IMF & India: Dr. C S Shaijumon

IMF&

ITS IMPACT ON INDIA

Dr. C S ShaijumonIndian Institute of Space Science & Technology

Dept. of Space, Govt. Of India

International Monetary FundInternational Monetary Fund

The International Monetary Fund was formally created in July 1944 during the United Nations Monetary and Financial Conference. The representatives of 44 governments met in the Mount Washington Hotel in the area of Bretton Woods, New Hampshire, United States of America, with the delegates to the conference agreeing on a framework for international economic cooperation.

World Bank & IMF

World Bank provides long-term loans for promoting balanced economic development, while IMF provides short-term loans to member countries for eliminating BOP disequilibrium.

Both these institutions are complementary to each other. Few economists have even suggested that the two organizations should be merged.

CREATIONCREATIONThe IMF was formally organized on December 27, 1945. The International Monetary Fund was created with a goal to stabilize exchange rates and assist the reconstruction of the world's international payment system. Countries contributed to a pool which could be borrowed from, on a temporary basis, by countries with payment imbalances.

The IMF describes itself as "an organization of 188 countries (South Sudan being the 188th, as of April 18, 2012).

Most are represented by other member states on a 24-member Executive Board but all member countries belong to the IMF's Board of Governors.

The IMF financial year is from 1 May to 30th April.

OBJECTIVESOBJECTIVESAccording to ‘Articles of Association’ of the IMF, its main objectives are:

• To promote international monetary co-operation.

• To ensure balanced international trade.

• To ensure exchange rate stability.

• To eliminate or to minimize exchange restrictions by promoting the system of multilateral payments.

• To grant economic assistance to member countries for eliminating the adverse imbalance in balance of payments.

• To minimize imbalances in quantum and duration of international trade.

The IMF supports its membership by providing

• policy advice to governments and central banks based on analysis of economic trends and cross-country experiences;

• research, statistics, forecasts, and analysis based on tracking of global, regional, and individual economies and markets;

• loans to help countries overcome economic difficulties;

• concessional loans to help fight poverty in developing countries; and

• Technical assistance and training to help countries improve the management of their economies.

• By the early 1960s, the U.S. dollar's fixed value against gold, under the Bretton Woods system of fixed exchange rates, was seen as overvalued. A sizable increase in domestic spending on President Lyndon Johnson's Great Society programs and a rise in military spending caused by the Vietnam War gradually worsened the overvaluation of the dollar.

Organization• The IMF is led by a Managing Director, who is head of the

staff and Chairman of the Executive Board. The Managing Director is assisted by a First Deputy Managing Director and three other Deputy Managing Directors. According to the IMF's Articles of Agreement, the Managing Director "shall be chief of the operating staff of the Fund and shall conduct, under the direction of the Executive Board, the ordinary business of the Fund.

• The current Managing Director, Christine Lagarde, a French national, joined the IMF as Managing Director in July 2011. Before coming to the IMF, she was France's Minister for Economy, Finance and Industry.

Resources of IMF

• The quota system - Each member of the IMF is assigned a quota, based broadly on its relative size in the world economy, which determines its maximum contribution to the IMF’s financial resources.

• The current quota formula is a weighted average of GDP (weight of 50 percent), openness (30 percent), economic variability (15 percent), and international reserves (5 percent). For this purpose, GDP is measured through a blend of GDP—based on market exchange rates (weight of 60 percent)—and on PPP exchange rates (40 percent). The formula also includes a “compression factor” that reduces the dispersion in calculated quota shares across members.

• Quotas are denominated in Special Drawing Rights (SDRs), the IMF’s unit of account. The largest member of the IMF is the United States, with a current quota of SDR 42.1 billion (about $65 billion), and the smallest member is Tuvalu, with a current quota of SDR 1.8 million (about $2.78 million).

• Quotas are reviewed at least every five years. In 2010, the 14th General Review of Quotas was completed, and the IMF’s members agreed that the Fund’s quota resources should be doubled to SDR 476.8 billion.

• A member's quota subscription determines the maximum amount of financial resources the member is obliged to provide to the IMF. A member must pay its subscription in full upon joining the Fund: up to 25 percent must be paid in SDRs or widely accepted currencies (such as the U.S. dollar, the euro, the yen, or the pound sterling), while the rest is paid in the member's own currency. Each IMF member’s votes are comprised of basic votes plus one additional vote for each SDR 100,000 of quota.

Name of the Country Vote Share (%) Quota Share(%)USA 16.75 17.69Japan 6.23 6.56Germany 5.81 6.12UK 4.29 4.51France 4.29 4.51China 3.81 4Italy 3.16 3.31Canada 2.56 2.67Russia 2.39 2.5India 2.34 2.44Brazil 1.72 1.79South Africa 0.77 0.78

• Total voting share of EU is about 25%• Share of BRICS countries

• BRICS countries account for 40 per cent of the world’s population and 20 per cent of its GDP

Name of the Country Vote Share (%) Quota Share(%)

Brazil 1.72 1.79

Russia 2.39 2.5

India 2.34 2.44

China 3.81 4

South Africa 0.77 0.78

Total 11.03 11.51

• Special Drawing Rights• The Special Drawing Right (SDR) is an international reserve asset, created

by the IMF in 1969 to supplement the existing official reserves of member countries.

• The SDR is neither a currency, nor a claim on the IMF. Rather, it is a potential claim on the freely usable currencies of IMF members. Holders of SDRs can obtain these currencies in exchange for their SDRs in two ways: first, through the arrangement of voluntary exchanges between members; and second, by the IMF designating members with strong external positions to purchase SDRs from members with weak external positions.

• The value of the SDR is based on a basket of key international currencies—the euro, Japanese yen, pound sterling, and U.S. dollar. The basket composition is reviewed every five years by the Executive Board to ensure that it reflects the relative importance of currencies in the world’s trading and financial systems.

• The SDR interest rate is determined weekly and is based on a weighted average of representative interest rates on short-term debt in the money markets of the SDR basket currencies.

• Two types of allocations – General and Special

• Gold holdings

• The IMF’s gold holdings amount to about 90.5 million troy ounces (2,814.1 metric tons), making the IMF the third largest official holder of gold in the world. However, the IMF’s Articles of Agreement strictly limit the use of this gold. If approved by an 85 percent majority of voting power of member countries, the IMF may sell or accept gold as payment by member countries but it is prohibited from buying gold or engaging in other gold transactions.

• In December 2010, the IMF sold  403.3 metric tons of gold —about one-eighth of its holdings The limited gold sale was conducted under strong safeguards to avoid market disruption and all gold sales were at market prices, including direct sales to official holders.

IMF Lending• Concessional Lending

Low-income countries may borrow on concessional terms through the Extended Credit Facility (ECF), the Standby Credit Facility (SCF) and the Rapid Credit Facility (RCF). Concessional loans carry zero interest rates until the end of 2014.

• Non-Concessional Lending

Non-concessional loans are provided mainly through Stand-By Arrangements (SBA), the Flexible Credit Line (FCL), the Precautionary and Liquidity Line (PLL), and the Extended Fund Facility (which is useful primarily for medium- and longer-term needs). The IMF also can provide emergency assistance via the Rapid Financing Instrument (RFI) to all its members facing urgent balance of payments needs. All non-concessional facilities are subject to the IMF’s market-related interest rate, known as the “rate of charge,” and large loans (above certain limits) carry a surcharge. The rate of charge is based on the SDR interest rate, which is revised weekly to take account of changes in short-term interest rates in major international money markets.

End of Bretton Woods system

•The system dissolved between 1968 and 1973. In August 1971, U.S. President Richard Nixon announced the "temporary" suspension of the dollar's convertibility into gold.

•Since the collapse of the Bretton Woods system, IMF members have been free to choose any form of exchange arrangement they wish (except pegging their currency to gold): allowing the currency to float freely, pegging it to another currency or a basket of currencies, adopting the currency of another country, participating in a currency bloc, or forming part of a monetary union.

•Many feared that the collapse of the Bretton Woods system would bring the period of rapid growth to an end. In fact, the transition to floating exchange rates was relatively smooth, and it was certainly timely: flexible exchange rates made it easier for economies to adjust to more expensive oil, when the price suddenly started going up in October 1973. Floating rates have facilitated adjustments to external shocks ever since.

Helping poor countries From the mid-1970s, the IMF sought to respond to the balance of

payments difficulties confronting many of the world's poorest countries by providing concessional financing through what was known as the Trust Fund. In March 1986, the IMF created a new concessional loan program called the Structural Adjustment Facility. The SAF was succeeded by the Enhanced Structural Adjustment Facility in December 1987.

The oil shocks of the 1970s, which forced many oil-importing countries to borrow from commercial banks, and the interest rate increases in industrial countries trying to control inflation led to an international debt crisis.

• So when interest rates began to soar in 1979, the floating rates on developing countries' loans also shot up.

• When a crisis broke out in Mexico in 1982, the IMF coordinated the global response, even engaging the commercial banks. It realized that nobody would benefit if country after country failed to repay its debts.

• The fall of the Berlin wall in 1989 and the dissolution of the Soviet Union in 1991 enabled the IMF to become a (nearly) universal institution. In three years, membership increased from 152 countries to 172, the most rapid increase since the influx of African members in the 1960s.

• The IMF played a central role in helping the countries of the former Soviet bloc transition from central planning to market-driven economies. This kind of economic transformation had never before been attempted, and sometimes the process was less than smooth.

Asian Financial Crisis

• In 1997, a wave of financial crises swept over East Asia, from Thailand to Indonesia to Korea and beyond. Almost every affected country asked the IMF for both financial assistance and for help in reforming economic policies.

• From this experience, the IMF drew several lessons that would alter its responses to future events.

First, it realized that it would have to pay much more attention to weaknesses in countries’ banking sectors and to the effects of

those weaknesses on macroeconomic stability.

Second, the Fund realized that the institutional prerequisites for successful liberalization of international capital flows

were more daunting than it had previously thought.

Third, necessitated a re-evaluation of how fiscal policy should be adjusted when a crisis was precipitated by a sudden stop in

financial inflows.

Debt relief for poor countries• During the 1990s, the IMF worked closely with the World Bank to

alleviate the debt burdens of poor countries. The Initiative for Heavily Indebted Poor Countries was launched in 1996, with the aim of ensuring that no poor country faces a debt burden it cannot manage. In 2005, to help accelerate progress toward the United Nations Millennium Development Goals (MDGs), the HIPC Initiative was supplemented by the Multilateral Debt Relief Initiative (MDRI).

Global Financial Crisis

• The global economic crisis that began with the collapse of mortgage lending in the United States in 2007, and spread around the world in 2008 was preceded by large imbalances in global capital flows.

• Phase I – USA Phase II – EU• The most rapid increase has been experienced by advanced

economies, but emerging markets and developing countries have also become more financially integrated.

• The latest global crisis uncovered a fragility in the advanced financial markets that soon led to the worst global downturn since the Great Depression. Suddenly, the IMF was inundated with requests for stand-by arrangements and other forms of financial and policy support.

The volume of loans provided by the IMF has fluctuated significantly over time.

The oil shock of the 1970s and the debt crisis of the 1980s were both followed by sharp increases in IMF lending.

In the 1990s, the transition process in Central and Eastern Europe and the crises in emerging market economies led to further surges of demand for IMF resources.

Deep crises in Latin America and Turkey kept demand for IMF resources high in the early 2000s.

IMF lending rose again in late 2008 in the wake of the global financial crisis.

IMF has played an important role in Indian economy. IMF has provided economic assistance from time to time to India and has also provided appropriate consultancy in determination of various policies in the country.

Till 1970, India was among the first five nations having the highest quota with IMF and due to this status India was allotted a permanent place in Executive Board of Directors.

In July 2004, India and IMF joint training programme at the National Institute of Bank Management, Pune was established.