The failure of the International Monetary Fund’s latest bailout of Russia should finally put to rest the notion that foreign aid can buy free‐market reforms. The Russian crisis may also be severe enough to force Moscow to introduce reforms it was unwilling to implement under IMF programs.
The recent devaluation of the ruble reflects the loss of confidence in Russia’s reform efforts. It also reflects well‐founded expectations of future inflation — the one area of reform in which Moscow could claim some success. Those sentiments are reinforced by the grim assessment of Boris Nemtsov, a leading reformer who resigned last week from Boris Yeltsin’s Cabinet: “If Chernomyrdin says now that he can save the country, it is just a joke.” That is because he did little in the previous five years as prime minister to address Russia’s economic problems.
Nationalizing major industries, controlling prices and suspending the ruble’s convertibility, as is now being proposed by Duma members close to Mr. Chernomyrdin, will only prolong the country’s financial storm. Leaders of the Western industrialized countries concede that providing aid under such conditions is undesirable. But the pattern of IMF lending to Russia — which has helped to bring the country to crisis — shows that the aid‐for‐reform approach is also flawed.
The fund provided credit amounting to more than $20 billion in 1992, 1993, 1994, 1995 and 1996 — each time in exchange for Russian promises of reform. It is telling that the conditions of the IMF’s $11.2 billion loan, approved in July, were virtually identical to the fund’s conditionality since 1992. According to the IMF, the July loan called for reducing the fiscal deficit, addressing banking sector problems, dealing with government debt and “expanding and strengthening existing policies.” We’ve heard all of that before, so why was Stanley Fischer, the second highest ranking official at the IMF, asserting in early August that “there is certainty that the IMF measures will be implemented in full?”
The answer appears to lie in the agency’s often‐overlooked institutional incentives to lend. In practice, the fund’s money has helped to delay, rather than accelerate, reforms because it has eased Moscow’s economic problems and allowed it to forgo policy change. Liberal reformer Grigory Yavlinsky noticed as much back in 1993 when he explained, “It has become clear that new Western credits are no longer a remedy for Russia, but a drug helping to maintain an unfit system.”
Faced with a government unwilling or politically unable to stick to IMF conditionality, the fund has repeatedly suspended its loans to Moscow. On each occasion, the elimination of aid has forced Russian policymakers to become more serious about liberalization. Indeed, the IMF has time and again encouraged policy change in Russia by cutting off its credit. Unfortunately, whenever policy changes do occur, the IMF resumes its lending. The fund has simply not risked letting the world watch Russia reform without IMF intervention.
In practice, the [IMF]‘s money has helped to delay, rather than accelerate, reforms because it has eased Moscow’s economic problems and allowed it to forgo policy change. Liberal reformer Grigory Yavlinsky noticed as much back in 1993 when he explained, “It has become clear that new Western credits are no longer a remedy for Russia, but a drug helping to maintain an unfit system.”
The fund’s institutional incentive to lend explains why the agency was negotiating its latest Russian bailout in July even though Russia failed to meet the fund’s conditionality requirements on its current loan, which the fund had suspended. It helps explain, too, why Moscow, despite the best intentions of the minority of reformers in government, has never placed much credibility in the IMF’s conditionality. Mr. Fischer’s exaggerated expressions of confidence are not surprising, given his institution’s massive monetary commitment to Russia and its reflexive bias toward intervention.
Russia cannot now avoid the pain of past policy mistakes and may make things worse by turning back the clock on economic policy. But it is possible that financial turmoil will concentrate the minds of Moscow’s policymakers on introducing real reform.
Even in the aftermath of devaluation, Russia can use the market to save the ruble. For example, to meet its short‐term foreign debt obligations, Moscow can still privatize its vast state‐owned enterprises and assets. Because such privatization takes more time than Russia has to bolster confidence, Martin Feldstein of Harvard University proposes that the country issue privatization bonds that can be redeemed in the future as state‐owned assets are sold.
In addition, or as an alternative, Russia could allow the dollar to circulate legally with the ruble. Such currency competition would now surely lead Russians to choose the dollar, as many already have, and might discipline the Russian central bank to eventually produce a stable ruble.
For the transition to the market to succeed, the government must ultimately constrain its power and establish the rule of law. That process, however, requires full liberalization. In contrast to the current practice of saving bankrupt firms, Moscow must finally allow insolvent banks and other private enterprises to fail or flourish in a competitive market.
In 1994 IMF chief Michel Camdessus expressed concern about the relevance of his agency in Russia when he admitted that “there are risks in the arrangements we have made. Important risks. But we were running the risk of irrelevancy if we had waited for the moment when the situation in Russia became risk free.”
Now crisis, rather than liberalization, has made the fund’s irrelevance totally clear. It will also become clear to Russian policymakers of all stripes that the end of chaos will come only if a true market economy is allowed to emerge spontaneously without external aid.