[stop-imf] MKhor overview on IMF conditionality

[Robert Weissman]

Dear friends

In June the IMF and the German government (DSE and
the Finance Ministry) organised a Dialogue Session on
Ownership and Conditionality.

I represented the Third World Network at this meeting.
Other NGOs present were WEED (germany) and Bretton Woods
Project (UK).   There were 17 representatives from the
IMF (senior officials), and officials from Germany and
several developing countries.

At the meeting, I was a speaker in one of the sessions
and also made comments in other sessions.  The
presentation and the comments have been written
up in an "Issues Note", which I have submitted to the
organisers after the meeting, and which follows below.

Best regards
Martin Khor
Third World Network



ISSUE NOTE BY MARTIN KHOR (DIRECTOR, THIRD WORLD NETWORK)
AT THE INTERNATIONAL POLICY DIALOGUE ON OWNERSHIP AND CONDITIONALITY
(RELATING TO IMF POLICIES), BERLIN 11-12 JUNE 2001

Organised by German Foundation for International Development, the German
Federal Government (Finance Ministry and BMZ) and the International
Monetary Fund Institute.


Theme of Note:

The IMF's  Role and Policy Conditionality:   The Relationship between
Ownership, Conditionality, Appropriateness of Policy and Governance, and
the Way Forward



I. INTRODUCTION

The convening of this meeting to look at streamlining conditionality
comes at a time when the IMF is facing a crisis of legitimacy.  There is
a crisis of legitimacy of the IMF with the public;  problems of the
IMF's credibility (including regarding appropriateness of its policies)
in relation to many recipient countries;  erosion of confidence in the
IMF within the establishment (policy making, academic, media) of major
shareholder countries;  and also debate on IMF policy and strategy
within the IMF staff themselves.

The IMF management would like recipient countries to "own" the policy
conditionalities much more than they have done.  But genuine ownership
can only be derived if the countries themselves participate in the
making of the policies; and this is generally not the case as the
policies are usually imposed by the IMF, often against the wishes of the
governments or people.   Still, the policies would be more acceptable if
they work.  But generally they have not worked.  Instead of recovery,
growth and getting out of debt, many recipient countries have
experienced stagnation or worse, and many are still trapped in debt.
Thus, more "country ownership" of IMF programmes does not simply mean
improving the methods of getting countries to really accept and
internalise IMF policies which, it is assumed, are good though tough.
It is not a communications or public relations task.  Ownership can or
should be increased only if there is genuine participantion by the
government and people of recipient countries; and only if the content of
conditionality (ie the policies) are appropriate and bring about good
outcomes.

Thus, the key issues are the democratic (or rather non-democratic and
non-participatory) process of IMF policy making, and the appropriateness
(or rather inappropriateness) of the IMF policies.  Unless these issues
are resolved, no amount of persuasion or arm-twisting (ultimatums such
as "convince us before hand that you are a believer or we won't agree to
giving you a loan") will bring about genuine ownership.

The issues of non-participation and inappropriate policies are not
academic but of life and death dimensions.  Like many others in this
room, I lived through the financial crisis, in this case in Asia.  I
closely followed the events, policy debates and policies in the
different affected countries, saw the effects of the market practices
and the IMF-led policies, the social and political upheavals, the
traumatic financial crash and economic downturn, the devastating effect
on the lives of millions of people and on the viability of thousands of
local firms, big and small.

Due to the evidence of recent events, there is a crisis also in
development thinking and the development paradigm, and a major change is
under way.  In the past there was a bias or blind faith in predominantly
relying on the state for development.  Then, there was a swing to the
other extreme of having total reliance and blind faith in the private
sector and on globalisation (rapid opening up to international finance
and trade).  Now the pendulum is swinging back.  The emerging view is
that openness can have good or bad effects, depending on the specific
condition and stage of development a country is in, for example, whether
the local firms and banks are prepared for external competition, whether
there are regulations or knowledge on managing and utilising foreign
loans so that they can be repaid, whether there is reciprocal benefits
from opening up, whether there are opportunities for increasing exports
or if the capacity to produce and market for export has been built up,
and what are the balance of payments effects of opening up given the
conditions the country finds itself in.

Although if conditions are right there can be many benefits from opening
up, there are also great risks and costs to be borne if the conditions
are not right.  For many countries, the conditions are not or may not be
right, at least not yet.  If they nevertheless open up, they may suffer
the risks and the costs.

Thus, the balance, degree, timing, sequence of liberalisation must be
tailored to each country. Though it may become the new wisdom in
rhetoric, this principle has not yet been translated into policy by
international agencies like the IMF and WTO, nor into national policy of
most developing countries.  Many countries are unable to do so, even if
they want to, due to conditionality or binding rules.

Many, if not most, developing countries are neither growing nor
developing.  The situation is bleak for many.  Business as usual cannot
be the response, as it has generally failed.  The issue of
conditionality and ownership should be viewed in a broad perspective,
and this includes looking critically not only at the roads taken by the
IMF but also at the roads not taken.


II. THE IMF´S ORIGINAL MISSION AND THE DEVIATION

The raison d´etre of the IMF at its creation and in the era of the
Brettons Wood system  is to ensure global financial stability.  This
arose from the recognition that left to itself the financial
institutions, markets and players can become a too-powerful force with
the potential of destabilising the financial system itself as well as
undermining the real economy.  The IMF's implicit mission included
taming and regulating  global and national finance so that finance would
serve the real sector objectives of growth of output, income and
employment.

The original Post WW2 framework supported this function.  It included a
system predominated by fixed exchange rates (which could be adjusted
with IMF assistance when needed by objective conditions),  BOP
adjustment through country-IMF discussion when needed,  limited
crossborder financial flows, and the normality of national capital
controls. Policy was influenced by an understanding of the need for
caution on the potential for instability, volatility and harm to the
real economy that can be caused by unregulated finance and by
speculative activity. .

This regulatory system and the period of relative financial stability
ended with the 1972 Smithsonian Agreement.  Floating replaced fixed
exchange rates, financial deregulation and liberalisation took off in
the OECD countries, new financial instruments developed, there has been
a massive explosion in crossborder short term capital flows and in
speculative financial activity.  There has also been the spread of
capital liberalisation to developing countries, to which advice from
developed countries and from the IMF contributed.  These developments
underlie the frequent occurance of financial crises.   The failure of
the IMF and other international financial agencies to prevent such
crises should be recognised as one of its major flaws, and this should
be rectified.     Indeed, the failure of the IMF in preventing the
global financial system from going down the road of such rapid
deregulation and liberalisation (with the consequences of currency
instability, volatility of capital flows and financial speculation), and
instead presiding over this road that was taken, is a major mistake.  It
also goes against the original role of the IMF to establish and maintain
a stable financial order.


III. THE ROAD THAT SHOULD BE TAKEN:   CRISIS PREVENTION MEASURES IN A
NEW FRAMEWORK FOR FINANCIAL STABILITY

There needs to be a backtracking to the crossroads and take a new
turning which is more true to the IMF's original mission of establishing
financial stability.  That is the road of crisis prevention through
establishment of greater stability through better understanding and
regulation of capital flows and capital markets;  and a more stable
system of exchange rates (including among the major reserve currencies,
and in the currencies of developing countries).

There is need to understand capital markets and the role and methods of
players like highly leveraged institutions (for example hedge funds)
which are now non-transparent and unaccountable but have major impact on
global and national finance and real economy. There is need especially
to curb manipulative financial activity. Recently the Fund's Managing
Director announced he had encouraged his staff to get knowledge of how
capital markets work.  This is a statement to be welcomed.  It also
implies the Fund's previous and current lack of knowledge of capital
markets.  It is a serious blind spot for the world's premier
international financial institution to have.  How could the Fund have
given good advice on handling the recent financial crises arising from
the workings of the capital markets when its knowledge of these markets
was limited?

There is need to understand the behaviour and potential and real effects
of various kinds of capital flows to  developing countries -- including
credit (to the public and private sectors), portfolio investment,
foreign direct investment (and its varieties, such as mergers and
acquisitions, greenfield investment, and FDI that produces for the
domestic or the foreign market).  There is need to look at inflows and
outflows arising from each, including the potential for volatility of
each and the effects, especially on reserves and the
balance-of-payments.  What are implications for policy and what
guidelines should be given?   For example, when should (or should not) a
government or company borrow in foreign currency?  Regulations and
guidelines are needed because the market lacks a mechanism that can
ensure appropriate outcomes.   One guideline that is most relevant could
be that local companies should be allowed to borrow in foreign currency
only if (and to the extent) the loan is utilised for projects that earn
foreign exchange to repay the debt.  This was a regulation that the
Malaysian Central Bank had maintained, and it had helped Malaysia avoid
falling into the kind of debt trap that Thailand, Indonesia and South
Korea had got into, when the private sector borrowed heavily in foreign
currency denominated loans.

The potential for devastating effects of shortterm capital flows should
be recognised and acted on, to prevent developing countries from the
dangers of falling into debt traps. The IMF must recognise this and have
an action plan (or at least be part of a coordinated action plan) that
includes the following elements:  (i) regulate global capital flows,
through international regulations or through currency transaction
taxes;  (ii) surveillance and disciplines on countries that are major
sources of credit so that the authorities in these countries monitor and
regulate the behaviour and flows emanating from their capital markets
and institutional sources of funds;    (iii) provide warnings for
developing countries of the potential hazards of accepting different
types of capital inflows and provide guidelines on the judicious and
careful use of the various kinds of funds ;  (iv) educate members and
the public of how capital markets work and establish surveillance and
accountability mechanisms to guide and regulate the workings of the
markets;   (v) appreciate and advise countries on the functions and
selective uses of capital controls at national level, and helping them
establish the capacity to introduce or maintain such controls;   (vi)
identify and curb the use and abuse of financial instruments and methods
that manipulate prices, currencies and markets, and prevent the
development of new manipulative or destabilising instruments and
methods; (vii) stabilise exchange rates at international and national
levels, which could include mechanisms to stabilise the three major
currencies, and measures that can provide more stability and more
accurate pricing of currencies of developing countries;  (viii) provide
sufficient liquidity and credit to developing countries to finance
development.

The prevention of crises through a more stable global financial order is
more beneficial and cost effective than allowing the continuation of a
fundamentally unstable and crisis-prone system which would then throw up
the need of frequent bail-outs with accompanying conditionality.



IV. PROBLEMS IN CRISIS MANAGEMENT AND IN THE PROCESS AND SUBSTANCE OF
IMF'S CONDITIONALITY

In the absence of prevention measures, or even if such measures are in
place, crises will occur.  Better management of financial crises is
needed.  The present system of managing crises by the IMF has many
asymmetries and flaws.


(a) Absence of debt resolution system puts debtor country at losing end

At present, debtor countries are at losing end.  They are not organised
among themselves, and are often caught in a crisis without enough time
or sufficient knowledge to think and plan properly.  In contrast,
creditors and creditor countries are well organised among themselves,
and they organise to obtain maximum return for their loans.  At present
there does not exist a system where at the start of a crisis the debtor
country and the creditors get together within a framework to coordinate
their response in an orderly and fair manner.  Instead there is usually
a stampede for the exit by creditors and investors. The debtor country
faces massive capital flight by foreigners and locals, especially in the
absence of controls on capital outflows.

What is required is a comprehensive system of debt arbitration and
workout.  This could include a declaration of debt standstill by the
indebted country, and its having recourse to an international debt
review procedure (an international extension of a bankruptcy court)
presided over by an independent international court or panel.  The
procedure would involve  an orderly and fair debt workout, including
writing down of some loans, loan rescheduling, and provision of  fresh
loans to finance recovery.   The burden is shared fairly between debtor
and creditor, and among the different creditors, according to
established criteria and procedures.  "Bailing in" of the private sector
implies that creditors take a fair share of the loss, and a rescheduling
of some loans.  This should be done without transferring the
responsibility of private sector loans to the public sector through
government guarantees, which has been a most unfair practice that has
been done in the past under IMF conditionality.

In the absence of a standstill and orderly workout mechanism, debtor
countries are usually at the mercy of creditors and creditor countries.
The burden of adjustment and repayment falls most heavily on the
debtor.  As the IMF presides over this process, it is perceived as a
debt collector, operating in an unfair system.  Such a role, and the
public perception of this role, undermines the Fund's ability to be seen
as a honest broker and thus as a creator of fair conditionality.


(b) Flawed Process in IMF conditionality

In relation to the IMF's loan conditionality and the ownership question,
there are a number of issues.  First are the "process" issues.  Although
letters of intent are signed by the recipient country's government, it
is well known that in most cases the conditions are in the main
established by the Fund and recipient countries do not have significant
leeway or space to successfully negotiate to remove or to really reshape
most conditions.  Since participation is so limited, and since in many
cases the recipient does not really agree with many of the conditions,
it is difficult or impossible to have genuine national ownership.  And
even in the cases where the national authorities genuinely agree,
various groups in the country may not, and may oppose the policies.


(c ) Content and Quality of IMF Policies: Indicators and Types of
Problems

Second are the issues relating to the content and quality of the
policies themselves. There are acute problems regarding this, thus
leading to a crisis of credibility and legitimacy of the policies as
well as of the process of conditionality.

There are many indicators of policy failure.   Countries that became
indebted in the more traditional mode (through trade and current account
deficits and through repayment problems in public sector loans)
underwent conditionality policies in the 1980s and 1990s.  Many of them
have not experienced economic growth nor social development nor a
successful exit from debt crisis.   UNDP's Human Development Report data
show that only 15 countries experienced relatively good per capita
growth in the two decades up to the mid-1990s.  Most of these countries
had not been in a debt crisis and thus did not follow structural
adjustment type policies. On the other hand, 89 developing countries in
the mid-1990s were worse off in per capita income than ten years
previously, and 70 of these countries had an income per capita level in
the mid-1990s lower than in the 1960s and 1970s.  The decline in most of
these countries was far deeper and longer than that experienced in the
1930s Great Depression.    And then some of the 15 countries that had
had the best performance also fell into crisis in 1997-8, with the
crisis caused by developments in their capital account.  These countries
also fell into deep recession and it is widely believed that the IMF
policies for this type of crisis were inappropriate.    Indeed it is
believed that the IMF policy prescription for both kinds of countries
and crises were not counter-recessionary but excessively contractionary,
thus failing to generate growth that could have helped lead the
countries to recovery, but instead suppressing the potential for growth.

IMF conditionality policies have come under severe criticism for at
least three reasons:

--  (i) that there has been "over-reach" in that the conditions widened
in range through time to include "structural policies" not needed for
managing the crisis;

--  (ii) that the policies in the core economic and financial areas of
IMF competence have also been inappropriate as they were contractionary
and did not generate growth;    and

--  (iii) that the policies were designed in ways insensitive to social
impacts, and the burden of adjustment fell heavily on the poor and at
the expense of social and public services.

These three categories of problems are briefly discussed below.


(d) Scope of conditionality too broad

The scope of IMF policy conditions has been increasing through the years
and has become far too broad.   Many of the conditions were not relevant
or critical to the causes or the management of the crisis the countries
found themselves in.  Some of these conditions were were put into the
conditionality package under the influence or pressure of  major  IMF
shareholders for their own interest or agenda, rather than in the
interests of the debtor country. On many areas where conditions are set,
neither the IMF nor the World Bank has the expertise to give proper
advice, and thus the potential to commit a blunder is high and the
negative effects can also be high. This includes the area of political
conditionality and issues relating to "governance".   During the
Indonesia crisis, the IMF advice to the government to close 16 banks,
without first assuring the public that their deposits in the banking
system were safe, led to large deposit withdrawals and capital flight
from the country.  This is now recognised as a blunder.

Even in a major economic area of structural conditionality, i.e. that of
trade policy and reform, the potential of mistakes can be high.  The IMF
and World Bank are well known for advising developing countries under
their charge to undergo rapid trade liberalisation.  The appropriateness
of the advice to undergo "big-bang" or rapid liberalisation is now
contentions. In many countries, import liberalisation has led to
domestic firms and industries having to close down as they were unable
to compete with cheaper imports, and de-industrialisation has been the
result.  There is now strong emerging evidence that trade liberalisation
can successfully work only under certain conditions.  Factors for
success or otherwise include    the ability of the country's enterprises
and farms to withstand import competition, its production and
distribution capacity to export, as well as the state of commodity
prices and the degree of market access for its products.  In the absence
of positive factors, import liberalisation may cause the country into
deeper problems.  The implications for conditionality are significant.
Evidence is emerging that wrongly sequenced and improperly implemented
trade liberalisation is adding to developing countries' trade deficits.
On average the trade deficit of developing countries (excluding China)
worsened by an average of 3 percentage points of GNP between the 1970s
to the 1990s.  The IMF should thus review its trade liberalisation
conditionality to take account of the need to enable countries to tailor
their trade policy to their partricular conditions and their development
needs.



(e) In areas of its core competence, there are also serious problems
with IMF policies

The problems with conditionality do not lie only in "new areas" outside
the traditional areas of the IMF's concern.  The criticism is now
widespread that even in the areas of the IMF's core competence
(macroeconomic, financial, monetary and fiscal policies), there are
major problems of appropriateness of policy and conditionality.  Policy
objectives and assumptions and policy instruments on how to obtain them
are under question, given the poor record of outcome. This questioning
of the appropriateness and outcomes of policy had already been going on
for several years (especially in relation to policies and results in
Africa), but the doubts and criticisms grew much more intense as a
result of the IMF handling of the Asia crisis.

The IMF policies tend to be biased towards restrictive monetary policies
(including high interest rates) and fiscal contraction, both of which
tend to induce or increase recessionary pressures in the overall
economy.  The contraction in money supply and high interest rates
decrease the inducement for investment as well as consumption (thus
reducing effective demand).  The high interest rates also increase the
debt-servicing burden of local enterprises and cause a deteriortaion in
the banking system in relation to non-performing loans.  The Fund has
also maintained the strong condition for financial liberalisation and
openness in the capital account.  Thus, the country is subjected to free
inflows and outflows of funds, involving foreigners and locals.  The
country's exchange rate is in most cases open to the influence of these
capital flows, to the level of interest rate, and to speculative
activity. Often, there are large fluctuations in the exchange rate.
Given the fixed assumption that the capital account must remain open,
there is thus the need to maintain the confidence of the short-term
foreign investor and potential speculators.  A policy of high interest
rate and lower government expenditure is advised (imposed) in an effort
to maintain foreign investor confidence.  But since this policy causes
financial difficulties to local firms and banks, and increase
recessionary pressures, the level of confidence in the currency may also
not be maintained.  The narrow perspective on which the restrictive
policies are based neglects the need to build the domestic basis and
conditions for recovery and for future development, including the
survival and recovery of local firms and financial institutions, the
encouragement of sufficient aggregate effective demand , the retention
of the confidence of local savers, consumers and investors.

Most IMF policies imposed on countries that face financial problems and
economic slowdown are opposite to the policies adopted by (and
encouraged for) developed countries, such as the US, which normally
reduce interest rates to as low a level as needed and which boost
government expenditures, so as to increase effective demand, counter
recessionary pressures and spark a recovery.  Thus there have been
criticisms by mainstream and renowned Western economists (including Paul
Krugman and Joseph Stiglitz) that criticise the IMF for imposing
policies on developing countries that are opposite to what the US does
when facing a similar situation.

An important policy option, i.e. the use of capital and exchange rate
controls (even if done selectively, in a limited way, and over a limited
time period), is not considered a legitimate instrument in the IMF range
of policies and is in fact prohibited in some letters of intent.  This
has been the position until now, although recent statements have been
made by the IMF secretariat that indicate it is more willing to look at
capital controls as a possible option.
By using capital and exchange rate controls, the country is better able
to de-link interest rates from exchange rates and capital outflows, and
is thus in a better position to reduce the interest rate without the
unintended effects of capital outflow and a weakening currency.  It
would thus be in a much better situation to take recovery-oriented
monetary and fiscal policies, including of the type that the US adopts
when facing recessionary conditions.

The Malaysian experience is instructive in this regard.  During the
Asian crisis, Malaysia did not seek IMF crisis loan assistance.  However
it initially undertook IMF-style policies for about a year, raising
interest rates, introducing restrictive monetary policies and sharply
reduced government expenditure, whilst also maintaining an open capital
account and a floating exchange rate system.  The economy spun into deep
recession, local corporations were faced serious difficulties servicing
their loans due to the jump in interest rates, the banks' non-performing
loans rose correspondingly, there was a credit squeeze, and the currency
and stock market plummeted.  In September 1998, a new policy package was
introduced, which included fixing the currency's exchange rate to the US
dollar, deinternationalising the local currency (preventing its
speculative trade abroad), selective capital controls affecting the
capital account in some ways, though the current account remained open;
the sharp reduction of interest rates, and expansionary monetary and
fiscal policies, as well as restructuring bad corporate and banking
loans.  The domestic pro-recovery policies regarding interest rates,
monetary and fiscal policies could be carried out without the potential
negative effect on the exchange rate and on capital flight because of
the prior introduction of the selective capital controls and the fixed
exchange rate mechanism.  The policy package seems to have worked well
for Malaysia, as the economy recovered and the financial position of
banks and many local corporations improved in 1999 and 2000.  The
Malaysian experience may or may not be suitable for other countries
facing a similar crisis, as an appropriate policy package would have to
be one that is tailored to the specific features of the country and the
specific problems it faces.  The point being made here is that policies
that would be considered "unorthodox" by the IMF (and would in all
probability not have been considered an option by the IMF if suggested
by a client country) can work.  In other words, there are alternatives
to the IMF policy package and these alternatives can be effective, and
even more effective than the IMF's policies.

Since the type of policies that are linked to IMF conditionality have
been increasingly criticised for not working, including because they are
contractionary and recessionary in nature and effect, it is no wonder
that there is a lack of credibility and confidence in the substance of
IMF conditionality, even in its core areas of competence.

There is thus a need for IMF to review its macroeconomic package,
re-look the policy objectives and assumptions, compare the trade-offs in
policy objectives with the number and effects of policy instruments, and
widen the range of policy options and instruments.  This review should
be made in respect of government budget and expenditure, money supply,
interest rate, exchange rate, and the degree of capital account openers
and regulation, in the periods prior to crisis (to prevent one) and
during crisis (to manage it).


(f) IMF policies badly designed from the social development perspective

The IMF has also been heavily criticised, especially by civil society,
for the inappropriate design of their policies from the viewpoint of
social impact, including reducing access of the public to basic
services, and increasing the incidence of poverty.   The adverse social
impacts are caused by several policies and mechanisms.  The
contractionary monetary and fiscal policies induce recessionary
pressures, corporate closures, lower or negtaive growth rates,
retrenchments and higher unemployment.  Cutbacks in government
expenditure lead to reduced spending on education, health and other
services. The switch in financing and provision of services from a grant
basis to user-pay basis impacts negatively on the poorer sections of
society.  The removal or reduction of government subsidies jacks up the
cost of living including the cost of transport, food, and fuel.  These
and other policies have contributed to higher poverty, unemployment,
income loss and reduced access to essential goods and services.  It is
not a coincidence that countries undergoing IMF conditionality have been
affected by demonstrations and riots (popularly called "IMF Riots").
The social impact of IMF policies is another major cause of the crisis
of credibility in IMF conditionality.


(g) Brief conclusion

This section of the Note describes the problems regarding the process
and especially the policy substance or content of IMF conditionality.
It must be recognised by the IMF that the major problem with its
conditionality is that the policies associated with it are seen to be
inappropriate and harmful.  This view is not confined to critical
academics or NGOs but is now adopted by renowned mainstream scholars, by
parliamentarians of many countries (including the US), and also by
policy makers of the countries taking IMF loans and undergoing IMF
conditionality.  The growth of the criticism is caused mainly by the
poor record of the policies adopted, and not so much by the lack of
implementation of the policies.  Therefore, the most urgent task is not
so much to "sell" the old conditionality better to the client
governments or to the public, but to review the content of
conditionality itself and to come up with a better and more appropriate
framework and approach.



V:  PERCEPTIONS OF INADEQUACY OF KNOWLEDGE AND OF DOUBLE STANDARDS IN
FUND POLICY

Other factors that have affected the credibility of conditionality are
the perception that the Fund lacks adequate knowledge and understanding
of some critical issues on which it gioves advice, and the perception of
double standards in policy.

Regarding the lack of adequate knowledge, the section above has outlined
some inappropriate policies in relation to the domestic macroeconomy.
The Fund has also shown inaequate understanding of the nature and
workings of international capital markets.  This was shown during the
Asian crisis, which is now accepted as a crisis related to the opening
of the capital account by the affected countries.  Speculative funds,
including the hedge funds, played a major role in catalysing the initial
devaluation in Thailand.  When called upon by ASEAN leaders to study the
role of hedge funds, the IMF initially denied that they had any
significant role.  The IMF's then managing director maintained (in
December 1997) that the crisis in Asia was due to inadequate capital
liberalisation and that speculative funds and activities did not play
any causative role.  It was only after the LTCM meltdown that the IMF
took the role of hedge funds (and their great leverage) seriously.   As
mentioned earlier, the present IMF managing director has admitted
earlier this year that IMF staff do not adequately understand the
capital markets and he urged them to get to know the markets better.
This is a remarkable admission, which is very much to be welcomed.  For
years the IMF secretariat had been advocating that developing countries
open their capital account, which would open them more directly to the
forces of international capital markets.  Also, there were strong moves
to add capital account liberalisation to the mandate of the IMF through
an amendment to the articles of association.  This advocacy that
developing countries open themselves to the full force of global capital
markets, when the Fund itself had inadequate knowledge of the capital
markets, was surely remarkable, and in hindsight a great mistake with so
many adverse consequences.  With the recent admission of lack of
knowledge, let us hope the Fund is starting a learning process that will
lead to recognition of previous errors and a more appropriate, cautious
approach with a change in policy advice to developing countries.

Regarding double standards, the following are some examples.  The IMF
insisted as part of the policy package that local firms and banks should
not be bailed out (on the ground of moral hazard) but there was a
perception that foreign creditors were being bailed out (thus the moral
hazard argument did not apply to them).  Governments of developed
countries often arrange rescue operations for institutions and
corporations facing financial crisis (eg the savings and loans crisis,
the LTCM crisis, both in the US); yet government intervention to rescue
important national firms was frowned on by IMF. Developed countries
facing recessionary conditions typically make use of Keynesian-type
counter-recession measures; however the opposite measures were applied
to the affected Asian countries.  Moreover, there is the perception that
some demands included in conditionality were placed there by major
shareholders and reflected their interests and not the interests of the
affected country which had to accept such conditions under duress.  The
element of double standard is also there: why is it that major
shareholders' narrow interests are accommodated rather than the
interests of the affected country?

These questions affect the ownership of conditionality.



VI:   SOME GENERAL POINTS

In examining the relation between ownership and conditionality, there
can be the following scenarios.  First, the conditionality policies are
inappropriate and the country owns them fully and implements
effectively. Secondly, the policies are inappropriate and the country is
reluctant to own them and implementation is not so good. Thirdly, the
policies are appropriate but the country does not own them and does not
implement well.  Fourthly, the policies are good, the country owns them
and implements fully.

In the first case there is ownership but adverse results.  In the second
case there is no ownership or reluctant ownership and the results are
perhaps not as adverse as in the first case.  In the third case the
problem is not the policies but how to get them accepted. The fourth
case is the ideal.

It should be recognised that there is also a major difference between
"acceptance" and "genuine ownership."   In most official discussions,
the "ownership" problem refers to how to get the recipient country to
accept and internalise the policies (which are as usual made by the IMF
and not the country) so that there is a better implementation rate.  In
the context of such discussions, a more accurate term would be
"acceptance".  Genuine ownership implies that the recipient country is
allowed rights to participate in policy formulation itself, so that the
conditionality package is truly "owned" by the country.   The feeling of
ownership comes with the right and practice of participation in policy
making.

It should go without saying that appropriateness of conditionality
policies in terms of being in the interests of the debtor countries is
the key issue to be resolved. "Acceptance" of externally imposed
conditionality by the debtor countries is secondary and dependent on
it.  Moreover, the right to participate in policy making, and thus
genuine ownership, is a critical element in ensuring appropriate
conditionality and its implementation.

The role of the Secretariat is important in whether the process, the
policy formulation and the outcome is successful. For that to happen,
the Secretariat must be seen to be impartial, working for the interests
of the recipient country, possessed with adequate knowledge of the
international situation, of the domestic situation and conditions, and
the ability to help the country come up with appropriate policies.  If
the Fund is to be perceived to be playing this role, much has to be done
to earn the credibility and confidence.

The role of the major shareholder countries is even more important.  The
public perception is that they would like to make use of the Fund for
their interests, often at the expense of recipient countries and their
people.  The perception is that the major shareholders (who are also the
home countries of the major creditor and investor institutions) make use
of their position to skew the policy conditions in a manner that is
biased in favour of creditors and investors.   Is there a conflict of
interest in their making use of the vulnerable state that debtor
countries find themselves in, as leverage for imposing policies that are
in their own narrow interests, even if these are against the interests
of the debtor countries?

Finally, it is difficult or even impossible to ensure that the interests
of debtor countries will be adequately reflected in conditionality and
Fund decisions when the voting rights in the Fund are so skewed towards
the creditor countries.  Thus, the issue of the relationship between
ownership and conditionality has to face up to the issue of the
ownership of the IMF itself.
When decision-making rights are so imbalanced as they now are, it is not
a wonder that the developed countries are perceived to be controlling
the Fund's policies, and in a manner that reflects their own interests
rather than the interests of the whole membership.  This situation is
likely to continue until there is a fairer balance in the
decision-making system. There is a dire need for the modernisation and
democratisation of the governance system, including a revision of the
quota and voting system.  This can be accompanied by genuine reform of
IMF policies and priorities.  The issue of "ownership and
conditionality" can then be better resolved in that context.


Martin Khor
Third World Network
twnet@po.jaring,my

Berlin, 12 June 2001