The Hindu Business Line : IMF grappling with fiscal woes

With the IMF’s revenue source drying up and expenses mounting, the G7, and especially the US, have called for “serious review of the Fund’s activities and consolidation of its spending”. Among the suggestions were a reduction in the number of board members and several other cost-cutting measures. Ignored, however, is the issue of its larger role in a globalising economy, says K. SUBRAMANIAN

The IMF Managing Director, Mr Dominique Strauss-Kahn… Continuing with cost-cutting efforts without hope of resolving the larger issues of its role.

The economists of the IMF are old hands at seizing and resolving the fiscal woes of developing countries. For decades they have advised fiscal restraint, especially deep job cuts in governments.

It should have been shocking to them to hear early in February from Managing Director Strauss-Kahn that he would have to axe 380 of them (15 per cent) to save $100 million.

Sadly, Strauss-Kahn has no choice. His predecessor, Rodrigo de Rato, dawdled over the issue and the G7 will not allow it to drag on. How has this come about? For more than a quarter century since 1981, the IMF has been relying on a single revenue source of interest margins based on an arcane and complicated formula.

The revenue covers the whole range of IMF activities. Lending related activities cover about 40 per cent of expenditure and the balance covers all others. Advanced countries, which do not avail of loan or credit from the IMF, do not bear any part of the cost though they are the major gainers. In other words, the brunt is borne entirely by poor borrowing countries.

This story ended abruptly by 2006 when the single revenue source began to dry. Developing countries distanced themselves from the IMF and repaid the loans and some, ahead of schedule.

Even as its revenue dried up, expenses were mounting. The fiscal gap was estimated at $100 million for 2007 and rising to $250 million in 2008 and hitting $360 million by 2010.

Crockett report

The grave fiscal scenario led to the establishment of a high-powered committee headed by Sir Andrew Crockett, formerly of the Bank of England and the Bank for International Settlements (BIS) to go into the issues. It included other eminent persons such as Alan Greenspan, former Fed Chief, and Jean-Claude Trichet, Chairman of the European Central Bank (ECB).

Sadly, the Committee was not given a mandate to review the Fund’s administrative expenditures. Its report did lament, “… new revenue measures cannot be considered in isolation from what shareholding countries view as the Fund’s mission.” It had to clap with one hand.

Even so, the Committee did not hesitate to condemn the current income model as one “lacking economic logic”, “lacking predictability”, “flexibility to respond to changes in the nature of its mandate”, etc. It concluded that the model is “arguably inequitable.” Though the Crockett report made these observations, it failed to grapple with the core issue adequately. Though it said that it was averse to cross-subsidisation of various activities, it sidetracked the cost sharing issue with an obiter dictum that it was a matter for the member countries and the Executive Board to settle. The only gain to developing countries is that the report buries deep a quarter-century-old holy cow.

Recommendations on raising new revenues

On raising new revenues, the Crocket Committee had given a few recommendations: investing IMF funds in the money market; ad hoc contributions; charging fees for technical services to developing countries; and establishing an endowment through limited sale of IMF gold.

The Committee ruled out ad hoc contributions, as it was not hopeful that countries could get parliamentary approval. It noted the risks attached to raising funds through money market operations. The major option indeed was an endowment.

Though more than a year had passed since the report was given, there was no evidence of progress. There were reports about G7 and the US having discussions with the IMF at senior levels.

In April 2007, the US Treasury Secretary Paulson welcomed the Report and said, “an equally important part of the solution must be to seriously reduce spending by re-aligning staff and expenditures to focus on the IMF’s core mission.”

The G7 communiqué of October 2007 called for “serious review of its activities and consolidation of its spending.”

Bretonwoods Project, a civil society group, has been publicising developments on the developments from time to time. It has also leaked out confidential internal memoranda of the IMF.

What emerges from these documents is that the G7, especially the US, is willing to agree to the creation of an endowment to finance IMF’s expenditures. As a condition precedent to their commitment, they want evidence of cost reduction in running the IMF.

Rodrigo de Rato had commenced discussions with the IMF Staff Association and these were taken over by Strauss-Kahn.

The talks have been contentious and some issues such as over pension benefits have been litigious. Several cost cutting measures are being attempted. Some are bureaucratic such as regrouping of departments and cutting staff down the line. Large scale outsourcing of back office functions is another option. The IMF has entered into a large value agreement with Tata Consultancy Services (TCS) for BPO services.

Divergence over ‘core mission’

Though the G7 and the US are steering these measures back stage, the test would be in defining the IMF’s “core mission.” There is divergence over this within the G7. What are considered as “core” areas by the US do not meet with the approval of emerging economies. Nor does the IMF carry credibility with them. This indeed was the main reason why they moved away from the IMF. It is viewed more as an agency to bully poor countries than to discipline developed countries.

In the G7 communique from Tokyo, there was support for the “proposal by the managing Director to re-focus the IMF’s operations on core priorities and to cut spending by $100 million over three years.” “To fill the remaining gap, we are prepared to take measures to augment income, considering proposals in the Crocket report.”

These sounded like platitudes, which might not be carried forward. These doubts have gained credence when David McCormick, Under Secretary for International Affairs of the Treasury, delivered a speech at the Peterson Institute of International Economics, Washington D.C., outlining the US administration’s thinking on the issue. The US seems to view it as a package. In particular, it wants major cost cutting and a change in the IMF’s mission, ‘placing greater emphasis on surveillance and financial stability and less emphasis on lending.”

It expects the IMF to act as the attack dog on emerging economies which “rigidly manage their exchange rates resulting in some cases in trade distortions and excess reserve accumulation.” (Of course, the IMF should not preach to the US over dollar rate.)

It enjoins on the IMF to frame a code of conduct for the operations of Sovereign Wealth Funds (SWF). Another condition is that the IMF’s Board should be reduced from the present level of 24 to 20 in a phased manner. It expects the European members to give up their share to be redistributed to major emerging economies.

Gold sale

If all these conditions are fulfilled, McCormick said, it would be practicable for the Bush administration to get Congressional approval for limited sale of gold to establish an endowment.

He said that sale of gold could be in a phased manner and off market so that there would be no impact on gold price. He hinted that Hill (Congress) had been sounded and the administration was hopeful of getting its approval.

All these conditions fly against facts and especially the G7 statement. If past history is any guide, it is unlikely that there would be accord on these conditions.

European countries will resist any attempt to reduce their voting rights or share in the Executive Board. The European Parliament as voted against it when the issue came up last.

Emerging economies, especially China, will not permit any supervisory role by any external agency over its exchange rate policies. The US itself has resented intrusion in this area by the IMF or others. Owners of SWFs have resisted efforts to oversee or regulate the management of their funds.

It is unlikely that Congress would agree to gold sale given the power of the gold lobby. Twice in the past it rejected proposals for gold sale much against global pressure.

Even as these issues linger, the IMF and its Managing Director may continue with cost cutting efforts without hope of resolving the larger issues of its role and its fiscal woes.

(The author has extensive experience in international, trade and finance matters.)

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