Sunday, October 04, 2009

IMF, Lender of Last Resort

Wall Street Journal: Focus: IMF Stakes Claim To Be Everybody's Central Bank
IMF: Special Drawing Rights (SDRs)
IMF: IMF Chief Puts Focus on Building Stable Post-Crisis World

In response to the G-20's expectation that the International Monetary Fund (IMF) will play a role in promoting global financial stability and rebalancing growth, the IMF Managing Director, Dominique Strauss-Kahn, says that the world needs to find ways to move beyond the costly boom and bust cycles that have been seen in recent decades. For instance, allowing emerging markets to stock up on foreign reserves contributes to the instability of the world economy. The global imbalances cause damaging consequences for the sustainability of economic growth and the stability of the international monetary system.

The IMF has the potential to be a so-called provider of insurance to the emerging economies in order to prevent damage by emerging economies’ strategy of using currency as self-insurance. Strauss-Kahn said that the international monetary system must be more stable and anchored by a global lender of last resort. If the IMF provides credible insurance, the fears of sudden stops in private capital flows that spurred many emerging economies to self-insure could be eased.

At a press conference in Istanbul, October 2, Strauss-Kahn said the IMF would look into suggestions that the financial sector should contribute to a type of insurance scheme to cover the risks that the financial sector creates for low-income countries. He said that the financial sector is creating a lot of systemic risk for the global economy and such a sector should pay some part of its resources to help mitigate the risks that they are creating. John Lipsky, the IMF’s First Deputy Managing Director, will be preparing a report for the G-20 on the issue. Lipsky claims that the financial sector insurance proposal would be comparable to the American Federal Insurance Deposit Insurance Corporation (F.D.I.C.), which is funded by insured banks.

Strauss-Kahn said the IMF should not be designated as a global regulator of the banking system. He recognized that the task instead fits the newly created Financial Stability Board. Questions arise as to whether the Special Drawing Rights – the international reserve asset issued by the IMF – would become equal to a tradable debt security that the IMF could use in its own version of money-market operations. Another question is how the IMF’s balance sheet would be guaranteed because it lacks the taxing authority of sovereign governments.

1. Does it make sense to have the IMF act as an insurer against sudden stops in private capital flows to emerging economies?
2. How should the IMF finance such an insurance program? Do you think taxing the financial sector is a credible way to finance this insurance scheme?

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