The Agenda For IMF Reform

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The Agenda for IMF Reform

The world needs a strong and effective International Monetary Fund (IMF)
as the principal multilateral institution responsible for international eco­
nomic and financial stability. A consensus on the role of the Fund and the
scope of its activities in the 21st century is needed to achieve this objec­
tive. However, such a consensus does not exist today in official circles or
among private observers. In the view of many observers, the Fund has
failed to effectively exercise its intended role as steward of the interna­
tional monetary system. Consequently the IMF, once the preeminent in­
stitution of multilateral international financial cooperation, faces an iden­
tity crisis.
No single change by itself can restore the IMF to its prior position as a
highly respected international monetary institution. Effective reform of
the IMF must encompass many aspects of the IMF’s activities—where it
should become less as well as more involved. During the past decade, a
large number of changes in the international financial architecture and in
the IMF’s operations have been put in place. Those reforms have not been
sufficient to restore the IMF’s luster at the center of today’s international
monetary and international financial system.
Successful reform of the IMF must engage the full spectrum of its mem­
bers. The IMF should not focus primarily on its low-income members and
the challenges of global poverty. It should not focus exclusively on inter­
national financial crises affecting a small group of vulnerable emerging-
market economies. Instead, it must be engaged with each of its members
on the full range of their economic and financial policies. However, the
Fund should give priority attention to the policies of the 20 to 30 systemi­
cally important countries that impact the functioning of the global econ­
omy, including the policies of its wealthiest members that remain the prin­

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Box 1.1 Managing Director de Rato’s Report on the Fund’s
Medium-Term Strategy
On September 15, 2005, the IMF released Managing Director Rodrigo de Rato’s Re-
port on the Fund’s Medium-Term Strategy (IMF 2005k). The report draws on pre-
liminary discussions held at the time of the meeting of the International Monetary
and Financial Committee (IMFC) in April 2005, the work of an internal committee,
as well as inputs from the IMF’s Executive Board. Its self-description is a strategy
paper, not a five-year plan and not a reform agenda although that term has been
used to describe the document. The report views IMF reform as requiring an evo-
lution, not a revolution, at the Fund.
The report proposes globalization as its organizing principle: “Viewing the chal-
lenges through the lens of globalization holds the potential to prioritize the ele-
ments of the Fund’s well defined mandate in the macroeconomic area and to ad-
dress the criticisms of limited effectiveness, focus, and preparedness to face the
future.” It argues that 21st century globalization involving large cross-border capital
movements and abrupt shifts in comparative advantage has exposed gaps in the
work of the Fund with respect to surveillance, lending facilities, and governance.
The report lays out five key tasks responding to these new global conditions:

� make surveillance more effective,

� adapt to new challenges and needs in different member countries,

� help build institutions and capacity,


(box continues next page)

cipal drivers of the world economy and, therefore, are the source of the
greatest risk to global economic and financial stability.1

The Case for IMF Reform

Managing Director Rodrigo de Rato in his remarks to the Institute for


International Economics conference on IMF reform (chapter 3 of the con­
ference volume)2 states that the IMF is the “central institution of global

1. The systemically important countries include primarily the Group of Twenty (G-20) coun­
tries: the United States, the European Union as a group, Japan, Canada, and possibly one or
two other industrial countries; also Argentina, Brazil, China, Egypt, India, Indonesia, Korea,
Mexico, Nigeria, Russia, Saudi Arabia, South Africa, Turkey, and possibly a few other large
emerging-market countries. See also footnote 3.
2. In several places, this policy analysis cites chapters in the forthcoming conference vol­
ume, Reforming the IMF for the 21st Century, ed. Edwin M. Truman (2006, Institute for Inter­
national Economics).

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Box 1.1 (continued)
� prioritize and reorganize IMF work within a prudent medium-term budget, and

� address the governance issue of fair quotas and voice (representation) in the
Fund.

Against this background, the report discusses nine issues and proposes 31 ac-
tions or “deliverables” as next steps in the strategic review of the Fund by IMF man-
agement, the Executive Board, and member countries. Most proposed actions are
process oriented, a few involve reoriented research efforts, and a larger number
concern internal organization and management.
The report highlights four new proposals: intensified analysis of globalization,
including a possible new report on the macroeconomics of globalization; a re-
designed “contextually savvy” program of communication; a work program on is-
sues surrounding capital account liberalization; and the assessment of the achiev-
ability of the Millennium Development Goals with available financing.
In keeping with the theme of a strategic review, the managing director’s report
suggests that these initiatives might be financed by scaling back the Fund’s activ-
ities in five areas: a sharper delineation of the Fund’s role in low-income countries;
less time spent, in particular by the management and Executive Board, on proce-
dures and documentation; less work on standards and codes; less research in other
(unspecified) areas; and less spending on overhead and support activities, includ-
ing the possibility of more offshoring of information technology services.

monetary cooperation.” He suggests that the Fund can rest on its 60-year
history of accomplishments, but he also acknowledges the need for changes.
In fact, a few days earlier the IMF released a report by de Rato on the
Fund’s medium-term strategy (IMF 2005k; also box 1.1). In the report, de
Rato argues that the Fund is being pulled in too many directions and ac­
cumulating new mandates: “The question [is] whether the Fund is fully
prepared to meet the great macroeconomic challenges that lie ahead.” On
the other hand, he argues that the IMF’s principal power in meeting the
challenges of the 21st century is the soft power of persuasion. He im­
plicitly dismisses proposals that the Fund should use or develop other
instruments to carry out its mission. One detects little sense of urgency in
his remarks.
Remarks by US Under Secretary of the Treasury for International Af­
fairs Timothy Adams (chapter 4) convey a greater sense of potential insti­
tutional crisis than those of the IMF managing director. Adams declares
he is a “believer in the IMF . . . as a facilitator of international monetary
cooperation” but notes “the IMF now faces fresh, tough questions about

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its relevance” to the industrialized countries and to emerging-market
economies. The risk is that the IMF is becoming a development institution
focused primarily on its low-income members. To strengthen the Fund’s
relevance, Adams argues that it should concentrate on its core mission,
“international financial stability and balance of payments adjustment.”
The IMF needs to be “far more ambitious in its surveillance of exchange
rates” and by implication other macroeconomic policies. Noting that ex­
change rate surveillance is politically difficult, he states, “Nevertheless,
the perception that the IMF is asleep at the wheel on its most fundamen­
tal responsibility—exchange rate surveillance—is very unhealthy for the
institution and the international monetary system.” Adams concludes
that the medium-term strategy paper of the managing director represents
activity but adds that what the Fund needs is achievement and, “To
achieve, the IMF needs to refocus and deliver.”
Four international experts on the wrap-up panel at the Institute confer­
ence expressed an even greater urgency for IMF reform. Barry Eichen­
green (chapter 25) describes the Fund “as a rudderless ship adrift on a sea
of liquidity. On none of the key issues does the institution or its principal
shareholders have a clear, or a clearly articulated, position.” Mohamed El-
Erian (chapter 26) chooses different words but comes out in the same
place: The IMF is losing relevance, there is no simple solution, and what it
needs is a critical mass of reforms. Tommaso Padoa-Schioppa (chapter 27)
argues that the Fund has drifted from its core mission of ensuring sta­
bility and has lost leverage because for many countries international li­
quidity is no longer scarce. Finally, Yu Yongding (chapter 28), while more
reserved than the others, nevertheless agrees with C. Fred Bergsten (chap­
ter 13) that the Fund has become weak and ineffective.

The Content of IMF Reform

On the content of IMF reform, the managing director’s strategy document


(IMF 2005k) is frequently eloquent in its diagnosis of the issues. In argu­
ing for more effective surveillance, he calls for improvements in focus and
context, “less cover-the-waterfront reporting on economies, more incisive
analysis of specific weaknesses and distortions that risk crises and conta­
gion or hinder adjustment to globalization, and more active Fund en­
gagement in policy debates that shape public opinion and policy choices,”
including a revitalization of the IMF’s International Monetary and Finan­
cial Committee (IMFC), which meets twice a year at the ministerial level
and provides nonbinding guidance on IMF policies and activities.
On capital account liberalization, the managing director’s report per­
ceptively observes, “Financial globalization has both caused and been
caused by the liberalization of the capital account.” With respect to the
Fund’s role in addressing the many problems and challenges faced by

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low-income countries, he acknowledges “a consensus that the Fund
should remain engaged in these areas” but asks “how best to do so, and to
what degree?” Finally, with respect to governance, IMF quotas, and voice
in the institution, he notes, “The current allocation puts this legitimacy [of
the Fund as a universal institution] at risk in many regions. . . . In the view
of too many, governance and ownership imbalances in the Fund now rival
global current account imbalances. Neither imbalance is sustainable.”How-
ever, on none of these issues does Managing Director de Rato put forward,
or promise to put forward, concrete proposals. This lack of leadership is
most notable in the area of IMF governance, where there is widespread
agreement that actions are needed but no consensus about their content.
The communiqués of the IMFC, the Group of Seven (G-7), the Group of
Ten (G-10), and the Group of Twenty-Four (G-24) issued at the time of the
September 2005 IMF–World Bank annual meetings as well as the commu­
niqué of the Group of Twenty (G-20) issued in mid-October all welcome
the managing director’s report and look forward to specific proposals.3
Almost all individual pronouncements in September 2005 by IMF gov­
ernors and members of the IMFC emphasized the salience of the gover­
nance issues without suggesting any degree of consensus on appropriate
solutions. There is a similar lack of consensus on IMF policies with respect
to emerging-market economies. In addition, the managing director’s re­
port calls for a sharper delineation of the IMF’s involvement with the
Fund’s low-income members, implying a substantial reorientation and
scaling back of the financial and organizational resources devoted to the
Fund’s activities in this area, but the statements by finance ministers and
central bank governors suggest less than full comprehension of his impli­
cation. In support of a more expansive vision of the IMF’s role in low-
income countries is the report’s advocacy of intensified IMF involvement
in the building of institutions and capacity in low-income countries. Such
an increased emphasis would be likely to move the Fund into activities
beyond its traditional core competencies on fiscal, monetary, exchange
rate, and financial-sector policies; and IMF members may also underap­
preciate the implications of this suggestion.
The managing director’s strategy document barely mentions exchange
rates and omits entirely any discussion of the IMF’s responsibilities in

3. The G-7 comprises Canada, France, Germany, Italy, Japan, the United Kingdom, and the
United States. The G-10 grouping comprises the G-7 countries and also Belgium, the Neth­
erlands, Sweden, and Switzerland. The G-24—formally the Intergovernmental Group of
Twenty-Four on International Monetary Affairs and Development—comprises representa­
tives of 24 Asian, African, Latin American, and Middle Eastern countries plus observers. The
industrial-country members of the G-20 are the G-7 countries, Australia, and the country
holding the EU presidency when not a European G-7 country; the nonindustrial-country
members are Argentina, Brazil, China, India, Indonesia, Korea, Mexico, Russia, Saudi Ara­
bia, South Africa, and Turkey.

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this area; officials noted this omission in a number of statements at the
time of the IMF–World Bank annual meetings. With respect to reports on
“surveillance-only cases” of advanced and/or systemically important
countries, the strategy document advocates discussing reasons why the
Fund’s advice is not accepted and what adaptations might deal with such
concerns. A number of official commentators noted that this approach
might usefully be applied to all members. A few also noted the omission
of a broad treatment in the report of the IMF’s lending activities aside
from the mention of a few proposals that are under discussion and the
controversial issue of the IMF’s role in crisis resolution. Finally, although
most officials have welcomed and praised the managing director’s report,
a few have commented that it lacks ambition or fails to recognize what
one finance minister identifies as a need for organizational and cultural
change in the institution.
Michel Camdessus (2005) evoked several noteworthy contrasts when
he delivered the Per Jacobsson Foundation lecture two days after the In­
stitute conference on IMF reform. Perhaps because he was liberated from
the constraints of his former position as managing director, Camdessus
presented a more comprehensive and provocative reform agenda cover­
ing the IMF’s mission, its human and financial resources, and its gover­
nance; see box 1.2. He went beyond de Rato’s strategy paper in arguing
that the Fund should propose a bold initiative in the area of global im­
balances such as organizing a new Plaza or Louvre agreement although,
of course, the IMF was on the sidelines at those events. He said the IMF
is and should be equipped to be an international lender of last resort and
should expand its provision of financing to low-income members.
Camdessus also advocated the introduction of population into the for­
mula used to guide negotiations on the distribution of IMF quotas, and
he called for a consolidated European chair in a smaller Executive Board.
In an area not addressed by de Rato at all, Camdessus argued that the
Fund should have significant periodic increases in its quota resources
and should positively consider the resumption of allocations of special
drawing rights (SDR).

An IMF Reform Package

The Institute’s conference on IMF reform did not attempt to reach con­
sensus on an IMF reform agenda. However, the elements of an overall strat­
egy emerge from the conference and contemporaneous developments.
A critical mass of reforms should encompass six components: governance,
policies of systemically important countries, the central role of the Fund
in external financial crises, refocused engagement with low-income coun­
tries, increased attention to capital account and financial-sector issues,
and the case for additional financial resources.

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Box 1.2 Michel Camdessus’s reform agenda
Michel Camdessus (2005) gave the Per Jacobsson Lecture on September 25, 2005.
He identified two key challenges for the IMF, on which he focused most of his at-
tention, and for the other international financial institutions (IFIs) over the next 15
years: helping emerging-market countries advance more rapidly and helping the
poorest countries reduce poverty. To meet these challenges, he laid out a three-
part reform agenda for the IFIs: mission, human and financial resources, and gov-
ernance. In the course of his remarks he put forward 20 separate proposals for IMF
reform.
Under the heading of the IMF’s mission, Camdessus called for strengthening
surveillance and proposed reinforcing the IMF’s message, in particular for the
major countries, by submitting the preliminary conclusions of staff missions to a
broader public debate within countries before the Executive Board reviews them.
He argued for paying more attention to structural rigidities (including those in
labor markets), demographic developments, and large accumulations of interna-
tional reserves. He advocated a “bold initiative” by the IMF to deal with payments
imbalances by structuring a cooperative effort along the lines of the Plaza (1985)
and Louvre (1987) agreements, but this time with the IMF—not the G-7 or the
G-20—at the center of the process.
With respect to mission, Camdessus proposed revisiting the issue of orderly
capital account liberalization to learn the lessons of previous experience. Acknowl-
edging that this process would take time, he argued that, in order to promote the
process of capital account liberalization, the IMF should have the same kind of ju-
risdiction over the capital account transactions that it has over current account
transactions. He belittled the Asian countries’ experience with capital controls dur-
ing the Asian financial crisis and warned against using controls to buy time as a
substitute for the right policies. He argued that controls promote distortions and
corruption and tend to favor the rich over the poor.
In the area of debt workouts, Camdessus proposed renewing the debate about
a sovereign debt restructuring mechanism or its equivalent, with the essential fea-
ture that the IMF should be in the center of its design and operation. He argued
that the globalized financial system needs a lender of last resort and said the IMF
is equipped to play this role. He proposed confirming the Fund in this role. He also
advocated equipping the IMF with the authority to create special drawing rights
(SDR) on a contingency basis to deal with global liquidity squeezes; countries not
caught up in the squeeze would advance their allocations of SDR to the Fund for
its use in conditional lending programs.
Finally, under the heading of mission, he proposed fighting corruption by in-
troducing ethical requirements into the education of future business and official
(box continues next page)

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Box 1.2 Michel Camdessus’s reform agenda (continued)
leaders. He also argued it is essential for the IMF to support its poorest members
by increasing their access to concessional financing from the IMF, improving the
provision of financing to countries in postconflict situations or after economic
shocks, and focusing the attention of the IMF and other IFIs on the scale of the an-
nual transfer of real resources to the poorest countries.1
Under the heading of human and financial resources, Camdessus proposed ex-
panding staff resources to equip the Fund properly to carry out new responsibili-
ties for global financial stability and the oversight of financial markets and to re-
duce the “cloning syndrome” in IMF recruiting efforts by seeking staff with broader
skills (outside of economics) and experience (inside of national governments). He
strongly rejected the view that IMF quota resources are taxpayers’ money and pro-
posed significant periodic increases in quotas and a less doctrinaire attitude
against allocations of SDR.
Under the heading of governance, Camdessus argued that “the legitimacy
of the Bretton Woods Institutions is increasingly questioned” and advocated the
creation of the decision-making council provided for in the IMF Articles of Agree-
ment to give political guidance to the Fund alongside the technical guidance pro-
vided by the Executive Board. He would replace not only the consultative Interna-
tional Monetary and Financial Committee but also the “G-10, G-20, and other Gs,”
thus implying the G-7. With respect to voting shares and the Executive Board itself,
he proposed introducing population into the quota formula, a single European
chair with multiple alternates in the Executive Board, and a parallel consolidation of
other chairs to produce a smaller and higher-caliber board. He noted that these
steps would take time and argued that the Europeans should take the lead to put
them in motion. With respect to the choice of management, he supported re-
nouncing the special US and European roles in the selection processes for the heads
of the Fund and the World Bank: The processes should be open and competitive.
Finally, he proposed that the annual G-8 leaders’ meetings should be coupled
each year with an extended meeting with leaders of the countries on the new
council and presumably in the meantime with the leaders of the countries that are
members of the IMFC, which would create a global governance group with more
legitimacy than today’s G-8 or G-20. He added one proviso: The meetings should
be prepared by the IFIs and also should be attended by the UN secretary general
and the heads of other relevant multilateral organizations.

1. The transfer of real resources to a country is conventionally defined as net long-term cap-
ital inflows plus net foreign direct and portfolio equity investment inflows plus grants minus
associated net interest or income payments deflated by a relevant price index such as the
country’s export price index.

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Substantial Progress on IMF Governance

Substantial progress on IMF governance is crucial to enhancing the Fund’s


legitimacy and restoring trust in the institution by the vast majority of
member countries. Although there is widespread agreement on the need
for progress on this component of IMF reform, there has been no move­
ment to date. Action is needed in three areas: representation on the IMF
Executive Board, realignment of IMF voting shares, and with somewhat
less immediacy procedures to choose IMF management. Without concrete
steps at least in the first two of these areas, all other efforts to reform and
refurbish the IMF will be useless because the necessary broad interna­
tional support for the Fund will wither away. The institution will become
irrelevant to the promotion of global economic and financial stability.
On representation on the IMF Executive Board, the European Union
should declare its intention over time to consolidate its representation
into a single seat or at most two (one for euro area and one for non–euro
area members of the European Union). To demonstrate the EU commit­
ment to this objective, in the election of executive directors in the fall of
2006, Ireland, Poland, and Spain should agree to join EU-majority con­
stituencies. This action would reduce the number of EU executive direc­
tors and alternate executive directors to a maximum of seven each, and it
would free up two or three such seats for representatives from non-EU
countries. In the election in the fall of 2008, the number of EU-majority
seats should be reduced from seven to five—three appointed and two
elected executive directors—freeing up two new constituencies and two
more positions as executive directors and alternate executive directors, re­
spectively. By 2010, EU representation should be reduced to two seats,
with full consolidation coming at the point when the euro area encom­
passes the same group of countries as the European Union.
The United States has leverage over this process because an 85 percent
majority vote is required prior to each biennial election of executive di­
rectors to prevent a contraction of the size of the Executive Board to 20
seats from the current 24 seats. Thus, the United States with 17 percent of
the votes can block the continuation of the status quo. In chapter 9 of the
conference volume, I caution that the United States should deploy this
leverage very carefully, in part to ensure the continued representation of
the 43 countries that are members of the four smallest constituencies in
terms of voting share.4
Second, IMF voting shares must be substantially realigned to recognize
better the economic and financial weight of key emerging-market coun­
tries in the global economy. It is not sustainable that the policies of the

4. The four smallest constituencies by size currently are represented by executive directors
from Brazil, India, Argentina, and Equatorial Guinea.

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IMF are determined principally by the votes of those countries that no
longer need to borrow from the Fund when other countries, which may
need to borrow from the institution, are positioned to provide financial
support to its lending activities and should have more say over policies
affecting those activities. The 24 traditional industrial countries, which
never again are likely to need to borrow from the IMF, currently hold 60.3
percent of the votes in the institution. The other members are 22 emerging-
market countries, as classified in chapter 2 of this policy analysis, with 20.4
percent of the votes, which may need to borrow from the IMF but can also
supply significant financial resources to the Fund, and 138 other develop­
ing countries with 19.3 percent of the votes. The issue of voting shares in­
volves principally reducing the combined share of the industrial countries
by 10 or more percentage points and increasing the share of the emerging-
market countries as a group.5
A possible interim solution to the quota and voting-share issue may lie
in a combination of small ad hoc increases in a few countries’ quotas in
addition to small voluntary reallocations of quotas without an overall in­
crease in the size of the Fund, thus avoiding a need to increase total quo­
tas. A limited reduction in the US quota and voting share by less than one
percentage point as a consequence of ad hoc quota increases in individual
quotas plus an agreement by Canada, Japan, and the major European
countries to reallocate portions of their existing quotas might free up a
total of 4 percentage points of total quotas for reallocation. That amount
could be distributed to the six large non-European countries with quotas
that, although they are now in the top 30 in terms of size, have the largest
proportional discrepancies (greater than 30 percent) between calculated
and actual quota shares.6 The six countries are Singapore, Korea, Malaysia,
Thailand, China, and Mexico, in decreasing order of their percentage dis-
crepancies.7 As a result, the average percentage discrepancy for this group
would be reduced from more than 100 percent to approximately 35 per­
cent. Such an approach, however, would leave five discrepancies of more
than 30 percent between calculated and actual quota shares within the EU
group—Denmark, Ireland, Luxembourg, Spain, and potentially Turkey.
Thus, the Europeans would come under internal pressure to negotiate
some rebalancing within their nascent group even as they converge to­
ward a single quota.
Such an interim solution even in the unlikely event that it could be ne­
gotiated would be viewed as inadequate by those countries that advocate

5. Reform of voting shares also involves rectifying some of the distortions that have devel­
oped in voting shares within these groups of countries.
6. Calculated quota shares are derived from formulas that have been used in the past to guide
quota negotiations. The estimates presented in this paragraph are based on IMF (2004g).
7. The order of absolute discrepancies is Singapore, China, Korea, Mexico, Malaysia, and
Thailand.

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an overhaul of the quota formula and a fundamental redistribution of
quota shares along with rearranging chairs on the IMF Executive Board.8
Thus, a redistribution of voting shares in the IMF by a few percentage
points via ad hoc adjustments or reallocation of quotas is unlikely to pass
the test of credibility.
On the other hand, as I argue in chapter 9 of the conference volume, the
time is not ripe for the United States to reduce its voting share signifi­
cantly from its current 17 percent to less than 15 percent and give up vol­
untarily its capacity to block (veto) a few key decisions affecting the IMF
as an institution. The United States, in particular the US Congress, lacks
the confidence that other members of the Fund would step into the lead­
ership vacuum that this would create. The risk would be a further US
withdrawal from multilateralism.
It follows that a more comprehensive approach is needed. At a mini­
mum, the Europeans would have to agree to give up a much larger share
of their present collective quotas—at least six percentage points—based
on the logic that membership in the European Monetary Union (EMU) re­
duces the theoretical need for EMU members and, in particular, countries
that also are members of the euro area to borrow from the Fund. Alter­
natively and preferably, substantial adjustments in quota shares should
occur across the board in the context of an increase in the overall size of
the Fund of at least 50 percent, with the large emerging-market countries
contributing the bulk of the new resources. This should be part of at least
two steps of successive increases in total quotas that would be directed at
achieving parity in the voting shares of the European Union and the
United States.
This reallocation of quota shares in the context of successive increases
in the overall size of the Fund would be aided by agreement upon a new
simplified quota formula for use in guiding the process of adjustment.
Agreement on a new quota formula is desirable. It is not essential. Deci­
sions on the allocation of quota shares are essentially political. In light
of this fact and because the G-20 includes most of the key countries, the
G-20 should take the lead in this political process, including the negotia­
tion of a revised, simplified quota formula. Optimists can take some com­
fort from the fact that the G-20 meeting in mid-October 2005 agreed on the
need for “concrete progress” on quota reform by the time of the annual
meetings in September 2006 and suggested that the G-20 itself would seek
to identify principles that could be used in the 13th general review of quo­
tas to be completed by January 2008.

8. The combined calculated quota share of the EU countries as a group is estimated as five
and one-half percentage points higher than their actual combined share today. Moreover, the
hypothetical four percentage points in downward adjustment in the combined quota share
of the United States, Europe, Canada, and Japan would be about half as large as implied by
Lorenzo Bini Smaghi (chapter 10 of the conference volume) and less than one-third of the ad­
justment that I consider in chapter 9.

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Third, on the somewhat less pressing issue of procedures for choosing
the IMF’s management, the United States and the Europeans at last should
recognize that their claims that only their citizens may be in the pool of po­
tential leaders for the IMF and World Bank lack credibility and undermine
the legitimacy of the Bretton Woods institutions. They should propose
agreement in the IMFC and Development Committee, or by resolutions
adopted by the boards of governors of the IMF and World Bank, on open
and transparent procedures to pick the next managing director of the IMF
and the next president of the World Bank (Kahler 2001; chapter 11 of the
conference volume). The procedures should encompass (1) dropping the
convention that the president of the World Bank should be a US citizen,
that the IMF managing director should be a European, and that the first
deputy managing director of the IMF should be a US citizen; (2) develop­
ing a list of requirements for the positions; (3) assembling a short list of
candidates, possibly including internal candidates; and (4) putting in place
an open vetting process.9 The new procedures also should include princi­
ples for use in reviewing the performance of the incumbents as heads of
the IMF and World Bank should they wish to be reelected for second terms
in 2009 and 2010.
Finally, as in the past, the IMF in the future will need to be steered by a
dedicated group of its most important members. This is a practical reality.
However, the G-7 is no longer the appropriate steering committee for the
world economy. It should be replaced by the G-20, preferably transformed
into a Finance 16 (F-16)—the G-20 with a single EU seat—as advocated by
C. Fred Bergsten (chapter 13). It is essential, in this regard, that IMF man­
agement and senior staff stop resisting the emergence of the G-20/F-16 as
the steering committee for the world economy, which includes the IMF as
one of its major institutions.

Policies of Systemically Important Members

Today the IMF is behind the curve on the central issue of the first decade
of the 21st century: promoting macroeconomic and exchange rate adjust­
ments. Moreover, the benign economic and financial conditions that have
sustained those imbalances during the past few years are unlikely to per­
sist. Unless the IMF as an institution can more effectively discharge its
responsibilities for the identification and resolution of global imbalances
and other systemic threats to global prosperity, it will become increas­
ingly ignored. The performance of the global economy and financial sys­
tem will suffer.

9. In this area of institutional governance, the IMF and World Bank lag substantially behind
the World Trade Organization, the Organization for Economic Cooperation and Develop­
ment, and UN agencies such as the United Nations Development Program in implementing
more transparent leadership selection procedures.

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The IMF must assert its role as a global umpire as well as develop
stronger means to increase its leverage over the macroeconomic policies
of systemically important countries. In its efforts to influence these coun­
tries’ policies, the IMF management and staff should start with sound
analysis and quiet persuasion. However, the Fund must employ more
than those limited, though essential, tools. This component of IMF reform
should include four elements.
First, the Fund should introduce into its consultations with systemically
important countries an element of “naming and shaming” of specific coun­
tries. Article IV reviews of those countries’ policies should be more pre­
cise about the measures that those countries should adopt to improve
their economic performance and contribute to global economic and fi­
nancial stability. For example, the IMF should not merely recommend that
the United States reduce its budget deficit but also state by how much and
over what time horizon. Similarly, the IMF should not only suggest that
countries adopt more flexible exchange rate regimes when in fact their
currencies should appreciate in effective terms but also state by how
much they should appreciate. In addition, Article IV reviews should in­
clude sections on why the systemically important countries have not ac­
cepted the IMF’s previous advice.10 For the systemically important coun­
tries, all IMF surveillance and review documents should be made public.
Second, the IMF needs to establish an overall framework for its sur­
veillance activities with respect to systemically important countries. To
this end, the IMF should implement unilaterally a scaled-back version of
the Williamson (chapter 6) proposal to use reference exchange rates to
guide its surveillance activities. The reference exchange rates would be
based on macroeconomic policies that are consistent with the achieve­
ment of external and internal balance in each of the countries. Absent an
immediate buy-in by the relevant countries to Williamson’s full proposal
to use reference exchange rates to guide judgments on intervention poli­
cies and on the appropriateness of countries’ macroeconomic and finan­
cial policies, the IMF management and staff should develop and publicize
its own set of reference exchange rates. This initiative should not be ex­
cessively challenging because at least until recently IMF staff regularly
produced similar reports and presented them to the IMF Executive Board.
Third, the Fund should embrace Morris Goldstein’s triad of proposals
(chapter 5): (1) issue a semiannual report on the exchange rate policies of
members that should be based on the reference exchange-rate framework
described above; (2) make more frequent use of its existing powers to con­
duct special or ad hoc consultations on members’ exchange rate policies;
and (3) review its existing guidelines for surveillance over members’ ex­
change rate policies to see whether they need to be clarified or updated.

10. Managing Director de Rato (IMF 2005k) made a similar proposal for the advanced or in­
dustrial countries; it should be applied to all systemically important countries.

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Fourth, as a bold initiative to implement the second Goldstein proposal,
the IMF should embark upon a collective consultation with the major
Asian economies as a group—including at least China, Hong Kong, India,
Japan, Korea, Malaysia, Singapore, Thailand, and on an informal basis
Taiwan—about their macroeconomic and exchange rate policies. Each of
these countries follows, or has followed in the recent past, a policy of heav­
ily managing its exchange rate vis-à-vis the US dollar. The IMF (2005m)
estimates a collective 2005 current account surplus of $215 billion for these
countries or almost one-third of the IMF’s estimate of the US current ac­
count deficit. Individually, the leaders of each economy look closely at
their Asian neighbor’s policies when setting their own exchange rate pol­
icy. Thus, modifications in the policies of these countries as a group are at
the core of the resolution of global macroeconomic imbalances.

Central Role of the Fund in External Financial Crises

The IMF remains bedeviled by philosophical disputes about the scale and
scope of its lending activities. These disputes distract the institution from
its role as the global lender of final resort. This component of the IMF re­
form agenda should include three elements.
First, members of the Fund should reaffirm the central role of the IMF in
international financial crises, including through its potentially large-scale
lending activities. Unless the IMF distances itself from ideological preoc­
cupations with excessive crisis lending and moral hazard concerns, the
Fund will go into eclipse as an international crisis lender and the interna­
tional community will lose its leverage over antisocial national economic
policies.11 Note that if the quota shares of the large emerging-market coun­
tries are increased as advocated in my agenda, those countries will be sup­
plying the bulk of the additional financial resources for the IMF to lend.
This shift in responsibility would be consistent with the original intent of
the revolving character of IMF resources.
Second, in cases requiring debt restructurings, in particular those in­
volving a sovereign default to private creditors, the Fund should embrace
the proposal by William Cline (chapter 14 of the conference volume). To

11. Observers and critics from European countries, in particular, fail to recognize the impli­
cations of a world that differs from when their countries faced balance of payments crises in
the early 1950s through the middle of the 1970s. Those countries during that period received
large amounts of financial support from the IMF often supplemented by special bilateral fi­
nancial arrangements even in the context of the protection offered by their capital controls.
No one raised a peep about moral hazard at that time. Today, no sensible observer or critic
advocates returning to a world of comprehensive capital controls. As a consequence, the po­
tential need for the IMF as a lender of final resort has increased, not decreased.

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guide the debt renegotiation process, the IMF should establish and publi­
cize its estimates of high, central, and low “resource envelopes” for the
country. Such resource envelopes would indicate the amounts of financial
resources the country could reasonably be expected to devote to external
debt service, under a range of assumptions about external conditions and
the country’s policies, in order to achieve a sustainable trajectory for ser­
vicing the country’s debts.
If at the request of the member country the Fund’s involvement with
the debt renegotiation process stops there, the international financial com­
munity should be informed. At that point, the IMF additionally should be
required to tell the borrower the parameters of a proposal for debt re­
structuring that is not only sustainable but also comprehensive in that it
is likely to be embraced by a very high proportion of the country’s exter­
nal creditors. Preferably, all countries should welcome the IMF’s central
involvement in sovereign debt negotiations because the Fund is posi­
tioned to provide a public good in the form of coordination in the face of
a market failure of coordination and uncertain amounts of asymmetric in­
formation. In complicated cases, neither the country (nor its advisers) nor
its private creditors are in a position to supply unbiased information. The
Fund should play this coordination role regardless of how extensive and
detailed a code of conduct the parties may have accepted in advance to
govern their financial relationships.
In the post-2001 Argentine case, none of the above procedures was in
place. Therefore, it is appropriate that the IMF review and clarify its pol­
icy on lending to a member that is not maintaining its debt-service pay­
ments to its external private creditors—IMF lending into arrears—to pro­
vide clearer guidance to members and markets.
Third, with respect to new facilities, the IMF (management and mem­
bers) should keep an open mind. Tito Cordella and Eduardo Levy Yeyati
(chapter 17) propose a country insurance facility in the IMF for which a
member would prequalify and receive automatic access to an adequate
amount of finance to deal with an external financial crisis without requir­
ing major changes in its fiscal stance. Using their tight parameterization,
this facility will make only a marginal contribution to dealing with pre­
sumptive liquidity crises. That fact should not preclude experimentation
with such mechanisms in the spirit of modernizing the IMF for the 21st
century.
In addition, the facility proposed by Michael Mussa (chapter 21) to re­
schedule IMF claims in exceptional and well-defined cases should be es­
tablished. This proposal should be implemented before the global eco­
nomic and financial environment becomes less benign than it has been for
the past three years and before the next Argentine type of case develops,
for example in connection with Indonesia, Turkey, or Uruguay—three
representative countries with sizable outstanding liabilities to the IMF
and substantial sovereign and external debt ratios.

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Refocused Engagement with Low-Income Members
Poverty reduction in all its dimensions, from raising standards of living to
defeating the scourge of disease, is one of the major challenges of the 21st
century. However, it does not follow from this fact that the IMF should be
transformed into a relatively ill-equipped development finance institu­
tion as some of its caring but less thoughtful members appear to advocate.
The IMF’s mission is to promote maximum sustainable global growth and
financial stability. If it is successful, the Fund’s low-income members will
benefit more than any other group. Low-income members, when they
face short-term balance of payments problems, also should receive tem­
porary financial assistance from the Fund, possibly on subsidized terms.
However, the Fund should be selective and focused in its engagement
with its low-income members, ready to assist them in areas of its com­
parative advantage, reluctant to add to their debts, and respectful of the
skills and opportunities offered by institutions centrally involved with de­
velopment issues. The Fund cannot successfully be all things to all coun­
tries; that violates the law of comparative advantage. It is important that
the Fund’s members and management recognize its limitations.
Moving forward on this component of IMF reform will not be easy al­
though hints at a convergence of views are encouraging. Political leaders
in low-income countries want all the financial assistance they can get. How­
ever, some of those leaders now recognize that too much help can create
distractions and policy overload. This critique is implicit in Steven Rade-
let’s review (chapter 20) of the IMF’s engagement with poststabilization,
low-income countries. Political leaders in traditional donor countries, in
particular finance ministers, trust the Fund and value the soundness of
IMF policy advice more than the advice of the traditional development in­
stitutions; they also have greater confidence that the Fund is more circum­
spect in its disbursements. Moreover, political leaders in many member
countries other than the low-income countries point to their own develop­
ment and poverty problems that tend to be neglected, as discussed by
Kemal Derviş and Nancy Birdsall (chapter 16).
The answer to the question of the appropriate depth of IMF involve­
ment with its low-income members lies in partnership and a thoughtful
division of labor, in particular, between the Fund and the World Bank.
IMF Managing Director de Rato and World Bank President Paul Wolfo­
witz have committed themselves to yet another attempt to establish a
framework for cooperation across Northwest Washington’s 19th Street.
The first step is to recognize that all past efforts have been halfhearted
and failed. The Fund is perceived by the Bank as an organization popu­
lated by know-it-all elitists, and the Bank is perceived by the Fund as
an organization populated by uncoordinated do-gooders, each with a
personal solution to the multiple challenges of development but with no
appreciation of budget constraints—financial, political, or administrative.

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Both perceptions contain kernels of truth. Thus, the Fund should develop
a culture that says the Bank is better than we are in many important areas
and vice versa.
A concrete action for the IMF reform agenda is the Radelet proposal
(chapter 20) that the World Bank invite the Fund to provide the assess­
ments of members’ macroeconomic policies in the Bank’s Country Policy
and Institutional Assessment (CPIA) system.12 This proposal could be
built on by requiring that all World Bank loan documents include IMF
assessments of the member’s macroeconomic policies and debt-service
capacity. On the other side, no longer should negative staff assessments
along with their implicit endorsement by the IMF executive directors be
sufficient to block substantial access to World Bank and regional develop­
ment bank resources. Finally, the members of the IMF should reject Man­
aging Director de Rato’s suggestion that the IMF should become more
actively involved in institution building; this is an area where the IMF
generally does not have a comparative advantage.
If the IMF were to refocus its engagement with low-income countries on
its core areas of comparative advantage—policy advice on macroeconomic
and financial policies, surveillance, and temporary balance of payments
assistance—the result would be a substantial reduction in lending through
the IMF to these countries.13 Lending to countries eligible for Poverty Re­
duction and Growth Facility (PRGF) programs will be reduced in any case.
At least 18 countries will have 100 percent of their debts to the IMF writ­
ten off, and those countries should not be eligible for new IMF loans in the
immediate future. Another group of the low-income countries can be ex­
pected to take advantage of the new Policy Support Instrument, which in­
volves IMF support for a country’s policies but no commitment to lend to
it. Finally, if the members of the IMF also were to embrace Managing Di­
rector de Rato’s call for a substantial cutback in IMF involvement in the de­
velopment of Poverty Reduction Strategy Papers, the net result would be
a substantial scaling back of PRGF-type activities and the de facto transfer
of many of those activities to the World Bank.

Attention to the Capital Account and the Financial Sector

Capital account and financial-sector issues are central to the IMF’s role in
the 21st century. Technology, demography, and policy have converged to

12. The CPIA system is the World Bank’s internal mechanism used to provide guidance on
the scale of its lending to individual members. In the past, countries’ performances have
been grouped by quintile and published. Starting in 2006, the individual country assess­
ments will be made public.
13. Today, most IMF lending to low-income countries eligible for Poverty Reduction and
Growth Facility programs involves resources that have been lent voluntarily to the IMF, not
its own quota-based resources.

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stimulate and release unprecedented global flows of capital. These inter­
national forces mirror and build upon comparable developments within
countries.
As a component of the IMF reform agenda, members should exploit an
emerging consensus and upgrade the IMF’s capacity to provide policy ad­
vice and analysis on members’ external and internal financial sectors. IMF
advice should not be limited to destination countries, in part because many
of those countries increasingly are also source countries and in particular
because the principal source countries need advice as well (Williamson
2005).
An amendment of the IMF Articles of Agreement to establish and clar­
ify the IMF’s role with respect to the capital account is not essential at this
time; the Fund can do its job without one. On the other hand, IMF mem­
bers should accept, at least implicitly, that full capital account liberaliza­
tion is an appropriate long-run objective for all member countries. The
consensus on this proposition is greater today than was the consensus in
1944 favoring current account liberalization. An amendment to clean up
the IMF Articles can wait until this consensus is more widely recognized
and embraced. Meanwhile, the IMF should shape its policies and exper­
tise accordingly.
Finally, consistent with the principle of comparative advantage, the
IMF should scale back its role in providing advice and technical assistance
to its members on financial-sector issues and transfer much of this ac­
tivity to the World Bank following the formula sketched out above for
macroeconomic policy assessments for World Bank borrowers. Under this
model, the Fund would concentrate on financial-sector assessments and
analyses of the vulnerability of its members to financial-sector weak­
nesses and shocks such as those faced by East Asian countries in the late
1990s: excessive reliance on short-term capital inflows, inadequate atten­
tion to currency mismatches, and weak financial-sector supervision. The
IMF should leave most technical assistance in this area to the World Bank
with two exceptions: first a country receiving IMF financial support and
where the technical assistance directly contributes to the achievement of
the program’s objectives, and second, a specific request as a result of a
surveillance recommendation.
The report of the McDonough Group (IMF 2005l), formally known as the
Review Group on the Organization of Financial Sector and Capital Markets
Work at the Fund, reportedly does not consider this option for reforming
the Fund’s work on the financial sector. The McDonough Group did not talk
with the Bank. On the other hand, Managing Director de Rato is right (IMF
2005k; chapter 3 of the conference volume) to point to the need to refocus
the Fund on financial-sector analysis as its key contribution to interna­
tional financial stability in the 21st century. In this respect, the McDonough
Group’s report apparently makes clear that the Fund has a long way to go
if it is to be effective. Reform must start at the leadership level.

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Additional Financial Resources
The IMF will not need additional financial resources in 2006. However,
IMF credit outstanding to all members increased by more than 50 percent
from the end of 2000 through the end of 2003—a period of global reces­
sion. Credit to its emerging-market members in May 2005 was still more
than 20 percent above the level at the end of 2000 despite overwhelmingly
benign economic and financial conditions during the past two years that
have facilitated large net repayments to the Fund. Wise observers caution
that those benign conditions are coming to an end, and the demand for
external financial support from the IMF is likely to rise.
Statements by US officials and officials of many other industrial coun­
tries that the IMF does not now need additional financing convey the
implicit message that the IMF will never need (or deserve) additional fi­
nancing. That message is wrong. It was right to increase the IMF’s finan­
cial resources in 1998; IMF credit outstanding increased by one-third dur­
ing the subsequent five fiscal years. Moreover, nothing in the scale of the
improvements of the global economic and financial system during the
past decade supports an abrupt decline in the scale of IMF financing rel­
ative to the nominal expansion of the world economy and financial sys­
tem; see table 6.1 and the associated discussion in chapter 6 of this policy
analysis.
When messages about expanding IMF resources are couched in the lan­
guage of domestic budgetary debates—the way to close down programs
is to starve the beasts of financial support—they are further debilitating
to the Fund and to perceptions of its role in the global financial system.
Officials of industrial countries should modify their messages, state that
they will support an increase in IMF quotas when the case is made, ac­
knowledge that the case may well be made before January 2008 when the
13th review of IMF quotas is scheduled to be completed, and start to lay
the groundwork with their parliaments for an increase in IMF quotas at
some point during the next three to five years. As noted above in connec­
tion with the issue of IMF governance, a decision in early 2008 to increase
IMF quotas might well be essential to achieving substantial progress on
that component of IMF reform.
In the meantime, the IMF should put in place a mechanism so it can
borrow from the private market as a temporary supplement to its quota
resources as supported by Desmond Lachman (chapter 23). The IMF has
this power without an amendment to its Articles of Agreement. A debate
on this issue should proceed in parallel with a serious discussion about
how to provide the Fund with a stable source of income to finance its non-
lending activities. The IMF’s expanding nonlending activities are financed
principally from its lending operations, which appear to be on a down­
trend and, in any case, are cyclical in nature. This important issue is dis­
cussed by Mohamed El-Erian (chapter 26).

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Final Comments

The first three components of the six-part agenda for IMF reform offered
here—governance, systemically important countries, and external financial
crises—are time critical. Concrete progress on IMF governance is necessary
to underpin the relevance of the IMF’s role with respect to the second two
components. The last three—low-income countries, the capital account and
financial sector, and IMF resources—are less time critical because, unless
the triad of principal components is successfully confronted, how the IMF
performs on the other components will not matter. The IMF will become an
ill-equipped development institution, offering advice of limited global rel­
evance and without the need to supplement its financial resources because,
in effect, it will be in the business of administering grants to low-income
countries to support macroeconomic policy adjustments.
Reforming the IMF to enable it to discharge its core mission of promot­
ing international economic growth and financial stability in the 21st cen­
tury is urgent if the Fund is not going to sink into irrelevance. No one can
predict accurately the tipping point at which the IMF loses the support of
its 20 to 30 systemically most important members and thereby loses its
capacity to provide financing to those countries if they should need fi­
nancial support, or to support their other global economic and financial
objectives even if they should not. However, at some point—and on the
present trajectory I suspect that point is not too distant—enough IMF
members will conclude that the institution as currently constituted is not
sufficiently relevant to their national interests, and they will cease to sup­
port the Fund and its provision of international public goods.
Therefore, the IMF needs a proactive reform agenda, an agenda with
more precision and promise than that put forward by Managing Director
de Rato. The agenda must contain a critical mass of reforms covering the
six components listed in this chapter. It must address the interests of all
members. It must be a package that provides something for each country
even if each country does not get everything it wants and has to swallow
some elements it would prefer to leave out.
The agenda outlined above does not require an amendment to the IMF
Articles of Agreement at this time or in the next few years. On the other
hand, if over the next year or two a consensus emerges to increase IMF
quotas in 2008 and, much more important, if agreement can be reached
on a more ambitious reform package than the one sketched out here, a
fifth amendment of the IMF Articles of Agreement might be part of that
package.14

14. The fifth amendment might include (1) an increase in basic votes, discussed in chapter 4
of this policy analysis, (2) authorization for special, temporary SDR allocations to help the
IMF deal with external financial crises, discussed by Lachman (chapter 23 of the conference
volume), (3) adjustments in the provisions of the current Articles to facilitate the consolida­

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The rationale for the proposed agenda for IMF reform is to create a bet­
ter Fund to better serve the global community. The Fund needs reforming,
and the management of the Fund recognizes that fact. However, IMF
member governments must commit the necessary political capital to make
IMF reform a reality.

tion of EU representation in the IMF, which I discuss in chapter 9, even though substantial
if not total consolidation of EU representation could be accomplished without an amend­
ment, and (4) establishing a framework for IMF membership and relations with regional
monetary arrangements, discussed by C. Randall Henning (chapter 7). Presumably such an
expanded package would include a commitment from the US government to push for pas­
sage of the Fourth Amendment of the Articles authorizing a special, one-time allocation of
SDR principally to those members, including Russia and most of the former Soviet Union
and Eastern Europe, that were not members of the IMF in 1970–72 or 1979–81 when SDR
were allocated. The United States promoted the amendment, 131 members of the IMF with
77 percent of the weighted votes have ratified it, and the IMFC routinely calls for the com­
pletion of the ratification process, which cannot happen without US action.

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