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Now let's look at the International Monetary Fund and the World Bank, the two leading institutions
of international development today. As previously indicated, both the International
Monetary Fund and the World Bank were created at the 1944 Bretton Woods Conference. At the
time, World War II was beginning to wind down, and the allies were anxious to create a new
international order that could rebuild Europe while also facilitating closer connections
between countries to prevent another war. The system that was created at Bretton Woods
centered on two key international institutions, underscored by the US dollar-based reserve
system discussed in the previous lecture. The International Monetary Fund would be responsible
for providing short term loans to aid countries in meeting balance of payments obligations.
The primary purpose of the organization was thus to provide fiscal and exchange rate stability
for the global economy. Today, the IMF has a total lending capacity of approximately
$360 billion. The World Bank was established to directly
aid in the reconstruction of Europe by providing long-term development loans for Member States.
As Europe rebuilt and the former colonial states began to secure their independence,
the World Bank shifted its focus to helping to achieve development in the Global South.
Today, the World Bank's official mission is to help reduce global poverty. The World Bank
has a total lending capacity of approximately $52 billion, about 1/7 that of the IMF.
Although we often talk about the World Bank as if it were a single organization, it is
in fact comprised of five distinct organizations. The International Bank for Reconstruction
and Development offers loans to middle-income developing countries, generally to fund large-scale
infrastructure projects, education, energy investments, healthcare projects, or projects
to expand access to food, water, and sanitation. Established in 1960, the International Development
Association is focused on the provision of concessional loans—loans offered at below
market interest rates—and grants to the world's poorest developing countries. The
IDA's stated mission is to assist the poorest countries to quickly, equitability, and sustainably
reducing poverty and to promoting more rapid economic growth. Loans from the IDA are often
used for programs like the provision of childhood immunizations, recruiting and training teachers,
and on constructing infrastructure like the IBRD. Ideally, as countries develop, they
are able to transition from the IDA to the IBRD.
The International Finance Corporation provides investment advice and asset management services
intended to encourage the expansion of private sector development in the Third World. While
technically a private corporation, the IFC's sole shareholders are its Member States, who
vote on the decisions of the corporation in proportion to their monetary contributions.
The IFC was established in 1956, and focuses exclusive on for-profit and commercial projects
which help reduce poverty and promote development. Its primary areas of focus include agriculture,
health and education, microfinance, and assisting small business.
The Multilateral Investment Guarantee Agency was created in 1988 to help "promote foreign
direct investment into developing countries to support economic growth, reduce poverty,
and improve people's lives." The MIGA focuses on countries that are part of the IDA and
countries that are affected by armed conflict. The MIGA encourages foreign direct investment
by providing insurance against political risk by insuring foreign investor's losses against
government expropriation, war, terrorism, and other threats of political instability.
Finally, the International Centre for Settlement of Investment Disputes was established in
1966 to provide a legal forum to resolve disputes between international investors. The ICSID
can arbitrate disputes between governments and companies in an effort to reduce the level
of political risk associated with investing in developing countries.
Both the IMF and the World Bank organizations are technically responsible to the Member
States. But this has generated some controversy. Both originations employ a weighted voting
system that gives Member States a number of votes equal to the share of the organization's
budget they provide. In the International Monetary Fund, for example,
a country's quota (think of these as dues) are determined based on the size and openness
of their economy, the degree of economic stability in the country, and the size of the country's
foreign reserves. Based on these figures, a country's quota is determined. The United
States, for example, provides about 17 percent of the IMF's total quota. This entitles the
United States to 17 percent of the votes in the IMF. The world's poorest countries, by
contrast, may have as little as 3/100 of a vote. The World Bank allocates votes through
a similar mechanism. This system has three important effects. First,
because the IMF and World Bank operate on the basis of a supermajority vote, large stakeholders
like the United States and the European Union are effectively granted a veto over any decisions
in the organization. Second, because of their historical importance
and influence, the United States and the European Union have informally divided the leadership
of the two organizations between them. By tradition, the Managing Director of the IMF
has always been a European. The position is currently held by Christine Legarde, former
Minister of Finance for France. Similarly, the President of the World Bank by tradition
has always been an American. The post is currently held by Jim Yong Kim, a Korean-American appointed
by Barack Obama to the post in 2012. Third, and perhaps most importantly, the voting
system employed in both organizations means that the countries that most often are subject
to the policies established by the organizations often have the least influence in crafting
those policies. With its 17 percent of the IMF vote, the United States has roughly three
times the influence as all 53 African members of the IMF, which collectively share just
6.78 percent of the votes, roughly the same number as Japan (with 6.53 percent of the
vote). This means that developing countries in general are less able to influence the
policies or agenda of the international financial institutions, even while they disproportionately
are affected by those policies. The International Monetary Fund's primary
purpose is to maintain currency stability and to provide assistance to states in meeting
their balance of payments obligations. When a Member State is unable to meet its international
obligations, the IMF can provide emergency loans to allow them to continue to finance
their operations. The most dramatic example of this occurs during
currency crises, such as those that occurred in Mexico in 1994, the Asian Financial Crisis
of 1997, and the Russian ruble crisis of 1998. In each of these crises, internal economic
challenges combined with external pressure—particularly in the form of financial speculation—to
spark the crisis. In the Russian crisis, for example, domestic political instability combined
with economic stagnation and a speculative attack on the Russian ruble. The Russian government
had been spending its foreign currency reserves to try and maintain the ruble in a narrow
price band, between 5.3 and 7.1 rubles to the dollar. Under this system, the Russian
government would sell rubles if the price dropped below 5.3 to the dollar, and would
buy rubles if the price exceeded 7.1 to the dollar.
Some $3.98 trillion in global currency transactions (usually abbreviated fx) take place daily.
To put that number in comparison the global annual foreign direct investment in 2011 totaled
$1.3 trillion. Three times as much money is traded on global currency markets in a single
day as flows in the form of investment between all the countries on the Earth in a year.
The total world GDP is estimated to be around $70-80 trillion.
More currency moves through global foreign exchange markets in less than a month than
is produced by the entire planet in a year! If we look at the annual rate of global currency
transactions, we see how crazy the picture becomes.
The vast majority of global currency transactions are speculative in nature; that is, investors
are betting that the value of a particularly currency will increase or decrease in the
future, and make profits from those fluctuations. Such transactions have no productive or consumptive
component; speculators are not buying or selling currencies as part of a broader economic transaction,
such investing in another country or purchasing oil on global markets. Rather, they are betting
on small changes in the value of a particular currency. While such bets provided liquidity
to the market, that is, they ensure there is a ready supply of buyers and sellers, they
also have the effect of amplifying upward and downward trends, or volatility in the
market. In other words, their activity helps to create bubbles and busts.
When speculators began selling rubles in Russia in 1998, they created a sharp downward pressure
on the value of the ruble (reflected in this chart in the upward price number, meaning
that it took more rubles to purchase one dollar). The Russian government responded by buying
rubles, selling dollars it held in reserve. As the Russian government ran out of dollars,
it was forced to turn to the IMF for additional dollars, which it used to buy rubles in an
attempt to maintain the value of its currency. However, because speculators had access to
more currency than the Russian government did, the Russian government's policy was ultimately
defeated, and the value of the ruble collapsed. At the beginning of 1998, the ruble was trading
at a rate of just under 5:1 to the US dollar. By January of 1999, it was trading at a rate
of about 15:1. But remember that Russia had sold all its
dollars, and had taken between $5 and $17 billion in additional foreign loan obligations
to defend the ruble. Like most debt taken on by the developing world, these were dollar-denominated
obligations, which meant they had to be repaid in dollars. But in an effort to maintain the
value of the ruble, the Russian government had sold the dollars and purchased rubles,
which were declining in value. By the end of the crisis, the Russian government held
billions of rubles which were worth far less than the dollars they had been purchased with.
And to make matters worse, their international debt was still priced in US dollars. They
had between $300 million and $5 billion worth of rubles, but still owed between $5 and $17
billion to international creditors. At the same time, to receive those loans,
the Russian government had to agree to undertake a series of economic and political reforms
broadly classified as Structural Adjustment Programs, or SAPs. Structural adjustment programs
were the policies required by the World Bank and the International Monetary Fund as a precondition
for the receipt of loans. Because of this, they were sometimes called "conditionalities."
In general, adjustment required the implementation of free market reforms informed by the Washington
Consensus. In 2002, structural adjustment programs were replaced with Poverty Reduction
Strategy Papers and Poverty Reduction and Growth Facilities. In theory, both were intended
to create greater buy-in and ownership on the part of developing countries in the structural
reforms required by the IFIs. They were seen, in other words, as breaking from the model
of IFI-imposed conditionalities and shifting instead to developing country-based policies.
In reality, though, very little changed, and the content of the policies continued to look
remarkably similar to the structural adjustment programs of the 1980s and 1990s.
SAPs and their successors have come under strong criticism. Many developing countries
argue that they represent the wrong policies wrongly applied. As countries liberalized,
they actually suffered declines in economic growth: Sharp cuts in government spending
disproportionately affected women, children, and the poor, as traditional state functions
like the provision of health care and education were eliminated or transferred to the private
sector. At the same time, rather than generating economic growth, structural adjustment frequently
resulted in an economic slowdown, increasing unemployment and lowering wages.
Not surprisingly, structural adjustment thus also generated considerable popular protest,
including sparking "IMF Riots" around the world. In Bolivia, for example, thousands
of people protested against sharp increases in the price of water associated with SAP-imposed
privatization. The map here provides a broad overview of anti-SAP "IMF Riots" from around
the world.