The IMF’s Independent Evaluation Office (IEO) published a late December evaluation that was critical of IMF concerns and advice relating to international reserves, especially the accumulation by countries of large quantities of US dollar (and other hard currency) assets.
According to the IEO report International reserves: IMF concerns and country perspectives, interviews with country officials, Fund staff and former management revealed a widespread belief that the Fund was unduly influenced in formulating its reserve policy. “The views of influential shareholders regarding the IMF’s inability to influence China’s exchange rate policy … in the last decade were an important factor explaining why concerns about the stability of the international monetary system were expressed in terms of excessive reserve accumulation.” Press reports, including in the Washington Post in December, interpreted this finding as an implicit accusation that the IMF had been critical of China’s reserve policy in response to influence from the United States.
Amar Bhattacharya, director of the secretariat of the G24, an inter-governmental grouping of developing countries that coordinates their position on monetary and development issues, told Chinese news site China.org.cn that the evaluation indicated that the IMF advice “seemed to strike a particularly political note” and “was seen as a ‘stalking horse’ for the United States to press China.”
'stalking horse' for the United States to press China.
The evaluation indicated that richer nations were not subject to the same criticism: “in its consultations with advanced countries, the Fund very rarely broached the topic of reserve adequacy.” Ilene Grabel of the University of Denver pointed out in a blog post that “none of the observations … come as a surprise to the IMF’s critics” adding that the Fund’s “lack of even-handedness” was also evident in the IMF’s support for “aggressive exchange rate interventions… in wealthy countries” including in Switzerland and Japan, despite the fact that the consequences of these interventions in terms of capital flows “bore quite heavily on many rapidly growing developing countries … but we would be hard pressed to find Fund support for currency market interventions in these countries.”
The report also challenged the analytical approach taken by the Fund, providing indirect support for the accusations of the Fund not being even-handed. The evaluation found that the “IMF’s policy advice did not adequately take into account the sources of risk associated with the foreign currency liquidity needs that arose as a result of the global financial crisis.” The ‘sources of risk’ are understood to mean volatile capital flows and currency speculation emanating from major advanced economies, such as the Unites States. China and other developing nations have accumulated reserves to insure themselves against volatile capital flows and risks of contagion from financial crises, as well as to avoid IMF programmes and their conditionality requirements (see Update 75). Country officials interviewed for the IEO study had suggested the Fund’s focus upon reserves was tantamount to targeting “the symptom and not the cause of potential instability.”
Criticism rejected by Fund
The official staff response to the evaluation, published simultaneously with the IEO report, bluntly rejected the assessment that by focusing on reserves the Fund had “ignored more pressing issues”, adding that reserves are highly relevant to the stability of the international monetary system as they “are now about the equivalent of … one-third of advanced country bond markets.” The staff response also disputed the IEO’s questioning of the IMF’s motives for emphasising reserves risks, asserting that the IEO “mischaracterises the objective and contributions of the international monetary system and reserve adequacy workstreams”. Staff refuted the IEO analysis of the basis of IMF work on reserve accumulation and any suggestion of bias towards shareholders due to selectively or inappropriately prioritising reserve accumulation: “the IEO report incorrectly suggests that the discussion on reserves was merely a way to reopen the debate on global imbalances.”
IMF managing director Christine Lagarde backed her staff, stating that the “evaluation errs when it considers the rationale of the Fund … in undertaking work on reserves” but indicated that “I find myself in agreement with most of the IEO’s formal recommendations.” The summing up of the December executive board meeting discussing the IEO study revealed that the directors “held different views on the analytical underpinnings of the report, in particular … whether the membership is adequately represented in the sample chosen.” The IEO published the list of the 37 countries evaluated, but did not publish a breakdown of responses that would enable assessment of how extensively the membership was represented in the findings.
Reserves debate obscures risks
Though the audit has triggered disagreements, the staff, executive board and managing director’s reactions to the evaluation indicate that despite the IEO criticism, they believe there is no need to alter current Fund policy. The IEO recommendations to the Fund included targeting perceived policy distortions and embedding the reserve question in a more comprehensive discussion of global financial instability. The staff response argued that these are already part of Fund practice, as is the recommendation that “advice should also not be directed only to emerging markets.” The recommendation that the Fund take into account the “relative size of countries’ contributions” to causing systemic risks, or “externalities” was rejected by the staff as it would “be at odds with the uniformity of treatment across members built into the Fund’s Articles.”
Gao Haihong, senior fellow at the Institute of World Economics and Politics at the Chinese Academy of Social Sciences, argued that the narrow debate over reserves’ significance obscures the changing nature of policies to manage financial risk: “the functions of reserves have changed from the narrow definition of ‘precautionary’ to a broad ‘firewall’ against general financial risks including violating cross-border capital movements. It is too ambitious to set up one-size-fits-all criteria for reserve adequacy and it is dangerous to make any judgements based upon that. There is going to be an on-going need for more reserves worldwide as a national safeguard and the [Fund’s] concept of ‘excessive reserves’ in reality becomes a relative term.”
Gao reflected that “the IEO report has provoked a debate on the functions of reserves, which should properly be seen as a side-effect of self-interested national policy, not only in the surplus countries but also in the countries that are the source of capital flows. In that case, both the IEO report and the IMF’s response do not pay sufficient attention to the root of the problem.”