Saturday, November 19, 2016

An Organisational Critique of the International Monetary Fund: The Case of Governance and the Effectiveness of the IMF



International Monetary Fund
Introduction

This article discusses the International Monetary Fund (IMF) and its organisational strengths and weaknesses. The IMF is one of the two Bretton Woods Institutions, the other one is the World Bank, which serves to promote international financial stability and established by 44 countries at a UN conference in Bretton Woods, New Hampshire, USA in July 1944 (IMF 2016: 1). The primary purpose of the IMF is ensuring the stability of the global monetary system to enable mutual transaction between countries and their citizens (IMF 2016: n.p). This short article focuses on the internal governance within the IMF particularly the quota system, the IMF’s conditionality, the relation of the IMF and the neoliberal agenda, and the reforms within the organisation.

I argue that the IMF has internal governance problems especially in its quota system. The quota system which also determines the voting rights is unjust in the sense that developed countries, which can afford to contribute more funds, generally have greater power and control over the organisation. In addition, the IMF’s conditionality and its Structural Adjustment Programs (SAPs) have failed to overcome poverty in developing countries. It is even responsible for causing the worsening crisis in many countries. Therefore, this article will focus on the strengths and weaknesses of the IMF. The weaknesses of the IMF are analysed in terms of the good governance, the IMF’s conditionality, and the neoliberal thinking of the IMF. The analysis on the strengths of the IMF focuses on the reforms that have been done to increase the global acceptance of the IMF. The last section discusses the conclusion and the recommendation.

Governance within the IMF: the quota system

There have been criticisms against the IMF due to the closed and undemocratic process within the institution. One of the main criticisms relates to the ‘quota system’ of voting rights or how countries represented in the IMF. Each country has different quotas which affect their voting weight and access to financing in the IMF (McDonald 2007: 1749). The quotas are given to member countries according to the formula which is a weighted average of gross domestic product (GDP), economic variability, and international reserves or financial contributions to the IMF (IMF 2016: 1). Schild (in Strand and Retzl 2016: 419) argues that the quota system is the result of the Bretton Woods meeting in which the United States wanted to secure a veto power within the World Bank and the IMF despite concerns from developing countries.

Moreover, the quota system can affect the relationship of the member countries with the IMF in several ways. First, the subscriptions. A member country must pay its subscription prior to joining the IMF and the amount paid will determine the quota. The IMF decides the maximum contribution of a member to the IMF’s financial resources based mainly on its size in the world economy (IMF 2016: n.p). Second, the voting power. Given this formula, major developed countries have greater power and control over the institution as they have more voting influence. Currently, the six biggest powers in the IMF are the United States, Japan, China, Germany, France, and the United Kingdom (IMF 2016: n.p). The United States, with 16.54% voting share, has a veto power over the most important decisions which require special majorities of 85% of the votes and this creates governance problems within the IMF (Leech 2002). Third, access to financing. The amount of loan to members is determined by their quota. The more quota a member has, the more amount of financing they can obtain (IMF 2016: n.p).

As the implication of the quota system, the IMF faces other governance problems including legitimacy and participation or ownership within the organisation. Woods (2000: 836) argues that the IMF faces a tradeoff between legitimacy and effectiveness in its decision-making processes.

The IMF can claim to represent almost all countries in the world but this claim is problematic because inequality among its members has widened due to an unfair voting system. This creates problems in transparency and accountability since many developing countries have little access to information and decision-making processes (Woods 2000: 836). In addition, Rapkin and Strand (2006: 305) argue that the perception of unequal participation has undermined the effectiveness and legitimacy of the IMF. This is because countries are less likely to fully comply with the decision of the institution and they might perceive to only have little ‘ownership’ in the institution. The quota system also makes developing countries, individually and collectively, lack of a meaningful participation in the IMF’s governance. Strand and Retzl (2016: 415) analyse that, whether using the old or the new quota system, the United States still holds the largest share of voting power.


The IMF’s conditionality

In order to ensure the stability of the global monetary system, the IMF conducts a ‘surveillance’ to monitor its 189 member countries’ economic and financial policies (Karns et al 2015: 393; IMF 2016: 1). Following the surveillance, the IMF provides technical assistance and policy advice to assist countries in building their economies. It also provides loans to member countries to maintain or fix their economic conditions (IMF 2016: 1). The IMF’s conditionality means that, in order to request financial support from the IMF, a member country should agree to adjust its economic policies to overcome the monetary problems by preparing the Memoranda of Economic and Financial Policies. The document describes the policies the member country intends to implement to restore the balance of payment viability and to maintain macroeconomic stability (IMF 2016: n.p).

The IMF’s conditionality is also subject to criticisms because there is no evidence that it can lead a country to economic growth and poverty reduction. Besides, its general prescription (one-size-fits-all) is not necessarily applicable to different cases in different countries.

Dreher (2009: 256) argues that the IMF conditionality is ineffective and there is no evidence that it makes an economic recovery program successful or enhances ownership. Williamson (2004: 7) argues that the IMF’s policy in mid-1990s to urge countries to liberalise their capital flows to Foreign Direct Investment (FDI) was responsible for causing the 1997 Asian crisis. In addition, Bird (2001: 46) finds that the move toward greater conditionality may have negative impacts on both the economic out-turn and the incentive for countries. It may also have negative consequences by limiting the IMF’s ability to assist countries in getting out of the crisis.   

The issue of conditionality is fundamental since it is the principle modality which affects countries’ macroeconomic policies. In channeling their funds to the members a recipient country should agree to adjust their economic policies and programs and meet the IMF’s standard known as the Structural Adjustment Programs (SAPs). Easterly (2003: 388) argues that the SAPs have reserved the development success of the 1960s and 1970s because the programs are not really targeted at reducing poverty but rather subsidizing the middle class, if not the upper class. In addition, Easterly (2000) also evaluates the correlation between the IMF and the World Bank programs on poverty and finds that there is no evidence for a direct effect of SAPs on growth.

One of the critiques to the ‘one-size-fits-all’ approach is given by Rioja and Valev (2004). In their study, Rioja and Valev (2004: 443) find that the policy prescription package, introduced by the IMF and the World Bank, does not work because different regions tend to have different effects on growth when given the same financial policy treatments. In addition, Easterly (2003: 370-387) examines four currency crises: Mexico in late 1980s and Indonesia, Thailand, and Russia in 1996-1998 and finds that growth is negative in all cases and, except for Indonesia, the increase of poverty is fairly modest.  

Meltzer (1998) argues that the Asian crisis was due to the failure of the solutions given by the IMF. For example, by mid-January 1998, the stock market in Indonesia, Thailand, and Malaysia had lost about 75% of their value one year before and the Indonesian currency lost 70% of their value whereas South Korean and Malaysian currencies fell to 50% in the same period (Meltzer 1998: 268). Furthermore, the financial crisis in Indonesia even escalated into a political and leadership crisis due to the errors made by the IMF especially the elimination of petroleum subsidies. It therefore helped to destabilize the political system in Indonesia (Grenville 2004: 83; Stiglitz 2003: 205).


The IMF and neoliberal agenda

Another criticism of the IMF is in regards to the relation between the institution and the neo-liberal economic agenda. The capital-market liberalisation is one of the most controversial aspects of globalization and the IMF is one of the most influential organisations that support and push the agenda around the world (Karns et al 2015: 393). Furthermore, Onis and Senses (2005: 263) contend that the Bretton Woods institutions, like the IMF, have aggressively propagated a set of neoliberal economic policies known as the Washington Consensus. The Washington Consensus consists of ten reforms agenda which mainly focus on the market liberalisation, privatisation, deregulation, and redirection of public spending from subsidies toward pro-growth and pro-poor programs (Williamson 2004: 3). In addition, Canova (1999: 1549) contends that the IMF, along with other western multilateral organisations, has formulated the neoliberal agenda that emphasises the importance of private investment and underestimates the public-sector oriented prescriptions.

Brenner and Theodore (2002: 361) state that there are signs that the IMF is aggressively implementing the neoliberal goals with their advice on deregulation, trade liberalisation, free flow of capital and investment. The world is now being shaped by the Neoliberalism as the dominant ideology of capitalist globalisation (Brenner and Theodore 2002: 359). Furthermore, the Washington consensus or the ‘US model’ becomes an important tool to enforce the neoliberalism in developing countries (Palley 2005: 25). Unfortunately, the neoliberalism has failed in fighting poverty and ensuring economic growth. Stiglitz (2004: 62-63), a former chief economist at the World Bank, argues that the capital-market liberalisation advocated by the IMF often leads to increased economic volatility instead of economic growth or higher investment.

In line with the above criticisms, the IMF’s loans and its neoliberal thinking contribute to spreading financial crisis in emerging markets. Meltzer (in Nunnenkamp 1999: 3) argues that the IMF’s loans to crisis-ridden countries such as Brazil and Mexico triggered further financial crisis in the Asia. In fact, neoliberalism was also responsible for the financial crisis around the world such as in Mexico, East Asia, Russia, Brazil, Turkey, and Argentina (Saad-Filho 2005: 116).

Quota reforms within the IMF

One of the critical strengths of the IMF is its ability to reform itself in order to adapt with new global development especially in the financial sector. Despite criticisms against the IMF, this institution has also undergone some reforms. Tyson (2016) argues that the reforms within the IMF is necessary in order to boost its legitimacy as an international financial institution. In addition, Kenen (2007: 3) and Karns et al (2015: 394) argue that the reform within the organisation is generally inspired by the emerging underrepresented countries such as China and India which now play an important role in the world economy. As the world financial system has evolved, the quota system must also reflect and adapt with the new changes and development of financial and economic strengths of the IMF’s members.

Although its current quota system is still subject to criticisms, it is important to note that the IMF has changed its quota system several times. It will possibly change again in the near future owing to the global development and internal concerns. Furthermore, Bryant (2008: 1) contends that, to be an effective organisation, the reform within the IMF cannot operate with one-nation-one-vote system such as that of the UN General Assembly in which a large nation has a larger vote share, considering it also has greater responsibilities.

The quota formula has changed four times. The original formula, agreed at the Bretton Woods Conference, used five variables and then it changed in 1962/63 to increase the quotas of small and open economies. In 1983 the GDP variable replaced the national income variable. The last change in the formula is that it contained four variables in 2008 (50% GDP, 30% openness, 15% economic variability, and 5% international reserve) (IMF 2011: 4; IMF 2016). The 2008 quota reform has adopted several principles i.e: being simple and transparent, being consistent with the roles of quotas and reflecting global trends, being acceptable to the membership and feasible to implement (IMF 2011: 2-3). Ridrigo de Rato, the managing director of the IMF, proposed the IMF 2008 quota reform in 2006 by asking the executive board to do the IMF surveillance and to distribute the IMF quota system and voting share (IMF 2005; Kenen 2007: 15). Finally, in 2010, the reform shifted more quota from over-represented to under-represented members and also increased the quota of the emerging developing countries such as Brazil, China, India, and Russia (IMF 2015).

Openness and Transparency within the IMF

The IMF used to be criticised for lacking transparency and accountability especially by the late 1980s when institutional transparency was not on the organisation’s agenda (Houtven 2002: 58). The major reform to strengthen the accountability of the organisation was taken in 2001 with the establishment of the Independent Evaluation Office (IEO). It operated independently of the IMF management and also brought a mission to support the institutional governance and oversight (EOI no year: n.p; Houtven 2002: 60).

Since then, IMF has made public most of its activities, reports, lending activities, and international policy deliberations (IMF 2001: n.p). The IMF reform also contributed significantly to making the member countries more transparent and accountable. The country transparency on the economic and financial data, especially on the external vulnerability, is important as part of the efforts to prevent future crisis through early detection system (IMF 2001). At the same time, such transparency also makes countries transparent and accountable to their people.

The transparency and accountability of the organisation can be seen from the contents of its website (www.imf.org). The IMF’s website also releases Letter of Intent, Memoranda of Economic Policies, Policy Framework Paper and Poverty Reduction Strategy Papers (PRSPs) as part of the prerequisites for loans release (see IMF’s website under the title Country’s Policy Intentions Documents Type). In addition, such transparency and openness give significant benefits to the IMF to be able to influence the public debate and to enhance the IMF’s legitimacy by making it more accountable (IMF 2009: 2).

Furthermore, the transparency and accountability reform within the IMF have been implemented for the investment activities of Sovereign Wealth Fund (SWF). Truman (2009: 439) argues that the transparency and accountability of SWF is important to be accountable to the citizen of the home country and also to the government and citizen of the countries targeted for the investment.  

Conclusion and recommendations

The IMF is obviously the organisation with extensive number of member countries. However, its legitimacy cannot only be seen from the number of its members but also the implementation of its internal governance. Despite its efforts to reform the organisation especially in the quota system or voting share as well as its openness and transparency, several weaknesses are apparent within the IMF governance system. The IMF quota system, mostly based on the economic scale of the country, still favours developed countries especially the United States. This creates unequal relations among members of the IMF particularly for developing countries in which they have little access to decision making processes. In addition, the IMF conditionality and Structural Adjustment Programs which lead to neoliberal agenda have not proven successful in reducing poverty and increasing economic growth. Instead, some evidence shows that the solution given by the IMF have made even worse crisis in many countries.


Therefore, it is crucial for the IMF to reform its quota system and find the right weighting system which will allow developing countries to participate actively in the decision making processes. Granting a ‘veto’ to a country, in this case the United States, is problematic and it should be abandoned by cutting down the voting share owned by particular countries or cutting down the need of 85% vote share for important decisions. In addition, it is important for IMF to base its solution more on evidence rather than one-size-fits-all neoliberal ideology for all different types of crisis. By relying on evidence in working with the member countries and considering their social and political conditions, the IMF can work together with countries to come up with the right solutions to stabilise the national economy, reduce poverty and increase growth instead of merely pushing countries to liberalise their markets and cut public spending.***

Written by: Agung Wasono (October 2016)

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