Summers' speech on shrinking the IMF

[Robert Weissman <rob@essential.org>]

TREASURY NEWS
FROM THE OFFICE OF PUBLIC AFFAIRS

EMBARGOED UNTIL 6:00 PM (LOCAL TIME)
Text as Prepared for Delivery
December 14, 1999
LS-294

            THE RIGHT KIND OF IMF FOR A STABLE GLOBAL FINANCIAL SYSTEM"
                TEASURY SECRETARY LAWRENCE H. SUMMERS REMARKS TO
                              THE LONDON SCHOOL OF BUSINESS
                                       LONDON, ENGLAND

These are challenging times for the international community. That
globalization offers enormous potential for raising global
living standards and opportunities is not in question. What is, in many
ways, the public challenge of our time is showing all
of the world's citizens that international integration will work for them. 

No part of that challenge will be more important for global prosperity
than helping countries to develop the capacity to realize
the benefits of a global flow of capital and to manage its risks. This is
the goal at the heart of the global initiative that has
come to be called the reform of the international financial architecture,
which will take another step forward this week in
Berlin as finance ministers and central bank governors from key industrial
and emerging market economies gather for the
first regular meeting of the G20. 

There are many aspects of financial architecture. Today I would like to
draw on recent experiences and the active debate that
these have provoked to consider the future role of the IMF. This seems an
appropriate occasion to focus on the IMF
because, for the moment, the crisis of recent years has passed, and the
prospect of new leadership at the IMF is drawing
near. 

Recent events have reaffirmed that the IMF is indispensable. We would all
of us involved with global finance be breathing
less easily this holiday season if the IMF had not taken the steps that it
did in response to the crises in Asia and elsewhere.
But as I have said many times, to say that the IMF is indispensable is not
to say that we can be satisfied with the one we
now have. 

The founders of the Bretton Woods institutions more than half a century
ago were right to recognize that there could be no
successful global integration without financial stability within countries
and a well-functioning system for the flow of capital
between them. This was the painful lesson of the 1930s, when the absence
of an effective international response to financial
panics helped pave the way for deflation and depression - and ultimately,
World War II. The same lesson has been taught
again and again in the postwar period.

While that insight remains valid today - indeed, has been pointed up by
recent events in Asia and elsewhere - a great deal in
the global economy has changed since Bretton Woods. The framing new
reality of the late 20th century global financial
system is that the private sector is the overwhelming source of capital
for growth.

This has been true domestically and increasingly in the flow of capital to
emerging markets:

       In the 1990s, nearly $1.3 trillion in private capital has flowed to
the emerging market economies, compared to
       around $170 billion in the previous decade. 
       In 1990, one emerging market economy issued a sovereign Eurobond.
In 1998, nearly twenty did. 

As we have seen in so many areas - ranging from mortgage finance in
industrial countries to building bridges and roads in
the developing world - as private capital markets develop, the role of the
public sector increasingly shifts from providing
finance to providing a framework for strong and sustainable private sector
flows. 

The IMF must reflect that change, with a focus on promoting financial
stability within countries, a stable flow of capital
between them, and rapid recoveries following any financial disruptions.
Apart from the question of concessional finance for
the poorest countries, an issue to which I will return, a reduced emphasis
on the provision of finance is desirable. It is also
inevitable. The IMF cannot expect its financial capacity to grow in
parallel with the growth of private sector capital flows. 

The best organizations are constantly reinventing themselves. The same
should be true of international organizations. This is
a matter of policies and procedures, but also and perhaps most crucially
of culture and orientation. We believe that to
maximize the IMF's effectiveness, consideration should be given to six
critical areas:

       A greater focus on promoting the flow of information from
governments to markets and investors. 
       Attention to financial vulnerability as well as macro-economic
fundamentals. 
       A more selective financing role that is focused on emergency
situations. 
       Greater emphasis on catalyzing market-based solutions. 
       A more limited role in the poorest countries focused on growth and
poverty reduction. 
       Modernization of the IMF as an institution.

We will be outlining these proposals in more detail to the members of the
IMF going forward and working with them to
build the consensus necessary to bring about real change.

I. Promoting the Flow of Information to Markets 

In a more integrated global capital market, IMF surveillance needs to
shift from a focus on collecting and sharing
information within the club of nations - to promoting the collection and
dissemination of information for investors and
markets.

If one were writing a history of the American capital market I would
suggest to you that the single most important innovation
shaping that capital market was the idea of generally accepted accounting
principles. Countries all over the world need that
kind of infrastructure, and the IMF needs to promote that goal in its
dealings with member governments. 

Notably:

       The IMF needs to encourage more countries to adopt and comply with
the Special Data Dissemination Standard,
       including its new provisions relating to the reporting of reserves.
We also need to add to the SDDS both
       strengthened standards for reporting external debt and indicators
of financial sector soundness. 
       It needs to: encourage countries to implement the many
international standards and codes for sound policies that are
       being developed; assess, with the World Bank and others, countries'
compliance with these benchmarks going
       forward; and release these assessments publicly. 
       It needs to pay more attention, not just to the quantity of
information disclosed to markets, but also to its quality. In
       the context of countries receiving IMF finance we believe it is
appropriate that independent external audits of central
       banks and other relevant government entities be required and
published. This should be something that private
       capital markets come to expect - and look to the IMF to promote in
other contexts. 

More generally, we are learning that transparency and the closely related
issues of governance and corruption are
fundamental to maintaining financial stability - indeed, they may be as
important as the details of the budget. Substantial
deficiencies in the accuracy and quantity of data that a country discloses
should be noted in the course of IMF surveillance,
and highlighted in the way that more conventional macro-economic
deficiencies are highlighted. It should no longer be
tenable for countries to block the release by the IMF of key data that
would help investors make better-informed decisions.

Not Just Macro-economic Fundamentals but Financial Vulnerability 

Just as the goal of IMF surveillance needs to change, so too must its
content. Every crisis teaches lessons of emphasis.
Refining our understanding of what makes countries vulnerable to
modern-style crises and helping countries to guard
against those risks will be a central focus for the G20 as it carries
forward its work. And here too, the IMF can play a critical
role. 

The series of crises that began with Thailand in the summer of 1997 - and
the Mexican crisis of 1995 - each had a variety of
elements. But looking back we can now see that central to all of them was
a sudden loss of confidence and large-scale
withdrawal of capital by domestic and foreign investors, initially out of
a concern about the fundamentals, but increasingly
out of a concern not to be the last out. A kind of bank run psychology
took hold, and the opportunity to fix the problems that
had triggered the crisis, without up-ending the economy, drained away. 

In the wake of these events, the IMF needs to focus its attention on
countries' vulnerability to this kind of dynamic. It
should no longer be possible to joke, as I have done in the past, that IMF
stands for It's Mostly Fiscal. 

Two changes in IMF practices will be essential.

A greater focus on the strength of national balance sheets

While it has become fashionable to blame capital account crises on a
voracious global capital market, a large part of the
problem in these crises came from governments' own efforts to attract
short-term inflows that could not reasonably be
sustained. We saw this, for example, in Mexico, with the increasing resort
to issuing dollar-indexed Tesobonos in the
lead-up to crisis; we saw it in Thailand in tax breaks for offshore
foreign borrowing; and we saw it in Russia, in the
government's efforts to attract foreign capital to the domestic bond
market.

In light of these experiences, the IMF should actively promote a more
fully integrated assessment of a country's liquidity
and balance sheet. Governments need to think long and hard about their
approach to financial liberalization - and, in
particular, the dangers of opening up to short-term capital in the
presence of too many domestic guarantees. And they need
to manage the government's own debt in a way that best insures them
against future risks. The most sophisticated debt
managers are not those who achieve the lowest possible cost of borrowing.

What you count, counts. We believe that the IMF should work with member
countries, including through the G20, to
develop and publish a set of explicit quantitative indicators that provide
more meaningful guides to the adequacy of country's
reserves than simply their size relative to imports. For example: the
maturity of the sovereign's debt and any worrisome
deterioration in it; the scale of foreign currency related claims on the
official sector; and the scale, maturity and composition
of aggregate external claims on the financial and corporate sectors. 

Highlighting more clearly the risks of unsustainable exchange rate regimes

These crises have reaffirmed the impossibility of maintaining both a fixed
exchange rate and substantial discretion in
domestic monetary policy. The IMF must increasingly bring to the fore in
its discussions with countries the implications of
this fact when it comes to the choice of an exchange rate regime.

Countries maintaining a fixed exchange rate should be expected to make
explicit the extent to which monetary policy is to be
subordinated to the exchange rate objective. And those using fixed
exchange rates as a tool of disinflation should be
expected to disclose the nature of their exit strategy. The presumption
needs to be that countries that are involved with the
world capital market should increasingly avoid the "middle ground" of
pegged exchange rates with discretionary monetary
policies, in favor of either more firmly institutionalized fixed rate
regimes or floating.

III. Focusing Finance on Emergency Situations 

International financial institutions, no less than private companies, need
to focus on core competencies. Going forward the
IMF needs to be more limited in its financial involvement with countries,
lending selectively and on short maturities. It can
and must be in the front line of the international response to financial
crises. It should not be a source of low-cost financing
for countries with ready access to private capital, or long-term welfare
for countries that cannot break the habit of bad
policies. 

This suggests a number of core imperatives:

A more selective financial role

The IMF must be a last, not a first, resort - and its facilities and
approaches should increasingly reflect that. We believe that
the IMF's shareholders and management need to review carefully and
comprehensively the myriad lending facilities that
have been established over time. That review should be guided by the
principles that official finance should be a backstop,
not an alternative, to private sector finance.

In our view, a necessary result of this kind of streamlining would be that
longer-term lending would be phased out as a
normal part of IMF operations and that the IMF would come to rely on three
core instruments for the bulk of its lending.
These would be: 

       The new Contingent Credit Line, to help countries ward off external
contagion. 
       Short-term stand-by arrangements for countries with non-systemic
balance of payments problems. 
       The Supplementary Reserve Facility (SRF), for countries suffering
systemic capital account crises, to be lent on a
       very short-term basis at prices to encourage rapid repayment. 

The question of the pricing of these facilities needs careful
consideration. The agreement on premium finance for the SRF in
1997 was an historic step. Going forward it would be appropriate to
introduce significantly higher charges for normal
standby loans to deter excessive recourse to the core IMF financing
arrangements. We also believe that it makes sense to
consider making the terms of the CCL more attractive than those of the SRF
- so as to motivate countries to invest earlier in
policy changes that will better protect them from contagion.

As we said many times in 1998, when the world faces a truly exceptional
systemic threat, it is vital that the IMF continue to
be in a position to provide very large scale financing to respond to that
threat. But the overwhelming presumption must be
that, in all but a fraction of cases, normal access limits will apply.

Effective conditionality 

When crises come, there can be no hard and fast rules for an effective
response. The sources of crises vary, and so must the
solutions. But it bears emphasis that those who have carried out
consistently their programs with the IMF - Mexico,
Thailand, Korea, and more recently, Brazil - have all seen very strong
results. By contrast, the more dramatic failures of this
period have followed countries' unwillingness to follow through on
commitments in their programs - as in Russia in 1998
and Indonesia the previous year.

In the wake of recent crises there has been and will doubtless continue to
be great debate about the appropriate scope for
IMF policy conditions. The basic principle is clear: programs must be
focused on the necessary and sufficient conditions for
restoring stability and growth. Intrusion in areas that are not related to
that goal carries costs that exceed the benefits, and
may undermine the legitimacy of the IMF's advice. But the stability of
banking systems, issues of social cohesion and
inclusion, and the capacity to enforce contractual arrangements - these
will all, in many cases, be critical to restoring
confidence, and they can and should be addressed as a condition for IMF
support. 

In thinking about conditionality, we should never forget that financial
stability is only a means to the ultimate objective of
restoring growth. Austerity can never be an objective for its own sake.
But avoiding hyperinflation and maintaining
confidence in a country's currency are essential to restoring growth. The
IMF staff is to be commended for altering initial
judgments about the need for contractionary fiscal policy in Asia as the
depth of the recession became more evident.

We can never guarantee that the right balance will be struck in every
case. But let us be clear: the success of a government in
implementing its program with the IMF will and must be judged by the
restoration of sustainable growth. 

A clear path toward graduation

There is no economy too prosperous to benefit from the analysis and
insights afforded by regular consultations with the
IMF. But the IMF should not and need not be financially involved in
countries forever. In 1976 people were not surprised
when the UK turned to the IMF. Today it is inconceivable. The IMF's goal
now must be to mark a path for the graduation
of the emerging market economies, so that they too will reach the point
when calling on the IMF for financial support is
unthinkable.

Achieving this will involve a number of reforms. A reduced willingness on
the part of the IMF to offer long-term finance is
one. Higher pricing to deter prolonged use would be another. Going forward
the IMF should also be insisting on stronger
prior actions in countries with a record of missing targets and not
completing programs - and considering other ways that
repeated resort to the IMF might be discouraged. 

Supporting the Right Kind of Private Sector Involvement

In a world of private capital flows the IMF has not, cannot and should not
aspire to having financial capacity that is
proportionate to those flows. That goes to the need for rapid graduation
of countries from IMF support. It goes to the need
for constant vigilance about the scope for alternative private sources of
finance. And in times of crises - it points up an
important role for the IMF as a facilitator of more market-based
solutions. 

In order to play this role more effectively we believe that the IMF should
establish a Market Conditions Advisory Group to
help it have a deeper knowledge of the private sector systematic access to
market trends and views. In the context of
individual crises, the official sector should also stand ready to
facilitate coordination among debtors and creditors, including
through creditor committees, where these are appropriate. 

We all need to recognize that a capital market depends on the idea that
debtors must meet their obligations if they can, but
that there will be times when debtors cannot meet their obligations. A
global capital market in which dozens of issuers are
issuing at spreads of hundreds of basis point can only function if there
is the capacity for managing situations where debts
cannot be serviced in full and on time. 

In its response to crises, several basic presumptions should now be
guiding the IMF's approach with respect to the private
sector. 

       IMF lending should be a bridge to and from private sector lending
not a long-term substitute. 
       Official lending along with policy changes can be constructive in
helping to restore confidence in situations where a
       country does have the capacity to repay. 
       Where possible, the official sector through its conditionality
should support approaches - as in Korea and, more
       recently, Brazil - that enable creditors to recognize their
collective interest in maintaining positions, despite their
       individual interest in withdrawing funds. Such agreements should
have the maximum feasible degree of
       voluntarism, but they should not fill short-term financing gaps in
a way that promises renewed problems down the
       road. 
       As we have seen, for example in Pakistan and Ecuador, it will be
necessary in some rare cases for countries to seek
       to change the profile and structure of their private sector debts. 
       In exceptional cases, the IMF should be prepared to provide finance
to countries that are in arrears to their private
       creditors: but only where the country has agreed to a credible
adjustment program, is pursuing a cooperative and
       transparent approach with its creditors, and is focused on a
realistic plan for addressing its external financing
       problems that will be viable over the medium and longer term. 

We have become convinced that it is not appropriate for the official
sector to mandate the terms of debt contracts between
countries and their creditors. But lenders and borrowers alike must
recognize that if they choose contractual arrangements
that are costly and inefficient in the event of failures, the official
sector will not be prepared to shoulder the consequences. 

A New Focus on Growth and Poverty Reduction in the Poorest Countries 

The focus of my remarks has so far have been directed at the IMF's work in
emerging markets. Different issues are posed
by the poorest countries, which cannot attract significant private
capital, and can borrow from the official sector only on
concessional terms.

Helping these nations has rightly been high on the global agenda in recent
months in our efforts to translate debt relief for the
Heavily Indebted Poor Countries into concrete reductions in poverty. As
part of this effort, we have worked closely with the
UK and others to establish a fundamentally new framework for the
international community's efforts to combat poverty, one
that gives the World Bank the lead and the IMF a more tightly focused
role. 

The premise for this new approach is that macro-economic stability may be
necessary, but it is far from being sufficient to
creating lasting and inclusive growth. The approach looks to the IMF to
continue to certify that a country's macro-economic
policies are satisfactory before debt is relieved or new concessional
lending is advanced. But much of the dialogue between
countries and the official sector will center on issues relating to
poverty that have not traditionally received the attention they
deserve. 

As a result of recent agreements among the G7, I am confident that a
number of countries - including Bolivia, Uganda,
Mozambique and Mauritania - will be able to benefit from the Cologne
initiative very early in the new year, with a number of
others also benefiting before the Spring meetings of the World Bank and
IMF in Washington. What will be critical will be
effectively implementing the new framework for official support in these
and other countries, so that the poorest will also
see rapid results. 

VI. Institutional Reform

Finally, if the work of the IMF is to change, its nature may need to
change in the 21st century as well. 

       It should move over time toward a governing structure that is more
representative and a relative allocation of
       member quotas that reflects the changes under way in the world
economy - so that each country's standing and
       voice is more consistent with their relative economic and financial
strength. 
       It should deepen the commitment to transparency that is built into
the IMF's own operations, especially by making
       the IMF's own financial workings clearer and more comprehensible to
the public. For example, there is no reason
       why there should not be regular publication of the IMF's
operational budget. 
       And it should become more attuned, not just to markets, but the
broad range of interests and institutions with a stake
       in the IMF's work. Just as the institution need to be more
permeable for information to flow out, so too must it be
       permeable enough to let in new thoughts - by maintaining a vigorous
ongoing dialogue with civil society groups and
       others. 

This seemed a propitious moment to focus on the IMF. But as our
international discussions on these issues continue, it will
be important for its shareholders to consider not just the role of the
IMF, but the World Bank and other development
institutions and also how these institutions relate to each other.

Concluding Remarks 

Let me re-emphasize the observation with which I began. As important as it
is, the IMF is just one component of the
international financial architecture. Indeed, if I have learned one thing
in my seven years in government, it is that national
policy shapes national outcomes. The international community cannot want
reform and stability in a country more than its
own government and people do. 

But international institutions do matter, and so do the individuals who
lead them. Michel Camdessus's imaginative
leadership has made its mark in helping the IMF prepare itself for a 21st
century global financial system. What is critical is
that we maintain the spirit of change and adaptation in the months and
years ahead. Thank you.