THE IMF SHOULD LOOK FORWARD, NOT BACK
For a lesson in survival, there's nothing like a bureaucracy in search of a mission. When the Salk vaccine wiped out polio in the 1950s, the March of Dimes--founded to combat the dread childhood disease--didn't simply fold its tents. Instead, it went looking for new diseases to conquer. Today, an expanded March raises money to fight birth defects.
Similarly, the International Monetary Fund didn't just wither away in 1973 when its purpose--administering the system of rigid currency controls--was abandoned along with the gold standard. Instead, the IMF assumed a "surveillance" role in the currency markets and began duplicating functions of its sister agency, the World Bank. Now, approaching its annual meeting in October in Madrid, the IMF is trying to reinvent itself with a return to tighter controls on the international currency markets.
That's a bad idea. There is nothing wrong with the $1 trillion-a-day currency-exchange system that could be fixed by a secretive group of experts beyond the reach of voters and the discipline of the marketplace. In fact, it's only by coincidence that the issue of a new role for the IMF is being raised. Washington considered the 50th anniversary of the conference at Bretton Woods--which created the IMF and the World Bank--far too momentous an occasion to ignore. So a blue-ribbon commission of international financiers was established to reexamine the IMF's function. Headed by former Federal Reserve Chairman Paul A. Volcker, the group came to this conclusion: "The IMF should be given a central role" in persuading governments to "achieve greater economic convergence...In time, the system might include commitments to flexible exchange rate bands."
Relative currency stability may be a worthwhile goal. But returning the IMF to its initial role is neither possible nor desirable. Today, computers trade billions of dollars at the speed of light, with currency prices determined by supply and demand. The resulting volatility may give long-term business planners headaches, but it arguably reflects the fair value of nations' legal tender based on the fundamentals of growth, inflation, and interest rates. The IMF "is really a dinosaur from World War II, when it looked like international institutions were necessary to make sure the world didn't fall back into chaos," says Judy Shelton, a senior research fellow at the Hoover Institution.
That assessment is on the harsh side. After all, the IMF has successfully helped to deal with a variety of international financial crises, from the collapse of the European colonial system to the oil shocks of the 1970s and the Third World debt crisis of the 1980s. The IMF is still needed to provide short-term financing to governments struggling to pay current-account debts. And its experts are helpful in establishing free markets in Eastern Europe.
UNSUSTAINABLE COURSE. Yet, with the dollar floating in cyberspace, and the yen and mark growing as world reserve currencies, volatility, uncertainty, and speculation have become facts of life (chart). The days when institutions could have anything more than a short-term effect on currency values are long gone. Nor would returning to a system of fixed rates necessarily be an improvement. "If you get the exchange rate wrong, then you are going to run into enormous trouble," warns economist John Williamson at Washington's Institute for International Economics.
Unwieldy as it may be, the modern currency market exerts its own discipline on governments by punishing them for foolhardy policy decisions. For example, it may be Japanese policy to consistently run a current-account surplus with the U.S. and the rest of the world. But doing so in the face of a relentlessly strengthening yen that makes Japanese exports ever more expensive is an unsustainable course. Eventually, export volume will fall fast enough to cut the yen value of overseas sales. Similarly, if the Clinton Administration continues to rely on a weakening dollar to discipline the Japanese, the U.S. economy will suffer from higher inflation and interest rates.
Even the IMF hasn't managed to persuade industrialized nations to institute such reforms as trimming budget deficits or adjusting interest rates. Rampaging inflation or market crashes capture government policymakers' attention much faster. And lately, the IMF's Dutch uncle role has largely been assumed by the Group of Seven summit--the annual meeting of leaders from the world's biggest industrialized nations. Presidents and prime ministers, it turns out, are far better at determining what reforms their countries are able to undertake and what actions domestic politics rules out. Thus, one sensible mission for the IMF would be to serve as a permanent staff for the G-7. "The IMF is filled with very smart technocrats who are not in a position to make overriding political judgments," says Harvard University economist Richard N. Cooper.
Even with the end of the cold war, the triumph of capitalism, and the death of currency controls, the IMF has work to do. And unlike the March of Dimes, the fund shouldn't be looking for new monetary diseases. Currency volatility is the price of a free market, not a condition to be cured.Commentary/by Paul Magnusson