protect the poor. Budget cuts that hit the defenseless breed support for populist politicians and risk provoking a political reaction. Third, and relatedly, problem debts should be restructured rather than repaid on the backs of the poor.

But, rhetoric to this effect notwithstanding, IMF staff still seem to be resorting to the same shopworn formulas when negotiating with crisis countries. The Fund’s program for Argentina was already off-track before last month’s election. The mandated budget cuts, including a reduction in fuel subsidies, played a key role in President Macri’s loss in the polls. A debt re-profiling, in which bond maturities are lengthened, is almost certainly coming. The IMF erred, once again, by putting off the inevitable restructuring.

In Ecuador, meanwhile, the IMF is demanding a fiscal consolidation of 5 per cent of GDP starting this year, but also imagining a return to growth in 2020. This forecast is unrealistic for a dollarized economy unable to depreciate its exchange rate as a way of substituting external demand for the domestic demand that is evaporating. Meals for schoolchildren have been cut, and only 0.4 per cent of GDP is being set aside to compensate for the removal of fuel subsidies and provide other aid for the poor. Meanwhile, public debt is approaching 50 per cent of GDP, nosebleed levels for a developing country. And yet debt restructuring remains off the table.

Global trade and climate change

Einstein famously observed that insanity is doing the same thing over and over again and expecting a different result. The second task for the next MD thus must be to restore the Fund’s programmatic sanity.

Third, the IMF needs to sound louder warnings of the risks of the global economy’s current descent into trade and currency wars. Preventing destructive trade and currency conflicts was the original raison d’être for founding the institution in 1944. Nothing is more central to its mandate.

Similarly, in warning of the dangers of climate change, the Fund needs to do more than issue politically correct blog posts. Rising sea levels threaten the very existence of some of its most vulnerable members. Climate change increases the unpredictability of economic outcomes and thus poses risks to the stability of the global financial system, whose preservation is another key aspect of the IMF’s mandate.

Donald Trump’s shadow

So far, national central banks have been more forthright in highlighting these risks. The IMF has yet to make climate risk assessment a regular element of its Article IV consultations. Nor does it exempt climate-change-abatement investments from the budget cuts it requires of program countries.

There is, of course, a two-word explanation for why the IMF has chosen to tread lightly on these issues: Donald Trump. So far, the Trump Administration and the Fund have had reasonably good relations. Lacking the staff and bandwidth for sustained foreign engagements, the administration has seen the virtue of delegating management of problems in Argentina, Ecuador and Pakistan to the IMF. But if the Fund called out Trump for his destructive trade war, his false accusation that China is engaged in currency manipulation, and his abrogation of the Paris Climate Accord, one can well imagine the Twitterstorm that would be unleashed in response.

This issue is rendered more delicate by the IMF’s looming resource crunch. A third of the Fund’s resources come from bilateral agreements with a subset of member countries. These will expire by the end of 2020, and there is no guarantee that the U.S. will renew its contribution. In addition, the $39 billion U.S. contribution to the New Arrangements to Borrow will expire after 2022, absent Congressional action. If the NAB collapses, another 20 per cent of IMF resources will disappear.

Searching for alternative sources of funding

The Fund could maintain the current approach and avoid being overtly critical of Trump’s policies in the hope that the U.S. will renew its financial commitments. This would give it the firepower needed to deal with multiple country crises in the next recession, but at the cost of credibility among its members.

Or it could call Trump’s policies what they are – a threat to global prosperity and stability – and hope that the next U.S. president will restore the funding that Trump curtails. This approach is more intellectually defensible. Adopting it will enhance the IMF’s legitimacy with its other members. But it runs the risk of leaving the institution dangerously short of funds in the next crisis.

At the same time, there may exist alternative sources of funding, from China to Japan and the European Union. An IMF that recognizes that its legitimacy rests on the defensibility of its policies should start exploring them now.