In January, French president Nicholas Sarkozy stoked the debate about reforming the international monetary system (see Update 73, 70, 68, 66), while deliberations on the potential future role of the IMF’s special drawing right (SDR) as a prototype global reserve currency continued.
Sarkozy made the international monetary system one of his six priorities for this year’s French presidency of the G20, asking German chancellor Angela Merkel to co-chair a working group with Mexico’s president Felipe Calderón, who will take on the G20 presidency in 2012. The French government also commissioned a group of policy makers, including two former IMF managing directors, Horst Koeller and Michel Camdessus, and several former members of the IMFC and former IMF staff, who released their first report in January on Reform of the international monetary system. The report highlights the IMF’s failings in a number of areas, in particular the fact that its surveillance has had “insufficient or no effect on the policies of the largest members” and “the lack of teeth of IMF procedures” when dealing with larger members who do not need to borrow from the Fund. The initial report is short on specific proposals, though a further paper is expected shortly. However, it does highlight that improving the oversight of the policies of larger economies would need to be backed by “consequences, including the possibility of both incentives and sanctions.” It also adds fuel to the debate over the G20’s perceived lack of legitimacy (see Update 67) by suggesting that meetings at heads of state and finance minister level should include all nations, grouped into constituencies.
Global reserve currency
Though Sarkozy’s ambition is limited to discussion of issues, including the role of the dollar as the global reserve currency, and “concrete proposals”, Eric Helleiner of the University of Waterloo in Canada argued in a December special edition of the Journal of Globalisation and Development that the opportunities for reform are greater than they have been for a long time, for three reasons. First, the danger of countries ‘switching’ their reserves away from the dollar retains the potential to destabilise the system and undermine the dollar’s perceived value, Helleiner argues. A January statement by Chinese vice-minister for commerce Gao Hucheng that China has been increasing its euro-denominated reserves highlighted this issue, and People’s Bank of China vice governor Yi Gang threw further fuel on the fire by saying in a visit to Europe in January that China was keen to discuss with Europe the diversification of international reserve currencies
Second, Helleiner highlights the inequity of the current system, where the US gains from being the sole issuer of the world’s main reserve currency. However, unlike in previous eras, many of the holders of US dollar reserves are not US allies and are therefore less likely to accept this as a price worth paying. Finally, demand for reserves is likely to remain high, particularly as countries continue to build their stockpiles rather than rely on the IMF. Despite reforms to IMF lending to make it more attractive to the middle-income countries (see Update 72, 65) who are the driving force behind the massively increased demand for global reserves, Helleiner argues that “the rebuilding of trust in the IMF will also require stigmas to be overcome and substantial governance reforms to be carried out, developments that seem unlikely to happen quickly.”
As a report for the European Parliament found in January, “the inadequate size, excessive conditionality and a perceived lack of legitimacy hampers the IMF’s operation as a lender of last resort that is needed to reduce the incentives for countries to build up excessive reserves.” Jean Pisani-Ferry of the Brussels-based thinktank, Breugel, agreed, saying in January that “suspicion of the IMF persists, and most countries, especially in Asia, still prefer costly self-insurance” through the stockpiling of reserves.
SDR – new role?
Two January IMF policy papers examined the role of the special drawing rights (SDR, see Update 65) and gave encouragement to those who see its expansion as a potential way of creating a global reserve currency to help stabilise the international monetary system (see Update 70). Enhancing international monetary stability – a role for the SDR? argued that “the SDR, if used more in its various guises – official composite reserve asset, unit of account, and possibly new class of reserve assets – could potentially contribute to the long-term stability of the system” It presents a “menu” of options to increase the SDR’s role, but recognises that “very significant practical, political, and legal hurdles” exist.
The second paper, Is SDR creation inflationary? authored by Richard Hooper of Harvard University, examines what might happen if SDRs were issued “more frequently in significant amounts.” It finds that under three of five scenarios, including “the most likely ones”, this would not prove inflationary. The note of the IMF board debate on these papers shows a diversity of opinions on all the practical and theoretical issues discussed, but executive directors “expressed their willingness to consider SDR-related issues with an open mind, with a view to building a broad consensus across the membership”, asking for a slew of further work, indicating that agreement on concrete steps is not yet on the cards.
Signs that emerging markets are taking the SDR more seriously were highlighted in January, when Russian president Dmitry Medvedev called for the IMF to include the currencies of the big four emerging markets – Brazil, Russia, India, and China – in the IMF’s basket of currencies that dictate the value of the SDR.
A number of other contributors to the December Journal of Globalisation and Development propose ways in which a genuine global reserve currency could be built over time. Peter Kenen of Princeton University in the US argues that a first step could be the creation of a special ‘substitution account’ at the IMF where dollar reserves could be swapped for IMF’s SDR. John Williamson of the Peterson Institute for International Economics argues that if the SDR were significantly reformed, including being renamed and allocated regularly using a better formula than IMF voting rights, it could play a much more central role in the international monetary system. However he concludes that it is “far more likely that policymakers will try to muddle through without anything so demanding as agreeing major changes.”
Others prefer more radical solutions. In December, Joergen Oerstroem Moeller of the Institute of Southeast Asian Studies in Singapore said that recent limited IMF reforms (see Update 72) had “dodged reality” and called in January for a move to an “international currency linked to a basket of commodities”, not unlike that promoted by Keynes at the original Bretton Woods conference in 1944.