As World War II came to an end, John Maynard Keynes designed a world monetary system which involved pegged exchange rates. Given the fresh memories of the Great Depression, autonomy of monetary policy was considered essential. It is now well understood, through the "impossible trinity", that the only way to have autonomy of monetary policy while having a pegged exchange rate was to close down the capital account. Periodically, a pegged exchange rate would get into trouble. To cope with these episodes of crisis, the IMF was invented. So when a speculative attack would take place, a country would be stripped of reserves, the IMF would give a loan, the exchange rate would be adjusted, and then the story would start all over again. This system lasted for a quarter century. Then the member countries who matter defected. As trade grows, it becomes inherently impossible to have capital controls. India has, for example, made yeoman progress in terms of steadily chipping away at controls, and moving towards capital account convertibility. For all such countries, opening the capital account inevitably requires shifting to a floating rate. Through this, the IMF has increasingly gone out of business. For the growing set of countries which have floating rates and convertibility, there are no currency crises and hence no role for the IMF. | |
| In a fascinating lecture organised in New Delhi by Icrier, the Governor of the Bank of England, Mervyn King, articulated a way forward for re-inventing the IMF. He argued that decisions of one country (e.g. China's fixed rate) do impinge on other countries (e.g. Eurozone). Hence, doing no international coordination of policy is unsatisfactory. He proposed that the IMF should perform three functions. First, it should help improve the statistical system by computing and releasing "country balance sheets". Second, it should be a trusted source of candid and unbiased advice about inconsistencies in the macro-economic policy of countries. Third, it should be a convener of regular meetings where genuine policy makers are able to candidly talk with each other, so as to have an appreciation of each other's "policy reaction functions". This new and improved IMF, he argued, should be run by the managing director and not by the board, and greater voice needs to be given to the large economies of the day (whoever they be). He recommended replacing the full-time IMF board with six-eight meetings a year of the people who actually make economic policy, such as India's finance secretary. |
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| Could this be? Could an IMF ever be candid about the macro-economic policies of a country? Could an IMF Chief Economist ever say what he feels about the RBI's policies? Could meetings achieve more than ritualistic re-statements of official positions? It can be argued that these three tasks are better accomplished in other ways. Universities and think tanks, which are free of government control, are better equipped at independent criticism of government policy. And informal meetings can be easily convened between ministers and secretaries, in order to regularly make eye contact and learn reaction functions. Dr King felt his proposal was worth trying, to reinvent the IMF to perform these three functions, before giving up on it altogether. |
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