In 2018, Argentina received a loan package of $57.1bn, the biggest in the history of the International Monetary Fund (IMF.) It was aimed to recover the peso and from a state of recession. Also, Ecuador obtained a $10.2 billion finance deal intended to stabilize the economy and help to pay its debts. However, in recent months the Argentinian peso does not seem to recover and inflation rates remain high. While Ecuador’s fiscal budget suffered from several cuts for this year.
The International Monetary Fund (IMF) is an organization of 189 states established by the Bretton Woods agreement in 1944. In the beginning, It was set up with the intention of overseeing the newly established monetary order formed in the agreement. Member countries’ currencies were pegged to the US dollar, which served as the central currency. With the dollar supply limited by the gold reserves of the US, this new monetary system was based on the gold exchange standard. However, the IMF became an ineffective body with the collapse of the Bretton Woods system in the 70s. Then onwards, the IMF increasingly focused on lending to developing states to prevent financial crises.
Nowadays, its chief purpose is to ensure the international monetary and financial system stability. The IMF is responsible for managing financial crises and guarantees national or regional crises to not develop into global instability. In order to achieve its objectives, the UN organization carries out three main actions: surveillance, technical assistance and training, and lending.
Conditions of the IMF’s loans
One of the most controversial aspects of the IMF is its functionality as lender due to the conditionalities attached to the loans. The IMF does not require collateral from borrower countries in exchange the provided liquidity, but to adopt fiscal reforms called as the ‘structural adjustment programmes’. The last is linked with economic theory in its majority shaped by the monetary approach to the balance of payments.
Among the general conditionalities for the structural adjustment, the IMF requires states to implement austerity to reduce government budget deficits. These policies include cutting government expenditure and/or raising taxation. However, contractionary policies generally bring economic growth down. Governments cut unemployment benefits, subsidies on health-care and education, salaries and numerous social programmes which disproportionately affects low-income households. Moreover, tax reforms typically include raising income taxes and value-added taxes. Tax increases can reduce consumption by cutting household disposable income. Next, as the effect of a multiplier, the reduction of consumption may slow down the economy. For example, Ecuador is considering to extend the eligibility age for retirement and remove health care benefits after the loan agreement with the IMF. Statistics and public perception show increments in poverty and unemployment.
Immediate economic liberalization is another typical condition to be attained. The primary goal is the removal of barriers in trade and capital flows. Governments have to relax their control over many aspects of the economy to encourage private ownership and shrink state ownership. Also, protectionist policies like tariffs or quotas should be removed. In the case of private-owned sector increases, developing countries are severely affected due to dependency on industries like public health, public education, transportation and telecommunications. On one hand, the free capital flow may bring positive outcomes increasing investment. But on the other, free trade may harm the developing economies because of the low comparative advantage relative to powerful economies.
A clear example of the adverse effects of these conditions is, Greece. Despite being bailed out several times by the IMF and the European Union, its situation did not seem to progress. The Greek economy is 25% smaller relative to when the crisis began.
Besides, the loans provided by the organization may encourage member countries to pursue irresponsible domestic economic policies. Countries anticipate that if needed, the IMF will bail them out. Having this safety net delays the correct management of reforms and creates long-term dependency. Through history, the International Monetary fund has acted as the lender of last resort. During the financial crisis in 2008, the IMF, jointly with governments of various involved countries, bailed out the baking and financial system. Then, the too big to fail is applied because the great part of the system is owned by international bankers who have made bad loans are still willing to take riskier international investments.
Additionally, many critics argue that the fund serves the interest of dominant (western) economies due to the allocation of voting rights on the IMF board of governors, which is in line with the size of economies. Consequently, big economies, like the United States, have an effective veto.
The standard loan conditions reduce economic growth and deepen and prolong financial crises, creating severe hardships for the poorest people in borrowing countries and strengthening local opposition to the IMF. Welfare provision gets difficult to allocate and create a destabilising impact. Furthermore, poor and vulnerable countries are more probable to accept these reforms.
Countries with loans from the International Monetary Fund may suffer a prolonged crisis. The IMF should take into consideration the different circumstances of each country, instead of a uniform reform programme. On top of that, many countries should consider knocking on the IMF’s door as the empirical studies show it leads to public spending cuts and falling living standards.