Commentary

When the IMF Extends an Embrace

This article was published in the Washington Times, September 29, 2002.

Thousands of frenzied demonstrators tried to bring traffic to a halt in Washington, D.C., last week. That was inexcusable trespassing, yet it provoked mixed emotions. For one thing, anything that slows the federal government is generally a good thing. For another, these rowdies focused their ire on the International Monetary Fund (IMF) — an admittedly tempting target.

The world might be a far more pleasant place if someone would fire the IMF’s 2,600 overpaid workers and convert their imposing office buildings into a gigantic shopping mall.

The IMF appointed itself economic central planner for the world, devoted to righting what it calls “imbalances.” During the economic flare-ups that always astonish them, however, IMF firefighters have an unfortunate tendency to try extinguishing the fire with gasoline.

In 1997 and 1998, there were many gloomy forecasts that it would take decades for those economies to recover. Yet Asia and Russia rebounded quickly and vigorously, despite some foolish outside meddling (such as the IMF demanding higher taxes in Thailand). Countries that refused IMF loans and policies, such as Malaysia, bounced back as well as those who sipped the evil brew.

Crises have always been temporary, which allows IMF spokesmen to claim credit for the upturns and never for the downturns. On closer inspection, that ends up being the opposite of what really happened. I surveyed the IMF track record through the early 1990s in a chapter in “Money and the Nation State,” a 1998 volume edited by Kevin Dowd and Richard Timberlake. I found that IMF requirements to raise taxes and debauch the currency had always contributed to crises, while policies that lifted countries out of crises — and even created “economic miracles” — were always home-grown.

The IMF mandated massive currency devaluations and higher taxes and tariffs for South Korea in 1980, Chile and Mauritius in 1982, and Jamaica in 1978 and 1983. In every case, the predictable result was a deep collapse in production and employment, and a huge increase in inflation. South Korea’s economy, for example, shrank by 5 percent in 1980 and inflation jumped to 35 percent. The IMF proudly points out that trade deficits did, however, “improve” — which merely proves that devastated economies cannot afford even essential imports.

Once free of the IMF’s python-like embrace, reformed IMF victims often adopt the exact opposite policies. In 1982, South Korea slashed its highest income tax rate by 19 percentage points, later cutting that tax rate in half. In 1983, Mauritius cut the top tax from 70 percent to 35 percent. In 1985, Chile slashed its top tax from 65 percent to 35 percent, massively reduced tariffs and corporate taxes, and eliminated Social Security taxes through privatization. In 1986, Jamaica cut its top tax rate from 58 percent to 33 percent. In 1999, Malaysia suspended income tax altogether. In 2001, Russia adopted a 13 percent flat tax.

Today, IMF policies continue to bring great pain, and relief still comes only if and when those policies are discarded. Argentina appeased the IMF by enacting sizable tax increases every year from 1998 through 2001, then it robbed its citizens last January by abandoning a promise to convert pesos to dollars, 1-for-1. The results of rising taxes and falling money are now painfully obvious.

Russia was under the IMF’s thumb from 1992 through 2000, with the customary disastrous effects. On July 16, 1998, Russia promised the IMF that “the federal government budget will target a primary surplus of at least 3 percent of GDP on the strength of tax policy measures” (including a new 5 percent sales tax and a 3 percent surcharge on tariffs). That pitiful economic suicide note succeeded in attracting another $21 billion of foreign loans, mostly from the IMF, but also in provoking a mass exodus of capital that pushed Russia into default and devaluation four weeks later. The economy shrank 5 percent.

Once free from the IMF program, however, the Putin government pulled Russia out of the IMF’s suffocating squeeze. In 2001, Russia enacted a 13 percent flat tax on individual income (down from 30 percent), cut the corporate profits tax from 35 to 24 percent and cut payroll taxes by 4 points. With more incentive to work and less to evade taxes, the IMF reluctantly acknowledges that “tax performance has exceeded expectations across the board.” For the past two years, Russia also enjoyed the world’s largest stock market gains.

Countries with too much debt and too little income do not need more IMF debt, and they do not need the lower income that follows IMF austerity schemes. Their companies and workers should be encouraged to produce more income, not less. And when it comes to debt, they need workouts, not bailouts.

IMF bailouts just make local politicians and their foreign bankers more careless, guaranteeing more trouble ahead. If the IMF has any legitimate role to play in preventing or fixing economic crises, it has yet to be demonstrated in practice.

Alan Reynolds is a senior fellow with the Cato Institute and a nationally syndicated columnist.