Tuesday, October 28, 2008

IMF firepower could soon run short

(FT) With its $2bn (£1.3bn, €1.6bn) rescue loan to Iceland and $16.5bn to Ukraine, the International Monetary Fund has started to dip into an arsenal that is full to the brim. Yet the IMF could soon run short of firepower.

In spite of the period of relative peace in recent years among emerging markets, the private armies of global finance have grown much faster than the fund’s store of ammunition.

The IMF, headed by Dominique Strauss-Kahn, has about $200bn in easily reachable money and another $50bn or so it can access rapidly. But Simon Johnson, a former IMF chief economist now at the Massachusetts Institute of Technology, says that is relatively small. “Maybe if the IMF had two trillion dollars it could be a serious global player,” he says. “But $200bn can go very quickly. There are a lot of countries in the same position as Ukraine, and you only need to add one or two of the really big countries to use it up.” Mr Johnson reckons that with other countries also in trouble, the IMF has probably already had to pencil in committing about a quarter of its $200bn over the next few months.

Despite a long and sometimes fractious discussion about funding and governing the IMF, it has not kept pace with the rapid rise in the size of global capital markets. Countries in trouble are normally supposed to be limited to three times “quota”, or their own financial contribution to the fund. Ukraine’s loan was eight times its quota; Iceland’s 11 times bigger.

But even stretching its resources does not produce overwhelming firepower. Investment bank analysts estimate, for example, that Ukraine needs to raise some $55bn-$60bn next year in external financing. And while most of that will be borrowed by the private sector rather than the government to which the IMF lends, it still illustrates the huge size of gross financial flows.

Nor is the IMF money likely to be the only cash on the table or even the biggest contribution in many crisis-hit countries. Iceland is seeking several billion dollars more from its Nordic neighbours to supplement the fund’s loan. If, as seems likely, the IMF agrees a loan to Hungary, it will follow emergency lending from the European Central Bank.

The administration of President George W. Bush used to argue that the IMF alone, not bilateral lenders, should be in charge of rescues. That doctrine, like several others, appears to have been discarded.

“The IMF has enough funds to play an active role in the smaller and poorer emerging market countries,” says Ken Rogoff, another former IMF chief economist. “But it doesn’t have the resources to be lender of last resort for a country of any size like Brazil, Turkey or Argentina. The fund cannot backstop crises in emerging markets the way the Fed can backstop the crisis in the US.”

The fund has insisted it stands ready to get money quickly to countries that need it and is considering granting rapid access to richer and more stable emerging market countries via a “liquidity swap facility”. But this only means getting existing resources out of the door faster. Increasing the money at its disposal is harder. Japan has floated the idea of lending some of its foreign exchange reserves – perhaps as much as $200bn – to the IMF for use in rescues: experts say Tokyo appears to be concerned that countries such as China or Russia will gain foreign policy leverage by bilateral loans. Other potential solutions would include the IMF creating more Special Drawing Rights, an intergovernmental currency.

But the main obstacle to the IMF single-handedly saving the world is not technocratic but political. Its member governments are wary of handing over that much power to a single institution.

Mr Rogoff says: “The IMF is a necessary part of fixing problems in emerging markets, as it has the expertise that almost no one else does. But it doesn’t, and probably shouldn’t, have the resources to do it alone.”

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