Regime Change?

This article appeared in Forbes, June 5, 2006.

In the months before the meetings of the internationalMonetary Fund and World Bank in April, the IMFappeared to be in its twilight. Since the Turkish lira collapsedin 2000, there has been a dearth of financial crises(for the IMF to “manage”) and of countries to shower withcheap loans. Also, IMF borrowers from past crises — includingRussia, Argentina and Brazil — have repaid their loans ahead ofschedule. The IMF’s loan portfolio and operating income areshrinking. By its own estimates, the IMF will sustain operatinglosses of $600 million over the next three years.

But governmental organizations never get the ax for operatinglosses. They don’t even die in their sleep. They claim newpurposes for themselves and flourish. Just look at the IMF. It wasestablished as part of the 1944 Bretton Woods Agreement andwas primarily responsible for extending short‐​term, subsidizedcredit to countries experiencing balance‐​of‐​payments problemsunder the postwar pegged exchange‐​rate system. In 1971, whenPresident Richard Nixon closed the gold window, he signaled thecollapse of the Bretton Woods Agreement — and, presumably, thedemise of the IMF’s original purpose. But since then the IMF hasused every so‐​called crisis to expand its scope and scale.

The oil crises of the 1970s allowed the institution to reinventitself. Those shocks required more IMF lending to facilitate — yes,balance-of-payments adjustments. And more lending there was:In real terms IMF lending more than doubled from 1970 to 1975and increased by 58% from 1975 to 1982.

With the election of Ronald Reagan in 1980 it appeared thatthe IMF’s crisis‐​driven opportunism would finally be reined in.Yet with the onset of the Mexican debt crisis more IMF lendingwas required “to prevent debt crises and bank failures.” Thatrationale was used by none other than President Reagan, whopersonally lobbied 400 out of 435 congressmen to obtainapproval for a U.S. quota (capital contribution) increase for theIMF. IMF lending ratcheted up again, increasing 27% in realterms during Reagan’s first term in office.

And then came the 1990s, an explosivegrowth decade for the IMF. Currency crises inMexico, Russia, Turkey, Brazil, Argentina and Asia expanded the IMF’s balance sheet, enhanced its clout andguaranteed full employment for its bureaucrats.

However, by late 2005 the IMF appeared to be in troubleagain. The U.S., which is the IMF’s biggest shareholder, was complainingthat IMF Managing Director Rodrigo de Rato wasderelict in not labeling China a currency manipulator. The BushAdministration started a whispering operation, implying that DeRato, a former Spanish finance minister, didn’t have the “rightstuff ” for IMF’s top job. In addition, the Bush Administrationbegan a diplomatic campaign to turn other industrialized countriesagainst China’s “fixed” exchange‐​rate regime.

This strategy worked. On Apr. 21 theG‑7 finance ministers and central bank governorsissued a communiqué. For the first time,the Gang of Seven singled out China and itsexchange‐​rate regime for criticism. Accordingto the G‑7 countries, China must part ways with its “fixed“exchange-rate setup and allow the yuan to float. Even thoughthe “fixed” yuan/​dollar system has contributed mightily toChina’s stellar economic performancefor over a decade,the Gang claims that China’sexchange rate is contributingto dangerous global imbal​ances​.To help find a solutionto this so‐​called problem, theIMF was given a new mandate:to start immediate negotiationsbetween countries with thelargest trade imbalances (read:the U.S. and China) with thegoal of reducing the imbalances(read: raising the value ofthe Chinese yuan from 12cents to a much larger sum).

This amazing turn of eventswould have come as no surpriseto the British historian C. Northcote Parkinson. His 1957 classic,Parkinson’s Law, concludes that when the job for which a bureaucracywas organized changes or disappears, the industriousbureaucrats will find new work to do.

Meddling in China’s successful economy and pleasing theIMF’s largest shareholder certainly qualify as hard work. But if DeRato can’t fend off the meddlers, one should hope that Chinastands its ground. China should not forget how the IMF aggravatedthe Asian currency crisis nine years ago by demanding thatthe Indonesian rupiah float. And float it did — downward. Beijingshould also not forget former U.S. Secretary of State LawrenceEagleburger’s assessment of the ensuing political regime changein Indonesia: “We [the U.S. government] were fairly clever in thatwe supported the IMF as it overthrew [Suharto].”