Globalization and its Discontents | Study Guide

Joseph Stiglitz

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Globalization and its Discontents | Chapter 8 : The IMF's Other Agenda | Summary

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Summary

The author contends that the IMF's failures result from its belief that what "the financial community views as good for the global economy is good for the global economy" regardless of the nature of a country's crisis or its local conditions and needs. This belief has tended to refocus the IMF more on protecting Western investment banks than on helping and stabilizing nations in financial trouble.

Losing Intellectual Coherency: From Keynes's IMF to Today's IMF

English economist John Maynard Keynes (1883–1946) believed that a nation's economic downturn could be reversed with government action to expand the economy. Expansionist stimulus spending and policies would move the nation toward growth and full employment. Keynes envisioned the IMF as a global institution that would "put pressure on countries to maintain their economy at full employment" and provide "liquidity for those countries facing downturns that could not afford an ... increase in government expenditures." Keynes helped create the IMF as a global institution because he understood how a downturn in one country often spreads to other countries. Today's IMF has abandoned its original mandate and now focuses almost exclusively on markets, largely ignoring government as an agent of change to improve the economy. Thus, the IMF implements contractionist policies, not expansionist ones.

A New Role for a New Exchange Rate Regime?

Exchange rates fluctuate based on the market, or how much of one currency can be purchased with another currency. As speculation in the value of the Thai baht revealed, "excessive exuberance ... [leads to] a bubble." This exuberance is "followed by excessive pessimism" about the currency. When currency traders are pessimistic, they sell the currency and its value plummets. The capital-market liberalization pushed by the IMF makes exchange-rate volatility worse because it encourages "hot money" currency speculation that too often leads to the type of economic crisis experienced in Thailand.

Contagion

Keynes understood that the "downturn in one country leads that country to import less, and this hurts its neighbors" and trading partners. Trade is what spreads contagion from a country in an economic crisis to other nations. When the IMF had Thailand reduce its imports, it ensured the transmission of the crisis to Thailand's trading partners. The multiple recessions that resulted led to a reduced demand for oil, which then severely affected Russia's economy.

When Is a Trade Deficit a Problem?

The IMF "worries a lot about balance of payments deficits," or imbalances between a nation's revenue and expenditures. If a country in crisis borrows money to stimulate its economy, it may have a deficit, but if it uses that money to stimulate economic growth the imbalance is not a problem. Balance of payment deficits may be a problem for a country that takes out many loans because it routinely spends more money than it takes in and may spend that money on things that do not stimulate economic growth.

Bankruptcy and Moral Hazard

If a country in crisis is in danger of defaulting on its bank loans, the IMF steps in to lend money to that country to cover these loan payments. Thus, the original lenders, Western banks, face no risk even when they lend to non-creditworthy nations because they know the IMF will bail them out. The IMF guarantee acts as a form of insurance, enabling banks to disregard the consequences for making risky loans. This is known as a "moral hazard." The IMF essentially acts as an insurer of even the riskiest investments in countries in crisis. In the real world, IMF guarantees to protect Western banks that have lent money to a country with an ailing economy. If this country is on the brink of default, the IMF tries to impel it to borrow money to cover its debts and the money from this new loan is used to pay the earlier debts owed to Western creditor banks. Clearly, the IMF's rescue loans just put the nation further in debt and do not address the underlying problem. Still, the IMF frowns on a nation declaring bankruptcy, defaulting on its debt, or restructuring its debt because then Western banks may not be paid back in full.

From Bailout to Bail-In

For a while, the IMF adopted a strategy that required private financial institutions to contribute some part of the money the IMF used to bail out an overly indebted nation. The IMF termed this new strategy a "bail-in" of private money before the actual IMF bailout. The new strategy failed because few private investors would partner with the IMF knowing they'd probably lose money on the loan.

The Best Defense Is an Offense: Expanding the Role of the IMF as "Lender of Last Resort"

The IMF proposed adopting the role of "lender of last resort." In this role, the institution would lend to nations that "have a positive net worth but which cannot obtain funds from elsewhere." The IMF would decide if a country is creditworthy and then lend it money if no one else would. It would also be paid back first, before any private lenders. Because its loans carry a lot of risk, the IMF charges high interest rates. If the private sector then decides to make risky loans to the troubled country, it demands even higher interest rates. The upward spiral in interest rates makes it harder for a country in need to borrow. This policy was mired in contradictions because a country that has "a positive net worth" is able to "obtain funds from elsewhere." Only nations with a negative net worth, with too much debt, may not be able to secure loans.

The IMF's New Agenda?

Overall, Stiglitz finds that the IMF's policies lack coherence in addressing the admittedly complex problems facing countries in crisis. Lack of transparency within the IMF makes it that much more difficult to sort out these conflicts. The IMF tries to hide its unspoken role, which has evolved from "serving global economic interests to serving the interests of global finance." The global financial community is dedicated to the Washington Consensus, so the IMF embraces it too. Further, a significant number of high-level IMF personnel come from the financial sector, so their beliefs and principles guide IMF actions. Because so much of its staff hails from the private financial sector, the IMF tries to ensure that big Western banks get repaid for loans they have made to debtor nations. This is one important reason the IMF frowns on national bankruptcy: private creditors never receive full repayment.

Debtor nations thus fall further into debt, which the IMF responds to with more high-interest loans, leaving the country with far too little money to spend on necessary social programs. Couple this with IMF-imposed austerity and it's no wonder that the IMF is greeted with hostility by people around the world. The IMF has lost its original focus on lending to maintain stability and promote economic growth and instead zeroes in on repayment to Western banks—at the expense of the debtor nation's goals of growth, employment, and social cohesion. The author recommends that the IMF focus more on the concerns of the debtor nation and less on "the interests of [Western] creditors." The IMF and the U.S. Treasury have tried to blame debtor nations for their economic woes, even if these problems arose from IMF-directed, ill-timed market liberalization. The author shows that this blame-game is just a smokescreen to obscure the fact that most often it is IMF liberalization policies that have not only caused, but more often failed, to cure ailing economies. Finally, IMF and U.S. Treasury failures call into question the core belief about "the global triumph of capitalism." It was necessary for them to shift the blame so that "it could be shown that the problem was not with capitalism, but with ... [debtor] countries."

Analysis

The IMF has lost its way. Its original mandate was as a global financial institution intended to lend money to nations in financial crisis to maintain stability and promote growth. By the 1990s the IMF had become an institution with a primary mission to liberalize the economies of nations in financial distress. Liberalization is shown to create more problems than solutions for a developing country. Whether it's the IMF's demands for capital-market liberalization, which leaves a developing country's currency at the mercy of international currency speculators, or its insistence on contractionary trade policies that spread the contagion of one nation's economic downturn to its trading partners, the IMF's strict enforcement of the Washington Consensus almost always negatively affects the economy of the debtor nation. The IMF's one-size-fits-all liberalization agenda, coupled with its abhorrence of expansionist government pro-growth policies, also leads to instability in an indebted country that finds it can no longer provide its citizens with needed services.

The author shows how the IMF's liberalization agenda most likely developed and how it undermines the institution's mandate. The IMF's managers and decision makers are "chosen behind closed doors, and it has never been viewed as a prerequisite that [they] should have any experience in the developing world." The IMF's decision makers "assert their control through a complicated voting arrangement based largely on the economic power of [Western] countries at the end of World War II." IMF economists, many of whom came to the IMF from large Western investment banks, impose market fundamentalism as their operating principle. Further, the decisions made by high-powered Western financiers who run the IMF are reported only to a client nation's minister of finance or the head of its central bank. These high-ranking financial insiders often have little knowledge of (or perhaps interest in) the economic needs of their nation's citizens. Thus, these decision makers promote the implementation of economic policies they understand and believe in, even when these policies are wholly unsuited to solving the problems facing the country seeking IMF assistance. Equally detrimental is the inherent focus on ensuring that Western banks that have outstanding loans in the debtor nation receive full repayment of their loans. Many of the IMF's policies are geared more toward making the lending banks whole than curing the economic ills of the debtor nation. In a stunning revelation, the author describes how Western banks that were lending money to Russia in the 1990s were dictating to the IMF "how large a bailout they thought was needed" to ensure they were repaid. IMF bailouts may help Western creditors but they are essentially new loans made to the debtor nation. This additional debt burden means that the debtor nation must use the bailout money to pay back Western banks, leaving it with little or no money to address its underlying economic malaise or promote its economic growth. This type of policy simply digs a deeper hole of debt for a country in financial trouble.

The Western banks that lend money to developing nations with economic problems are further emboldened by the moral hazard that comes with IMF loans. As was seen in former chapters, a developing country feels compelled to follow IMF rules in order to secure loans from any bank. If the IMF blackballs an uncooperative country, it is assumed to be too great a risk to invest in that country, and all lenders shun it. One reason the IMF's approval is so important is that it operates as a guarantor of repayment. As discussed above, the IMF ensures that Western banks are first in line to have their loans repaid when a debtor nation refinances with new loans. This guarantee creates the moral hazard that encourages banks to offer loans with unusually high risk thanks to the IMF's guarantee of repayment. Moral hazard also leads lenders to make extremely risky loans without first analyzing the consequences that may ensue if the borrower defaults on the loan. Lenders don't have to consider negative outcomes because the IMF makes sure the indebted nation takes out new loans to pay what it owes. This is good for the banks but it usually has dire consequences for the debtor country. The more loans a developing nation must take out just to cover repayment of previous loans makes it increasingly impossible for that nation to have any money left to promote economic growth or provide services to its population.

The inequity that arises from the cozy relationship between the IMF and Western banks underpins the IMF's double standard regarding Western financial institutions and nations that seek its help. In the simplest economic terms, any type of debtor can declare bankruptcy as a means of getting out from under unsustainable debt. In developed nations, there is a legal process that allows huge corporations and individual citizens to declare bankruptcy to wipe out debt or to restructure it to make repayment more manageable. Although it may have dire consequences, countries may choose to default on their debt to help them improve their economic situation. Only developing nations in thrall to the IMF are denied the benefits of bankruptcy. (Note that they may choose to default on their loans but that leaves them in the IMF's black book and makes securing future loans difficult, if not impossible.)

Because of the ideological preferences of its staff and its commitment to instituting free-market capitalism around the world, the IMF finds itself serving two conflicting purposes. Too often its agenda and policies are geared toward "pursuing the interests of the financial community," or the Western banks, to the detriment of the developing nations it was created to assist. Despite the IMF's primary concern for protecting Western financial interests, it and the U.S. Treasury persist in blaming developing countries for the failure of IMF policies. The giants of free-market capitalism will not admit that capitalist liberalization may have flaws that create the problems they try to blame on its victims.

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