The Economist: IMF Under Attack: Sick patients, warring doctors

[Robert Weissman <rob@essential.org>]

The Economist
September 18th - 24th 1999
 FINANCE AND ECONOMICS
 Sick patients, warring doctors
 S T O C K H O L M    A N D    W A S H I N G T O N ,    D C
The International Monetary Fund is under attack, not least from its sister
organisation, the World Bank, for prescribing the wrong medicine to bring
economic health to poor and ex-communist countries
THE patients span the globe from Vietnam to Venezuela. The doctors face
each
other across 19th Street in Washington and dispense their medicine
together.
Their remedies, dubbed the Washington consensus, include tight fiscal and
monetary policies, freer trade and capital flows, and privatisation. For
much
of the 1990s, these were accepted as the best ways to make the transition
from poverty to prosperity and from communism to capitalism. The
consensus?s
sponsors, the International Monetary Fund (IMF) and the World Bank, stood
unchallenged as the world?s top economic doctors.
No longer. After a series of financial crises from South Korea to Brazil,
and
an economic meltdown in Russia, the consensus has broken down. Many
traditional prescriptions have been discredited and the doctors are at
loggerheads with each other. Joseph Stiglitz, chief economist of the World
Bank, who was vocal in his criticisms of IMF economic advice in Asia last
year, is now equally vocally lambasting the Fund?s record in transition
economies. Although he is not officially speaking for the World Bank, it is
widely believed that the Bank?s boss, James Wolfensohn, shares his views.
Partly, the fracas is the inevitable result of apparent failure. But it
also
has a more subtle cause. In recent years the Fund and the Bank have been
hijacked by their major shareholders for overtly political ends. Whether in
Mexico in 1994, Asia in 1997 or Russia throughout the 1990s, the
institutions
have become a more explicit tool of western, and particularly American,
foreign policy. Only this week the two bodies were using their economic
muscle to pressure the Indonesian government into accepting an
international
peacekeeping force in East Timor. Such politicisation, many feel, threatens
their credibility in handing out disinterested policy advice.
The focus of a lot of criticism is the IMF?s record in Russia. Almost a
decade after reforms began, the place is a mess. Around 60m people, almost
half the population, live below the poverty line. Income inequality has
risen; life expectancy has plummeted. Corruption is massive and endemic.
Mr Stiglitz says much of this dismal performance stems from the
intellectual
inadequacies of the previous approach. There was, he argues, too much
emphasis on macroeconomic stabilisation at the expense of
institution-building. Privatisation was pushed too far too fast, and,
without
the right regulatory framework, was bound to fail. Western advisers wrongly
thought that privatisation would create a demand for protection of property
rights. Instead, new owners stripped the assets and transferred the money
abroad, helped by a misguided liberalisation of capital flows. The result
was
a country riddled with cronyism and corruption.
It would have been better, argues Mr Stiglitz, to have proceeded more
slowly?building a regulatory framework before privatisation, and
concentrating on strengthening the rule of law and on creating effective
institutions, such as courts. He likens the misguided zeal with which
Russian
reformers and their western advisers set about changing a society overnight
to that of the Jacobins and, yes, the Bolsheviks. It is as if many western
advisers thought the Bolsheviks had the wrong textbooks but not the wrong
approach, he writes.
These comments have caused a furore. Anders Aslund, of the Carnegie
Endowment
for International Peace, an early adviser to the Russian government, says
mildly, ?Stiglitz is a striking embarrassment to himself and the World
Bank.
Without knowing anything, he mouths any stupidity that comes to his head.?
Officials at the Fund and the Treasury are more circumspect in public, but
there is little doubt that they too are furious.
Mr Stiglitz is plain wrong, these critics claim, to argue that nobody
emphasised the importance of building institutions. The World Bank itself
sent dozens of teams to help with legal reform, training judges and so
forth.
But the process is complicated and slow. Reformers did not have the luxury
of
waiting until it was complete.
Most reform veterans also reject Mr Stiglitz?s policy prescriptions. Few
accept that collapsing post-communist governments could have prevented the
looting of assets. In a recent paper*, John Nellis, a privatisation expert
at
the Bank, argues that, globally, privatisation has been a success.
Governments that botched it were equally likely to botch the management of
state-owned firms. He points to Ukraine, which is in even worse straits
than
Russia, as evidence that the Stiglitz strategy of going more slowly would
not
have worked. The evidence from Eastern Europe is that the speed of ?shock
therapy? has delivered better results than gradual reform.
Third, nobody denies that reform in Russia and elsewhere has had to contend
with political constraints. There were clear risks in rapid privatisation.
And there were unsavoury aspects to Russia?s reforms, particularly the 1995
policy of handing over shares in lucrative state jewels to the financial
oligarchs in return for short-term loans. But the political environment?the
chance of a return to communism, a collapse into fascism or even the
disintegration of a nuclear power?justified some risk-taking. The record of
the Bretton Woods institutions should be considered against this
background.
These arguments are not wholly convincing, however, not least because the
Fund did offer mistaken policy advice to some transition economies. Among
the
most successful countries have been those which, although strongly
reformist,
ignored the IMF on important questions. Estonia, for instance, successfully
reintroduced its pre-war currency, the kroon, in place of the rouble in
1992,
when the IMF was still calling for a single currency from Tallinn to
Tashkent.
And regardless of political constraints, the IMF, an overbearing
organisation
with a well-thumbed book of macroeconomic-policy nostrums, may have been
unsuited as an institution to handle the murky, stricken economies of
Eastern
Europe in the first place. ?Would you have wanted the IMF running the
Marshall Plan in Western Europe after the war??, asked Yegor Gaidar,
Russia?s
first radical reforming prime minister, at a recent conference in
Stockholm.
Still, the political and strategic arguments help to explain why economic
considerations often became secondary. That was why the Fund tolerated the
loans-for-shares scheme; why it relaxed lending criteria before the Russian
election in 1996; and why the Fund blew nearly $5 billion trying to prop up
the rouble up in July 1998.
Political and strategic considerations have also played a role in the IMF?s
recent reactions to financial crises elsewhere in the developing world.
Starting with the massive bailout for Mexico in 1994, via the enormous
support packages for Thailand, South Korea and Indonesia and ending with
its
failed attempt to prop up Brazil?s currency, the real, in 1998, the Fund?s
programmes have reflected its strategic as well as economic priorities?and
those of its major shareholders.
There have been economic miscalculations too. Most people now agree, for
instance, that defending fixed exchange rates for too long is a mistake. It
is broadly accepted that private creditors should share the burden of
unwinding economic crises; and that big public bailouts may create moral
hazard, increasing the risk of future crises. This week, a task-force
sponsored by the Council on Foreign Relations published a report that urged
countries to avoid fixed exchange rates and to discourage short-term
capital
inflows, and called on the IMF to return to its old policy of smaller
bailouts.
But if the political role the two institutions are being asked to play is
part of the problem, that needs to be addressed too. Another recent study*
argues that, just as independent central banks have proved better at
fighting
inflation, so a more independent IMF might be more effective at promoting
international financial stability.
Such reforms, the authors say, would insulate the IMF from short-term
political pressures, making its advice more credible and more effective.
Pretending to be economic handmaidens while in fact being political social
workers is a recipe for failure. On the other hand, the converse might also
be awkward: officials would no longer be able to blame political
constraints
when their economic medicine doesn?t work.

* ?An Independent and Accountable IMF? by Jose De Gregorio, Barry
Eichengreen, Takatoshi Ito and Charles Wyplosz. Geneva Reports on the World
Economy No 1.