*EPF414 10/14/2004
IMF Urged to Use Incentives to Resolve Financial Crises
(Setting loan benchmarks could motivate stable economic policies) (820)

By Andrzej Zwaniecki
Washington File Staff Writer

Washington -- The International Monetary Fund (IMF) should replace its current approach to lending for countries undergoing a financial crisis with an incentive system that ties assistance to publicly announced measurable results, a private economist says.

The IMF should establish a short list of benchmarks for loan eligibility, monitor whether a country meets those standards, and publish the list of countries that receive its guarantee of crisis assistance, says Allan Meltzer, an economist at Carnegie Mellon University and a former member of the President's Council of Economic Advisers.

Speaking October 14 at a conference on international monetary reform, Meltzer said that countries adopting and consistently meeting such standards could borrow more capital at a lower interest rate because creditors would consider those countries less risky.

"This would give the government and the public considerable incentive to adopt stabilizing policies," Meltzer said.

Under the current "command and control" system, as Meltzer called it, countries asking for IMF loans are required to implement certain policies. But when those policies turn out to be unpopular domestically, governments often renege on their promises, the countries' economic performance suffers, and the IMF is at least partially blamed by populations for a deepening crisis. Meltzer noted that about 60 percent of the IMF programs did not perform as expected.

He said that in recent years the IMF has improved its operations and recommendations by restricting conditions on its loans, de-emphasizing massive loan packages and paying more attention to crisis prevention. But he said the fund must institute further reforms covering, in addition to lending procedures, debt repayment.

Speaking at the same conference organized by a research organization, Cato Institute, Raghuram Rajan, the IMF's chief economist, said he agreed with some of Meltzer's observations and the need for change. He said that the IMF role in resolving crises should depend on the type of problem a particular country is experiencing. He said that in some instances the engagement of the IMF in a country reduces a pressure for reforms.

Rajan said that the IMF safety net should be tied to domestic policies and that access to the fund's lending should be broadened as a country improves its performance. He supported the idea of publishing a list of countries meeting IMF loan-access criteria and said that such a list should include developed countries to make those criteria universal benchmarks of good policies. He said that the IMF does not effectively have much leverage in asking developed countries to adjust their policies when those policies affect global economic developments.

On another issue, Rajan said that IMF governance needs to be reformed to make the decision-making process less politically driven. He said, however, that he was expressing his own views not those of the IMF or its management.

Another speaker, Kenneth Rogoff of Harvard University, proposed a more radical reform -- phasing out completely IMF lending and letting private markets and sovereign governments handle the resolution of crises. Rogoff, who preceded Rajan as the IMF's chief economist, said that the fund's role should be limited to providing surveillance and global financial leadership. He said that even without its own funds the fund could still play a central role in crisis resolution by coordinating the international response.

With the "explosion" of private markets, Rogoff said, the need to get out of the "banking" business is even more pronounced for the World Bank. He said he sees the bank's future as a "repository of development ideas and advice."

Meltzer said that in his view the main problem with the bank is that it spends or lends about $20 billion a year but "neither we nor they know which programs are effective and warrant expansion or retention, and which are ineffective and inefficient and should be abandoned." He proposed either conducting an independent performance audit of the bank by an outside agency or establishing an independent, internal group similar to the IMF's Independent Evaluation Office to gain the needed information.

While he did not go as far as Rogoff in proposing elimination of the bank's credit-granting authority, he said the bank should concentrate on impoverished countries and have an explicit deadline for them to graduate from assistance programs. Countries able to borrow in private capital markets such as China and Russia should no longer receive subsidized loans, he said.

Some of the speakers' suggestions have been supported by the Bush administration. In April, U.S. Treasury Secretary John Snow called for comprehensive reform of the IMF to enhance its core capabilities and effectiveness. Snow said the IMF must have a better system for economic surveillance that makes countries directly responsible for ensuring that their policies indeed promote growth and stability. And he said the United States favors lending conditions focused on core macroeconomic challenges and more rigorous implementation of program commitments.

(The Washington File is a product of the Bureau of International Information Programs, U.S. Department of State. Web site: http://usinfo.state.gov)

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