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Wednesday, April 19, 2006

Free-Market versus Interventionist Policy at the IMF

John Taylor of "Taylor rule" fame - the rule is a useful device to describe and guide government intervention into the economy using monetary policy - worries that the IMF may decide to turn away from free-market principles and adopt a more interventionist approach:

Loan Rangers, by  By John B. Taylor, Commentary, WSJ: When finance ministers and central bank governors gather in Washington for the spring meeting of the International Monetary Fund later this week, they will be greeted with a host of new proposals for institutional change. They are being told that the IMF is in eclipse, that it needs to be revived to stave off oblivion. That's the last thing they should be worried about.

The proximate source of worry is undoubtedly the recent sharp decline in IMF loans outstanding. The IMF now has fewer loans on its books than it had before the bulge in lending that began at the time of the Mexican crisis in 1994 and lasted until 2003. ... To those who measure IMF performance in terms of volume of loans, this decline represents a depressing diminution in the effectiveness of the IMF. But if you measure performance in terms of results, the decline in loans demonstrates the success of recent IMF reforms, the greatly improved global economy and the virtual disappearance of financial crises during the last several years... Rather than wringing hands for ways to revitalize the IMF, finance ministers and central bank governors should look for ways to lock in whatever changes occurred during the last few years that wrought this improvement.

What were these changes? Most significant has been the development of a new market-based approach to sovereign debt restructuring which has reduced the need for IMF loans. ... Countries that run into difficulties servicing their debt now have an alternative to either coming to the IMF or going into a potentially destructive default...

This new orderly approach to restructuring paved the way for the second big change: placing credible limits on loan size and saying no when requests exceed limits. ... A third change that reduces IMF loans is a new non-lending program ... which enables the IMF to engage with a country and help monitor its benchmarks for money growth or government debt without making loans. ... The effectiveness of the IMF is likely to be better with this approach than if it had actually made a loan. Finally, in September 2005 the IMF agreed to cancel 100% of loans it had made to very poor indebted countries...

There are many proposals now on the table. A common theme, unfortunately, is new ways for the IMF to intervene in the markets. ... We should steer clear of a new interventionism and instead concentrate on improving the IMF's new advisory role: giving sound pro-growth recommendations (including marginal tax rate reductions), providing a forum for candid discussions, and encouraging participation by all shareholders. ...

There is a new virtuous circle here: The IMF has intervened in fewer crises in part because there are fewer crises to intervene in. And there have been fewer crises in part because of the expectation that the IMF will intervene less: Anticipating fewer large-scale loans from the IMF, countries have built up reserves and greatly improved monetary and fiscal policies. Let's not break that circle and go back to the bad old days.

Update: Brad Setser takes issue with some of Taylor's claims.

    Posted by on Wednesday, April 19, 2006 at 12:43 AM in Economics, Financial System, Market Failure, Policy, Regulation | Permalink  TrackBack (0)  Comments (4)

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