The IMF's big stumbles

FAILED

What the "Experts" Got Wrong about the Global Economy

Mark Weisbrot

Oxford University Press

274 pages; Rs 695

What if institutions designed to protect the global financial architecture come up with the wrong policy prescription that actually end up doing more harm than good?

Conceived at the famous Bretton Woods conference, the International Monetary Fund (IMF) was charged with ensuring the stability of the global monetary system. Over the years, the IMF's mandate has been broadened to examine macroeconomic and financial sector issues that have a bearing on global stability. Loosely speaking, the IMF also serves as a lender of last resort to countries during times of stress.

In principle, then, the IMF is ideally placed to help countries during periods of turmoil. But its track record has been found wanting. In country after country, its policy prescriptions have ended up exacerbating the crisis.

In Failed: What the "Experts" Got Wrong about the Global Economy, economist Mark Weisbrot chronicles the IMF's policy prescriptions during the Latin American, Asian and European crises. Like other critics, Mr Weisbrot's premise is that the IMF's policy prescription, driven by a particular ideology, has been mostly wrong.

To buttress his claim Mr Weisbrot presents evidence to show that the policy advice from institutions such as the IMF and the European Central Bank (ECB) follow a template - cuts in government expenditure and tight monetary policy - that are not necessarily helpful.

For instance, Mr Weisbrot alleges that the Euro crisis was exacerbated by the refusal of the "troika" - as the IMF, ECB and the European Community were labelled - to carry out expansionary policies that would have enabled bankrupt countries like Greece to grow. The policy failure, he says, was deliberate, with these countries forced to make deep spending cuts.

As opposed to counter-cyclical policies, which involve easing monetary and fiscal policy during a recession, the troika forced pro-cyclical monetary and fiscal policies. As economists have pointed out, it is hardly surprising that contractionary monetary and fiscal policies are contractionary in their impact. It is little wonder that GDP growth in these countries collapsed even further. By comparison, the US Federal Reserve pursued what is perhaps the most expansive monetary policy in history to deal with the downturn.

History shows that the contractionary policy prescription is hardly new. In fact, Mr Weisbrot points out that a review of 41 countries with IMF agreements during the 2009 recession found that 31 of them included pro-cyclical monetary or fiscal policy.

Drawing on the Argentine experience, Mr Weisbrot contends that had Greece been allowed to exit the euro zone, which would have given it freedom to manage its currency, the country could have devalued its way to growth. When Argentina defaulted on its external debt, it ended its currency peg to the dollar and imposed capital controls - a policy stance diametrically opposite to what the IMF recommended.

Though these policies initially worsened the crisis - the country's GDP declined by five per cent in a single quarter - the economy soon began to recover, taking roughly three and a half years to regain its pre-recession level of output. Compare this to the Euro crisis where after nearly half a decade, the situation has hardly improved.

For those who argue that Greece is culturally and economically different, Mr Weisbrot presents counter evidence: that Greek exports, as a percentage of GDP, were almost twice as high as Argentina's during its crisis and that the "lazy Greeks", in fact, worked 47 hours more than "industrious Germans" in a year.

The problem with the author's argument is that the two situations aren't comparable. For one, a Greek exit would have ripple effects. It would pressure other countries in a similar situation to also exit the monetary union, jeopardising the Euro, which is essentially a political project. Greece would also face the risk of being cut off from international markets.

Further, Mr Weisbrot's claim that the Argentine turnaround was led by domestic consumption and investment rather than a commodities boom may be underestimating the impact of the latter. China's voracious commodity appetite over the past decade fuelled the growth of many commodity exporting countries, and Argentina was one of them.

But in the current state, with anaemic global demand, in large part because of a slowdown in China, a currency devaluation is unlikely to have helped Greek exports grow enough to influence an economic turnaround.

But it is not just during the Euro or the Argentine crises that the IMF erred. As others before him have also argued, Mr Weisbrot highlights the Asian crisis where the IMF failed to act as the lender of last resort, allowing the panic and the crisis to get out of control before it eventually stepped in. When it did intervene its policy prescriptions, including budget cuts and interest rate hikes, made the crisis worse. In fact, even the Fund's internal evaluation office later noted that in Indonesia it was "difficult to argue that things would have been worse without the IMF".

It's stance during the crisis, which eroded its legitimacy, convinced the Asian countries to insure themselves by building up a foreign exchange war chest for times of crisis.

Of late, the IMF has attempted to redeem itself, softening its stance on capital controls and increasing the voting rights of developing nations like India and China, but its moral standing has been eroded. So much so that frustrated emerging economies have grouped together to launch institutions such as the Asian Infrastructure Investment Bank and the BRICS Bank to counter Washington-dominated institutions, though it too early to gauge their effectiveness.

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